Eleventh District economic activity grew very slowly in June and the first half of July. Caution is percolating through the economy, with respondents expressing concern about the stock market, recent corporate scandals, and terrorism. Several contacts said their firms have customers who are interested in doing business--are financially ready to do deals--but need more confidence to go forward. Manufacturing and service sector activity was expanding slowly. Retail sales were weak, and construction and real estate activity remained soft. Energy activity flattened, after having increased strongly in the spring. Contacts in the financial services industry said consumer lending was showing signs of softening. Heavy rain improved agricultural conditions.
Prices and Labor Markets
Most contacts reported little price pressure, and that inventories of most goods were at desired levels. High insurance costs continue to be reported as a widespread concern. Crude oil prices hovered between $24 and $26 per barrel in June and the first half of July. Although wholesale prices for gasoline are about seven cents per gallon higher than a year ago, gasoline consumption is up about 1 percent above last year's levels. Although demand has strengthened, inventories of gasoline are high because the warm winter led to a buildup of heating oil inventories, which encouraged refiners to turn to gasoline production early this year. Natural gas prices continued to drift down in recent weeks pulled down by inventories that are nearly 20 percent above the five-year average. Barring unusually hot weather, natural gas inventories are on course to reach record levels by late summer. Prices are up for basic petrochemicals, such as ethylene, propylene and styrene, and for plastics, such as polyethylene, polypropylene, polystyrene and PVC. Contacts were uncertain if recent price increases were sustainable for petrochemicals because it is unclear if the price increases were the result of improved fundamentals or high levels of plant outages. Paper producers say prices are up for all types of products, partly because of higher prices for plastics.
Most industries reported little change in labor markets. The temporary service industry said that wages are flat to declining, and competition is pushing down fees as much as 15 percent. High tech firms reported that, while the market for programmers and other employees has loosened substantially, the job market for engineers is very tight, and employees are no longer willing to accept stock as compensation.
Manufacturing activity continued to expand weakly. Contacts said that the high tech industry is clearly at the bottom, but the speed of the recovery differs by product. While telecommunications firms generally believe the worst is over, contacts reported no signs of improvement--particularly for wired devices--and expect to bump along the bottom for a while. Demand for wireless devices and consumer electronics is up, although computer sales have been weak. The semiconductor industry is clearly in recovery, according to contacts, who said that sales growth is expected to be positive by the end of summer and typically rebounds quickly. Demand for chips to supply consumer electronics, wireless communications equipment, and automobiles is rising, both because demand for those products is increasing but also because more chips are going into each product.
Demand for construction-related materials was mixed. Cement activity was slow due to heavy rains, but contacts expect demand to pick back up soon. Demand for fabricated metal also softened over the past month. Sales were up for clay and brick, with strong demand for residential and government building. Lumber and glass producers reported little change in sales. Demand for primary metals has been improving slightly according to contacts, who say activity is stronger than a year ago. Steel sales have picked up the strongest, thanks to tariff protection.
Demand is up for plastic products. In contrast, refineries reduced capacity utilization to control stocks, which are high. Refiners' margins have improved from the weak levels of this winter but are still well below normal.
Sales of food and apparel products were up. Paper producers say demand has been slowing over the past few months, and customers are reluctant to buy anything other than what is necessary.
Service sector activity continued to slowly improve. Temporary service firms say demand is up considerably from a year ago. Activity is strengthening to supply light manufacturing and distribution and call centers, but demand from the financial and IT sectors remained weak. Temporary firms said that intense competition is keeping profits down despite increased activity. Law firms reported that litigation and bankruptcy activity remained strong, and there are signs of a slight pick up in some other areas. But corporate and transactions work remained slow. Accounting firms reported a pickup in audit work and an increase in customers as a result of the collapse of Andersen. In their view, many clients are unprofitable, and business in mergers and transactions is weak.
Railroads reported a general pickup in activity, although construction shipments have been weak. Trucking shipments have been weak, particularly of construction materials. Demand for air travel remains weak, and some airlines continue to report double-digit declines in passenger loads in comparison with last year, which has led to large revenue shortfalls. Further employment cuts are expected. Contacts say government guarantees are distorting the industry because they are keeping the less efficient airlines alive.
Retail sales were soft in June and the first half of July. Intense competition has led to a struggle for market share. Inventories are in good shape, according to most contacts, who say that they do not expect a lot of promotions to reduce stock. Retailers reported that consumers are buying only what they need and see no signs that spending will pick up. Some firms are reducing purchases because sales have been below expectations. Auto sales picked up strongly in Houston and less so in the rest of the state. Dealers credited financing incentives and said that price competition is intense.
Deposits increased moderately despite declining deposit interest rates, which contacts attribute to uncertainty about financial markets. Lending activity was mostly unchanged, but consumer lending--which has been the strongest category--is showing signs of slowing. Commercial and industrial lending remained weak, and market-related activities, such as mergers and acquisitions, continued their strong negative trend. Contacts were less optimistic about the outlook than they have been for many months.
Construction and Real Estate
Construction and real estate activity remained soft. Office markets continued to flounder, with weak leasing demand and several large corporations looking to unload properties. Contacts in Houston said that uncertainty has led some tenants to limit lease renewals to one year. Office rents in the previously "hot" areas of Dallas have dropped 50 percent from a year ago. Residential markets have been mostly unchanged. Low-priced homes still fare the best, but builders reported that competition is stiff and price concessions are deep. Contacts said that money is available for investment opportunities because recent losses in equity markets have boosted the attractiveness of real estate investments.
Drilling activity leveled out in June and early July after several weeks of solid improvement. Activity at large energy firms has continued at roughly the same pace, but smaller independent firms have pulled back in recent weeks, cautious about high inventories and slower than anticipated demand for oil and natural gas. Despite improvements earlier in the year, energy service firms report that the industry is very competitive and that there is no pricing power.
Heavy rainfall improved crop growth and livestock conditions in most areas, greening up pastures and replenishing reservoirs. While the rains caused severe flooding with crop and livestock losses in some parts, dry conditions remain a concern in parts of South and West Texas. Corn, grain and cotton prices were up, while cattle prices fell. Contacts are optimistic that recent exchange rate changes should help exports.