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Federal Reserve Districts

Third District--Philadelphia

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Business conditions in the Third District were mixed in December. Manufacturers reported slight gains in new orders for the month compared with November. Retail sales of general merchandise during the Christmas shopping period barely matched the prior year's level, overall, and some stores had year-over-year declines. Auto sales were steady during most of December at around the same pace as in November, but they picked up near the end of the month. Bank lending was moving up at the turn of the year, with modest growth in the major credit categories--business, consumer, and residential real estate loans. Companies in the service sector generally indicated that the pace of business has not changed significantly from earlier in the fall. According to the companies' reports, demand for business services has been flat, and firms in the service sector have been limiting their expansion plans.

The outlook in the Third District business community is muted. Contacts in all industries are concerned that economic conditions, especially labor markets and consumer confidence, are fragile. Manufacturers forecast some increases in shipments and orders during the next six months. Their capital spending plans are positive, on balance, although the number of firms scheduling increased expenditures has slipped recently. The outlook among retailers is varied; some store executives anticipate flat sales during the first half of the year, but a few expect slight gains. Auto dealers expect a lower sales rate in 2003 than in 2002. Bankers generally expect overall loan demand to rise slowly in the next few months, mainly as a result of some growth in consumer lending. Service companies expect some gains in business by the second quarter of the year, although they are uncertain about the timing and strength of the improvement.

Third District manufacturers reported a slight gain in new orders, on balance, in December but an easing in shipments. Overall business conditions appear to have changed little since November, with firms in most of the region's major manufacturing sectors generally reporting steady activity or sluggish growth. Order backlogs were flat in December compared with November, and delivery times decreased, suggesting that demand for area firms' products is not pressuring production capacity. Most of the manufacturers contacted in December indicated that prices for both the inputs they use and the goods they manufacture were steady during the month, and many firms continued to report strong price competition in their industries, especially from Asian companies.

On balance, the region's manufacturers forecast better business conditions in the first half of 2003 despite the fact that many said they had not seen the improvement they had expected in 2002. Just over half of the firms surveyed in December expect increases in orders and shipments during the next six months, while slightly more than one in ten anticipate decreases. Area manufacturers' capital spending plans call for increases, on balance, but compared with plans reported earlier this fall the number of firms that intend to boost spending in the first half of 2003 from current rates has slipped and the number that plan to trim spending has increased.

Third District retailers gave mixed reports for the Christmas shopping period, with nearly equal numbers of stores matching, exceeding, or falling below their results of a year ago. The best sales by type of good were toys, inexpensive jewelry, and some lines of apparel, such as outerwear and casual clothing. Some retailers noted that shoppers showed a stronger preference for these traditional gift items this season compared with past years, and bought fewer items from other merchandise lines, such as housewares and sporting goods, for gifts. Several merchants reported that sales per customer were down even though store traffic appeared to be normal for the season, and one retail contact noted that shoppers spent less than usual amounts on incidental purchases while they shopped for gifts. With sales generally failing to meet their expectations, most of the retailers contacted for this report said their inventories were high, although few said they were far above acceptable levels.

Most of the retailers contacted for this report expect sales to move up slowly at best through the first quarter of the year, but a significant portion of those surveyed anticipate no improvement until spring. Third District merchants are virtually unanimous in their views that consumer confidence is not strong and that shoppers will continue to limit purchases and look for discounted prices on all the goods they buy.

Auto dealers reported steady sales for most of December at about the same rate as in November. Sales turned up near the end of the month as manufacturers stepped up incentives, but dealers anticipate a return to a slower pace, and they expect lower sales in 2003 than in 2002.

Outstanding loan volume at Third District banks was moving up as 2002 came to a close. Bankers generally reported gains in business, consumer, and real estate lending, although most said that growth has been modest. Bank lending officers continued to describe the commercial and industrial loan market as competitive. Some noted a slippage in commercial credit quality, but most of those contacted for this report said delinquencies have not increased materially.

Deposit growth has continued to be strong for many banks in the District, which bankers attribute to depositors looking for low-risk savings opportunities. But with only small gains in lending recently, bankers continued to be concerned about compression in interest rate margins. Some bankers also said they think depositors might be quick to withdraw funds if confidence in other types of investments is restored.

Bankers in the Third District generally expect overall lending to grow slowly as the new year gets under way. They expect moderate gains in consumer lending and steady or slowly rising real estate lending. Opinions on the likely path of business lending were mixed. Some bankers believe the recent slight increase in demand for business loans will be short-lived, while others believe it might signal the start of a trend of more steady, albeit slow growth.

Investment company activity has been essentially flat in the past two months, according to contacts in the industry who said low investor confidence continues to hamper growth in equity investing, although money flows into bond funds have continued. Investment in money market funds has been limited in the low interest rate environment, but is expected to pick up if rates rise.

Most of the service firms contacted for this report indicated that conditions have not changed materially from earlier in the fall. Some law firms have noted increased business, but in general, demand for business services has been nearly flat. Several business services firms noted that their activity levels usually move in tandem with employment in the region, and that the lack of growth in employment has limited their own ability to expand. Contacts expect business to begin moving up by the second quarter of 2003, but they have seen no evidence of imminent improvement.

Temporary and permanent employment agencies in the region reported an unexpected slippage in hiring plans for the first quarter of 2003. Although the firms for which they provide workers plan to increase staffing levels on balance, the number of firms that intend to hire additional workers appears to have edged down compared with the number that added employees in the last quarter of 2002, even after allowing for seasonal hiring patterns.

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Last update: January 15, 2003