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Federal Reserve Districts

First District--Boston

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Business activity in the First District continued to slow at the end of 2008. Retailers report sluggish holiday sales, and manufacturers cite smaller increases or actual declines in revenues or orders in the fourth quarter compared with a year earlier. Selected business services firms are somewhat more upbeat, with demand in the fourth quarter stable versus year-ago levels. Residential and commercial real estate markets remain very weak. Respondents expect more of the same or further softening, at least through the first quarter. Many contacts point to declining costs as a silver lining.

Contacted First District retailers report weak sales for the holiday months of November and December, but several contacts note that sales were not as soft as expected. On average, same-store sales are flat to down by single-digit percentages among contacted retailers. However, a few respondents indicate that sales picked up either just before Christmas or after New Year's Day, and continue to be stronger than anticipated.

Retailers continue to manage inventory levels tightly and are cutting 2009 capital spending plans. Respondents have invoked hiring freezes and some are considering reducing headcount in the near future. One contact notes that lack of consumer credit has negatively affected sales.

Overall, First District retailers are watchful in their outlook as they expect consumers to "hunker down" over the next few months.

Manufacturing and Related Services
Almost all manufacturing and related services contacts headquartered in the First District say that the pace of business slowed in fourth quarter 2008 compared to trends earlier in the year. Makers of products purchased by consumers, retailers, and restaurants generally characterize business as "sluggish" or "slow." Some of these firms are experiencing double-digit decreases in revenues or orders from year-earlier levels. Capital goods producers report that most of their business customers are spending cautiously as a result of economic uncertainties. Some specifically mention that they did not experience the usual year-end surge in equipment sales reflecting customers' rush to use current-year budgets or preparations for the coming year.

About one-half of the respondents indicate that falling input costs had a beneficial impact on margins in the fourth quarter. They cite large price decreases for energy, oil-based materials, paper, and cotton in particular. The remaining respondents mostly report that input prices have been stable. Roughly half of the contacted manufacturers and related services providers raised selling prices by single-digit rates in late 2008 or expect to do so in early 2009, while the remaining firms report no changes or are rethinking planned increases. A few respondents say they have experienced or expect to experience downward price pressures as a result of the weakening economy.

Most contacted firms anticipate cutting employment and capital spending in 2009. Those reporting on intended pay increases for 2009 say they will be below those in recent years. Companies typically are planning raises that are 0.5 percentage point to 1.5 percentage points lower than in 2008, but some are enacting partial or across-the-board pay freezes.

All responding manufacturers and related services providers express some degree of caution or concern about their sales throughout 2009. Contacts with a strong competitive position or selling to slow-moving market segments are relatively optimistic and expect little or no revenue growth. Others are very concerned as they "manage one day at a time" or foresee potentially large drop-offs in business during the first quarter. Overall, respondents view the economic environment as highly uncertain and subject to substantial downside risks in the coming year.

Selected Business Services
The majority of consulting and advertising firms contacted in the First District enjoyed stable or strong demand in the fourth quarter and during 2008. Responding businesses--most of which are consulting firms--report over-the-year growth ranging from 2 percent to 35 percent. Demand from the healthcare sector continues to be strong and is expected to improve further in 2009. However, demand from the building and retail sectors is said to have weakened significantly.

In the fourth quarter, costs remained stable or decreased for all the firms contacted. Several firms report introducing cost-reducing strategies, and most respondents held wages and salaries stable in 2008. The majority of New England business services respondents did not increase prices in 2008 and expect to keep them stable in 2009; firms that might increase prices are confident of market acceptance. Headcounts were stable or up year-over-year among contacted firms. Respondents' plans for 2009 range from holding employment stable to increasing headcounts 10 percent to 15 percent.

Most New England consulting firms are optimistic about the 2009 outlook. They expect to continue growing, especially after the first quarter of 2009. They suggest this positive scenario might change, however, if the economy has not started to recover by the second half of the year.

Commercial Real Estate
Conditions in the commercial real estate market deteriorated further in the month of December. Contacts describe the situation as "grim" and "depressing." Credit availability continues to be cited as a major barrier to sales activity. One contact reports that a senior lending officer for commercial property at a large bank has been instructed to "try to prevent developers from making further draws on existing lines of credit." In contrast, however, a regional lender based in Boston notes that, for the first time in many months, an originator of securitized commercial real estate loans financed the purchase of a small retail shopping center.

In Connecticut, leasing and sales activity for commercial real estate are virtually non-existent, according to our contact, and law firms are experiencing negative fallout due to the dearth of transactions. Hartford's major insurance companies have begun to lay off workers; while the cuts have been measured so far, expected job losses in the coming months could have a significant impact on the region's office vacancy rate. In Rhode Island, industrial plant closings have been observed and more are expected in the near term; our contact reports these closings will result in vacancies that will be hard to fill. In southern Rhode Island, there is an estimated 4 to 5 years' supply of office space currently on the market; while the situation is better in downtown Providence, office vacancies are expected to climb there as well in the coming months.

In Boston, leasing activity is reportedly minimal in all sectors, and is occasioned only by necessary lease renewals or forced moves, as tenants expect rents to continue to fall. One contact reports that their retail clients are "staying alive and continuing to pay the rent," although he expects retail closings to emerge in the first quarter as firms come to terms with weak holiday sales. Sales activity is non-existent for large commercial deals (over $50M) and slow for smaller deals. Capitalization rates (ratio of net operating income to property value) edged up again in the Boston area and contacts expect them to increase an additional 50 to 75 basis points in the coming months across all property types; rising cap rates are consistent with reports that commercial property values are down both regionally and nationally. Low transactions volume makes it difficult to track property value movements for metro areas in New England, but one contact notes that portfolios of geographically-diversified commercial real estate owned by large pension funds will be written down by 20 percent to 30 percent for the year 2008.

The outlook remains very pessimistic. Contacts do not expect recovery in commercial property markets in the course of 2009. More layoffs are expected across all sectors in the region, leading to rising vacancy rates. Default rates on commercial loans are also expected to rise, both regionally and nationally. Regarding the latter, one contact is concerned that banks and life insurance companies holding commercial real estate loans are not preparing adequately for further capital losses.

Residential Real Estate
After modest decreases and some increases in sales in New England in September and October, home sales dropped sharply year-over-year in November. In Massachusetts, Maine, and New Hampshire, November home sales dropped 22 percent or 23 percent year-over-year. Massachusetts condo sales declined 27 percent year-over-year in November. While the rest of the region saw decent sales numbers in October, Connecticut's home sales declined 17 percent compared to the year before.

Prices also continued to decline. The median home sales price in Massachusetts fell 14 percent year-over-year in November while the median condo price declined 9 percent. Median home prices dropped 17 percent in New Hampshire and 8 percent in Maine in November compared with a year earlier. In Connecticut, the median home sales price declined nearly 11 percent year-over-year in October.

Financial market stress and resulting problems in the general economy are said to be having a major impact on residential markets. One contact believes that worries about employment are discouraging potential buyers. Other respondents express concern about the efficacy of federal legislation intended to stimulate the housing market; they specifically note issues with the tax credit for new homebuyers, including consumer information gaps about the time lag between home purchase and receipt of the credit and the need to pay back the credit eventually.

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Last update: January 14, 2009