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Federal Reserve Districts

Twelfth District--San Francisco

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Reports from Twelfth District contacts suggest that overall economic growth in the District continued to be sluggish in June through mid-July, though there were signs of slight improvement in manufacturing. Contacts indicated little upward pressure on the prices of most final goods and services, with the notable exceptions of health care services, housing, and natural gas. Employers also noted increases in energy costs and non-wage labor costs such as health insurance benefits. Contacts noted that these rising non-wage labor costs, along with productivity gains, are expected to restrain new hiring going forward. Retailers generally characterized sales as flat compared to the previous survey period, noting heavy price discounting in a highly competitive environment. According to District manufacturers, conditions improved slightly with a strengthening of orders in information technology, basic metals (except aluminum), and machine tool manufacturing, among other sectors. Contacts reported that District housing markets remained robust, while commercial vacancy rates remained high. Low interest rates continued to stimulate the demand for mortgage credit, while demand for short-term business loans at commercial banks appears to have stabilized at low levels.

Prices and Wages
Reports indicate limited upward pressure on prices for final goods and services in the most recent survey period, with the exceptions of sharply rising prices for health care services, housing, and natural gas. Retailers continued to face intense competition, with heavy discounting commonplace. Looking ahead, across all sectors, a little less than half of respondents expected their prices to remain unchanged from current levels over the next six months. Most of the remaining respondents expected some increase in prices.

An ample supply of labor relative to demand reportedly limited increases in wages. However, employers noted pressure from rapidly rising non-wage labor costs such as health insurance benefits and, particularly in California, workers' compensation and liability insurance. Many contacts indicated the higher non-wage labor costs and productivity gains have restrained overall hiring. In addition, a few respondents indicated the higher costs prompted greater reliance on part-time employees. When asked about hiring plans over the next six months, a little over half of respondents reported payrolls would remain more or less constant. Most of the other respondents reported plans to increase hiring; these contacts were mainly in banking and high-tech and specialty manufacturing.

Retail Trade and Services
District retailers generally characterized sales as flat compared to the previous survey period, noting heavy price discounting in a highly competitive environment. Automobile dealers reported some improvement in sales in June but a slowing of sales for both new and used vehicles in July. They also reported an accumulation of inventory above desired levels.

Respondents indicated that conditions in the District's travel and tourism sector remained sluggish, with the exception of Hawaii, where domestic tourism business picked up sharply even as foreign tourism remained at historically low levels. Contacts noted scattered signs of growth in legal and real estate services as well as in high-tech services, where demand for temporary employment has edged up. Telecommunications services, however, continued to face sluggish demand and excess capacity; service providers further reduced their workforce in response to these trends.

District manufacturing activity, on net, improved slightly in June through mid-July. Contacts in the information technology sector reported an increase in new orders and low inventory levels. Capacity utilization was reported to be high in the semiconductor sector, particularly for leading-edge products. Moreover, respondents observed a slight strengthening of economic activity in machine tools manufacturing, medical testing equipment, and basic metals (other than aluminum). Some District manufacturers reportedly benefited from the recent depreciation of the dollar, which made District goods more competitive at home and abroad. The higher costs of textile imports from Europe, however, were a negative for apparel manufacturing. Most of the contacted manufacturers reported plans to begin hiring over the next six months. Hiring is expected to fall, though, in the wood and paper manufacturing sector, which continues to face sluggish demand, low prices, and low operating rates.

Agriculture and Resource-related Industries
District agricultural and energy-related businesses reported solid demand during the most recent survey period. Contacts noted that crop and livestock prices have remained firm, and producers have benefited from robust export activity, due in part to the depreciation of the dollar. Natural gas prices have climbed sharply as supplies have not kept pace with demand in the short run; contacts expect prices to come back down somewhat over the next several months as the pace of extraction increases.

Real Estate and Construction
Respondents reported that residential real estate remained one of the strongest sectors of the economy throughout the District, while commercial real estate markets generally remained weak. Home sales, home prices, and new home construction all continued at a rapid pace in most areas, particularly in Hawaii and parts of Southern California. In a few areas such as the San Francisco Bay Area, home price appreciation and apartment rental rates have softened. In commercial real estate, elevated vacancy rates for commercial and industrial properties characterized most markets, notably the San Francisco Bay Area. Furthermore, there was very little commercial construction activity, except in Hawaii and Southern California.

Financial Institutions
Throughout the District, low interest rates sustained strong demand for residential real estate mortgage loans in June through mid-July. The low rates also stimulated reliance of businesses on commercial real estate credit. However, for most commercial banks, the demand for short-term business loans remained weak, apparently stabilizing at low levels as businesses continued to exercise caution in regards to investment decisions. One area of exception was Hawaii, where reports indicated some pickup in business loans at banks. Overall, asset quality among banks was sound.

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Last update: July 30, 2003