It's true: The U.S. economy is now largely services-based, and its glitzy tech sector trumpets to the world the economy's innovative, lifestyle-altering dimension.

But as far as institutional investors are concerned, the bedrock of the economy remains the industrial sector. Or, as the late Oppenheimer & Co. chief investment strategist Michael Metz aptly put it, "It is called the Dow Jones Industrial Average, not the semiconductor average."

On that score, the economy continued to give Wall Street a reason to remain cautiously optimistic in April, as industrial production rose 0.8%, with manufacturing increasing 1%, according to U.S. Federal Reserve data.

Even better, over the past 12 months industrial production -- output from manufacturing, mining and utilities -- has now increased 5.2%, with the manufacturing component rising 6% during during that time.

That investors are cautiously optimistic but not yet ebullient about industrial production is understandable. The recession that began in December 2007 triggered the worst industrial contraction in the United States since the end of World War II, and industrial production is still 9% below the peak reached during the recession's first month.

And capacity utilization, a measure of the percentage of industrial facilities in use, also rose again, to 73.7% in April from 73.1% in March, but that's still 6.9 percentage points below its average for 1972-2009, the Fed said.

Capacity Utilization: An Economic Thermometer

In a sense, the capacity utilization statistic is a thermometer that measures the temperature of the U.S. economy. The Fed and economists never expect the reading to hit 100% -- that would mean all factories are producing at at their maximum, 24 hours a day -- hardly a sustainable situation. Rather, readings in the 80% to 85% range are normal during expansions. For example, during the "Roaring '90s," capacity utilization remained above 80% for almost the entire expansion. With that as a reference point, the low level of capacity utilization today is unmistakable and telling.

True, capacity utilization has rebounded recently from the recession low of 68.2% recorded in June 2009, but it's still only slightly above the previous record low of 70.9% that was set in 1982, during the severe 1982-1983 recession. In other words, the economy's industrial sector is still operating well below its potential.

Further, investors should not expect business executives or economists to gain confidence in the sustainability of the recovery without continued increases in industrial production and capacity utilization. Although it's theoretically possible for the economy to grow for years while experiencing only tepid growth in industrial activity, historically, a strong industrial sector has accompanied every robust U.S. economic expansion.

And it's easy to understand why: Manufacturing jobs usually pay higher wages than most service sector jobs. That higher relative pay leads to rising incomes and higher disposable income, and that creates the rising demand that can be the foundation for a sustained economic expansion, and enduring stock market gains.

The incisive Mr. Metz was right: There's a reason the Dow has the word 'industrial' in it.

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