September 7, 2005
Federal Reserve Districts
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Eleventh District economic activity continued to expand at a moderate pace from mid-July to late August. High energy prices have led contacts to be cautious about the economic outlook although most did not see evidence of slowing. Energy activity remained very strong. Construction-related activity also was still brisk. Manufacturing activity expanded moderately, with output constraints in some sectors. Activity in the service sector was also expanding moderately. Retail sales reports were mixed. Financial Service contacts expressed concern that there might be too much credit chasing too few deals. Agricultural conditions declined slightly.
Crude oil prices have risen from under $60 per barrel of West Texas Intermediate crude oil in early July to over $67 per barrel in late August (before Hurricane Katrina). Demand for crude oil has been high, but domestic inventories remain at five-year high levels. Strong demand for natural gas has pushed prices up from $7 dollars per thousand cubic feet in early July to near $10 (pre Katrina). Natural gas inventories were 18 percent above the five-year average in May, but growing consumption has squeezed them down to only 6 percent above the five-year average level. Demand for gasoline remained very strong, and prices at the pump rose 32 cents per gallon since early July (and before Katrina). A series of refinery outages prior to Hurricane Katrina pushed down inventories more than is normal for this time of year.
Chemical prices were mixed. Demand and prices for ethylene and propylene rebounded after falling earlier this summer. A series of plant outages helped erase an overhang of ethylene inventory. Prices fell for bottle resins and PVC. Polystyrene prices fell along with falling component prices of styrene and benzene. The recent surge in oil and natural gas prices has raised concerns in the chemical industry because the companies are concerned they can not raise prices sufficiently to maintain profit margins.
Lumber prices were lower, and contacts say they are unable to pass higher energy costs to their customers. Apparel producers say high oil prices have increased the cost of producing polyester fabrics, but selling prices remain unchanged. Contacts report "rumblings of steel price increases" and expressed concern that steel prices would increase this fall like they did last year. For example, prices for reinforcing steel will increase 10 percent in September.
Airfares have increased "pretty significantly" in some markets but not as fast as fuel costs. One airline noted that for the first time the company's fuel costs are exceeding wage costs.
Firms are resisting wage increases, but report continued pressure on benefits. Still, pressure on salaries is growing, particularly for skilled workers. Accounting firms say their own wages are rising faster than fees. One manufacturer gave lump sum bonuses to employees rather than increase hourly wages. Wages have declined for some positions. Temporary service firms report intense downward pressure on fees despite increased demand.
Chemical producers said Asian demand returned after weakness in June and July, but sales of PVC and bottle resins were lower. Demand for lumber has been gradually slowing, which contacts attribute to higher energy costs and construction disruptions. Sales of paper products have been sluggish and lower than a year ago, largely because of import competition.
High-tech manufacturers reported steady growth in sales and orders. Consumers continued to purchase electronic products and services at a good pace, especially high-end products such as digital cable and advanced cell phones. Demand for industrial and medical equipment was strong. Demand for food products has held steady after slowing in the second quarter, but demand remains stronger than a year ago. Contacts suggest that demand for food to supply restaurants has softened because high fuel costs are eating into consumers' pocketbooks.
Refiners experienced a series of outages that sharply reduced capacity utilization on the Gulf Coast to under 90 percent, but capacity had recovered to near 100 percent prior to Hurricane Katrina.
Transportation firms reported strong demand, although many anticipate growth to slow over the next year. Railroad and trucking firms report large volume increases in construction-related materials. High oil prices have forced trucking firms to add fuel surcharges, which have led some customers to switch to rail shipping. Railroads report higher traffic volumes for almost all commodities, including gas alternatives like petroleum coke. Among sectors with observed decreases in traffic volumes are chemicals, cars and appliances. Airlines said passenger demand was up, possibly because some customers are finding it less expensive to fly than to drive.
Construction and Real Estate
Some contacts expressed concern about the large amount of condominium and town-home construction near downtown Dallas, questioning whether all the "contracted" units would actually close. Many of the purchases are being made by investors, they say, and are actually just "reservations" on properties currently under construction.
Office markets continued to improve steadily, with rising occupancy and firming to rising rents. Investment activity in the office sector remains at high levels. Demand for apartments is still rising slowly and rents continued to stabilize. The San Antonio market is a notable exception, where rents are edging down, construction of new units remains robust and occupancies are flat.
Service companies reported that numerous capital expansion programs are underway. Rig construction is the most widely noted capital spending, mostly land rigs but also construction of large semi-submersibles that won't be delivered until 2007 or 2008. These large rigs are pointed to as growing faith in a long cycle for high oil and natural gas prices. Other areas cited for capital expansion were oil tools for internal and rental purposes and pressure pumping.