March 5, 2003 Federal Reserve Districts Eleventh District--Dallas

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From early January through mid-February, overall Eleventh District economic activity exhibited signs of inertia. Manufacturing activity remained lackluster. Service sector activity was mixed, with signs of a pickup in some industries and severe financial problems in others. Retail sales remain weak, and there is still little change in the financial services industry. Construction and real estate markets continued to decline. Energy activity picked up only mildly, despite a sharp increase in prices. Overall agricultural conditions were good. Geopolitical uncertainties still dampen consumer and business confidence. High energy prices also weigh heavily on the outlook for some industries. Hiring is minimal, according to contacts who say investments are on hold until questions surrounding the war are resolved. Contacts report that concerns about terrorism seem to be distracting attention from normal business. Prices Oil prices climbed sharply in recent weeks, pushed up by continued global uncertainties in Iraq and Venezuela, along with freezing cold weather in the midwestern and northeastern United States. The prices of heating oil and gasoline have followed crude oil upward. Gasoline prices at the pump reached the highest February level on record. High gasoline prices are expected to persist into the summer; refiners would normally be building inventories of gasoline now but currently do not have the crude available to do so. Cold weather and rising crude oil prices also pushed natural gas prices upward. Several waves of bitter weather have pulled natural gas inventories down 20 percent below year-earlier levels, and raised concerns about their adequacy to deal with a late winter blast of cold weather. Propane prices have risen along with natural gas--reaching the highest level in 13 years. Higher energy prices have pushed up chemical and plastic prices. Healthy demand for housing is driving price increases for chlorine and polyvinyl chloride (PVC). Rising cost pressures--particularly from energy, shipping, and insurance--were noted by most industries. A few firms were able to pass along price increases, but international competition and overcapacity is making that difficult for most manufacturers and retailers. Some contacts suggest that energy price increases will be passed onto consumers if they persist. A few firms expressed concern about how long they could operate if energy costs remain elevated. Manufacturing Manufacturing activity remained lackluster overall. While there were some signs of pickup in the high-tech industry, demand for construction-related materials is waning. Import competition is reducing sales for some manufacturers. Demand for fabricated metals was flat in January and February, and producers were guarded about the outlook for activity over the next year. Sales of primary metals picked up in January but then fell in February. Producers say that sales are slower than a year ago. Metals producers reported some increases in selling prices, partially passing along rising costs for scrap metal and reinforcing steel. Producers of stone, clay, and glass were surprised by better-than-expected demand over the past two months, but expressed increased uncertainty about the outlook. Paper and lumber producers report soft sales during the same period, partly because of import competition. Paper producers expect little change in sales growth because international competitors are absorbing market share, especially China. Demand for apparel products is up. Production of private label apparel is increasing, according to contacts who say that selling prices continue to decline, even as energy prices are pushing up production costs of petroleum based fabrics. The high-tech industry reported a slight pickup in sales since the last survey. One source of moderate improvement has been increasing orders from businesses for replacement hardware such as routers, computers, and monitors. One respondent noted that this might be the beginning of a replacement cycle; businesses remain conservative, but after so little spending in the past couple of years, feel the need to replace old equipment. Consumers continue to buy video and computer gaming systems and products, and there has been a pickup in demand for high-definition TVs and flash memory. Inventories remain very low. There is still too much capacity in the telecommunications industry, although there has been some pickup in demand for mobile phones and other consumer products. Contacts say the recent FCC decision has delayed a potential stimulus for capital investment in the industry, dampening the outlook for telecommunication equipment firms. Refinery utilization on the Gulf Coast, which was running at about 95 percent in early December, fell to the mid-80 percent level as Venezuelan crude oil shipments were disrupted. Utilization improved slowly in early February. There have been sharp reductions in both crude and product inventories, with crude inventories 25 percent below last year and near critical levels needed to maintain normal operation of the refinery system. Demand for petrochemicals has been generally weak over the past two months, but is still up 5 percent to 6 percent above last year. One exception is PVC, where demand has been very strong to supply the housing market and Asia. Services Some service firms report a pickup in activity while others fight for survival. Temporary staffing firms reported a pickup in demand over the last two months. Activity is strongest to supply administrative support, light industrial, and some professional and technical areas. Salaries are down from the levels of a year ago. Rail shipments are up over last year, with substantial increases in the shipments of metallic ores and metals. Demand for legal services remains steady, particularly for litigation, bankruptcy, labor, and regulatory work. Real estate and lending activity are still quiet, but there are some signs of a pickup for transactional and venture capital activity. Legal contacts say activity will remain flat to moderate until corporate confidence improves. Demand for accounting and consulting activity remains solid, partly because firms continue to benefit from the Anderson fallout. The Sarbanes-Oxley bill is boosting demand for risk management and audit work. Many small businesses are struggling, particularly those that supply the high-tech industry, and contacts say there is a huge shake out going on. One company is requiring cash up front for new business because they have depleted all reserves. This firm said they are reinventing their company regularly to find new ways to support their customers. The airline industry remains in a tailspin. Demand for air travel continues to be extremely price sensitive, and already strapped carriers are having difficulty passing higher fuel costs on to passengers. The snowstorm on the East Coast added another financial blow. A significant drop in aircraft values has tightened the availability of credit for airlines. Retail Sales Retail sales continued to be weak. Although the District did not have the weather-related disruptions that occurred in other parts of the country, retailers were still generally disappointed with sales. Consumer confidence remains low, they say, and retailers are being cautious about the outlook. Contacts said that retailers are not increasing inventories and are looking for other cost-cutting measures to keep as much cash--and as much flexibility--as possible moving forward. Auto sales are down from a year ago. Dealers say that many potential buyers do not have good credit and others are waiting to buy due to geopolitical and economic uncertainty. Large rebates and low interest rate offers seem to be having less of an impact than they once did. Financial Services Overall lending activity continues to be stable. Real estate lending remains the strongest category, mostly for refinancing. Auto lending has dropped off since January. A few contacts reported that the quality of new loan applications has declined a bit, and there were some indications of tighter credit standards in the C&I area. Deposit growth remains strong. Construction and Real Estate Construction and real estate conditions continued to decline. Commercial markets are weak. Building acquisitions continue, but leasing activity is very soft, and rents are falling. Office landlords are offering numerous incentives to keep tenants and to get them to take more space. Vacancies are rising, and one contact noted that owners are obtaining reappraisals when vacancies occur, reducing their tax liability. Single family activity remains soft, with numerous foreclosures, particularly in the Dallas-Fort Worth area. Although activity is still moderately strong in the market's low end, several contacts mentioned a lack of "urgency" among buyers. Builders report an increase in incentives and downward pressure on home prices. Energy The domestic rig count moved over 900 for the first time since late 2001, which contacts say is a nice increase but not a discernable trend. The energy industry is not responding to much stronger prices because they view the increases as temporary and lack the trained workers to respond right away. The additional domestic projects are not very complex--oil-directed, vertical wells and on-shore. Oil service and equipment companies report that these simple drilling projects have not yet resulted in a perceptible increase in orders. The pickup in domestic activity is not offsetting a decline in international drilling. Agriculture Regular precipitation across the District has helped conditions overall. The livestock market conditions remain favorable. Grain prices are still low, and cattle prices are up 37 percent from last fall. Texas reported record cotton yields for 2002, up 10 percent over 2001. Rice production continues to decline, however, and contacts say "even the most efficient" dairies are doing poorly. Return to top Kansas City San Francisco