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Economic activity in the Seventh District continued to expand at a moderate pace during August and September. Consumer spending continued to increase modestly,
and business spending and hiring expanded at a gradual pace. Both residential and commercial construction and real estate activity strengthened. The manufacturing sector expanded again, though some firms in the District experienced minor supply chain disruptions related to Hurricane Katrina. Mortgage demand was flat to down, while commercial lending activity grew at a slower pace than earlier in the year. Cost and price pressures firmed on balance in August and September. Corn and soybean prices fell because yields were higher than expected and Hurricane Katrina disrupted the transportation of grain for export.
Consumer spending continued to increase modestly in August and September, though retailers reported that the pace of sales in the Midwest generally lagged that of the nation. Contacts believed the effects of higher fuel prices have been limited thus far. However, several expressed concerns that energy costs would weigh more on spending during the winter, particularly by low-income and rural consumers who spend a greater portion of their income on energy. Michigan retailers' plans for holiday-season ordering were on par or down slightly when compared with last year. Most District auto dealers reported further declines in sales. A national restaurant chain reported that demand in the Midwest was softening. Tourism spending continued to increase.
Business spending and hiring continued to expand at a gradual pace. Firms in a wide range of industries--including telecommunications, food services, health care, and pharmaceuticals--planned to increase capital spending. There were limited reports of firms boosting investment to improve their energy efficiency. One transportation firm scaled back its planned increase in capital spending due to higher fuel costs. Business air travel continued to expand steadily on both domestic and international routes. Increased hiring was reported by firms in the chemical, software, telecommunications, furniture, food services, and banking sectors; in contrast, layoffs were reported in the paper, automotive, and communication equipment industries. Staffing services firms said that demand picked up steadily in all District states except Michigan. They also noted a general tightening in labor market conditions, with one citing fewer visits to their online job postings by individuals looking for work and another saying it had seen an increase in temporary worker turnover.
Construction and real estate activity expanded. Homebuilders reported a small increase in sales, though one contact felt the increase would be short lived. Sales of mid-priced homes continued to lag those of high-end homes in most areas. Several contacts expressed concern about the growing number of homes for sale. Commercial activity expanded further in many locations, and retail development was continuing apace. Demand for office space in downtown Chicago was flat, with one developer in the area expressing concern about overbuilding. In contrast, a contact reported declines in office vacancy rates and the amount of sublease space available in Indianapolis. Rents for office space increased in parts of Indiana and suburban Chicago, but decreased slightly in downtown Chicago.
Manufacturing activity continued to expand in August and September. Light vehicle manufacturers reported a steady pickup in production as they replenished lean inventories. Nationwide, vehicle sales were down in September, though they were better than many industry analysts had expected in light of the drop in consumer sentiment and the increase in gasoline prices. Industry contacts forecast that sales in the fourth quarter would run near the average pace recorded in the first half of the year. Heavy truck demand held steady. In contrast, demand for medium duty trucks was soft, in part because accelerated depreciation tax credits had pulled sales forward. One industry analyst reported high demand from the Gulf Coast for towable recreational vehicles. Shipments of heavy equipment were still strong, although growth was down from the extremely robust rates of earlier in the year. Demand for mining equipment remained very strong. Conditions in the steel industry continued to improve, with order books filling up, capacity usage increasing, and inventories running slightly lean. Cement shipments continued to increase year-to-date, though demand was expected to soften in the fourth quarter. Machine tool producers reported steady, solid growth in sales. The damage from Hurricane Katrina led to some disruptions in District firms' supply chains. While most disruptions were short lived, hydrogen (used to galvanize steel) and many resins remained in short supply.
Lending activity moderated. Contacts reported little change or declines in home-purchase and refinancing mortgage demand. Mortgage credit quality was in good shape, and delinquencies remained low. In contrast, one banker said home equity loan delinquencies had ticked up, and an industry analyst reported that consumer credit scores were down from last year. Commercial lending continued to expand, though at a slower pace than earlier in the year. Contacts noted that competitive pressures continued to lead to easier standards and terms, and one banker expressed concerns about profitability. In addition, a Chicago-area banker said that excess capacity in mortgage lending was squeezing margins in that line of business.
Price and cost pressures firmed on balance in August and September. Contacts reported increases in the costs of a number of materials, including oil and gas, steel, concrete, and resins. A number of contacts said that their suppliers had put on new or additional fuel surcharges. A contact in the air travel industry noted that the spread between jet fuel and crude oil prices was running three to four times larger than historical norms because of refinery disruptions. Downstream, prices for air travel rose again, and new price increases were reported for pharmaceuticals and hotel rooms. In contrast, appliance manufacturers said that they were unable to raise prices to cover higher freight costs, an automaker planned new incentives, and retailers in Michigan reported an easing in price increases in August. Wage gains held relatively steady in most industries. However, a staffing firm noted that their recruiting expenses have increased noticeably.
Corn and soybean yields in much of the District were higher than had been expected before the harvest began. Current expectations were that this year's corn harvest will be the second largest ever and the soybean harvest will be in the top five. One reason is that genetic advances in seeds seemed to reduce losses in areas affected by the drought. Still, contacts were concerned that many farmers did not have adequate crop insurance. Grain storage has become a major issue for the District because of the transportation network backup after the hurricanes and large stocks left over from 2004. Furthermore, higher energy prices have pushed up the costs of drying grain, leading farmers to let corn dry longer in the fields. Contacts were worried about the impact of increased operating costs. Dairy and livestock producers benefited from lower feed costs, as well as generally higher prices for sales. In farmland auctions, some winning bids were lower than market participants had expected.