November 29, 2006 Federal Reserve Districts Third District--Philadelphia

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Economic conditions in the Third District improved slightly in November. Manufacturers posted small increases in shipments, but there were also marginal declines in new orders. Retail sales of general merchandise rose. However, auto sales did not increase. Bank lending increased overall, although not strongly, but mortgage lending declined. Residential real estate activity continued to decrease; by contrast, commercial real estate markets tightened further. Third District business contacts generally expect business activity to continue to expand, but at a slow pace; however, they anticipate further softening in residential real estate. Manufacturers expect some improvement during the winter. Retailers are forecasting increased sales for the upcoming holiday season compared to a year ago. Auto dealers do not expect sales to pick up in the near future. Bankers anticipate slight gains in business and consumer lending but a further decline in mortgage lending. Residential real estate agents and builders expect further slowing in home sales through the winter. Contacts in commercial real estate expect demand for office and industrial space to remain strong. Manufacturing Third District manufacturers reported little change in business conditions from October to November. On balance, they reported a slight increase in shipments and a slight decrease in new orders. The decrease in orders affected most of the region's major manufacturing sectors, although makers of food products and apparel generally noted rising demand. Area manufacturers reported an easing in order backlogs but also a small increase in delivery times. Overall, manufacturers expect demand for their products to increase, but they are not forecasting strong gains. Among the manufacturers contacted in November, a little more than one-third expect their shipments and orders to increase during the next six months; about one-fifth expect decreases. The capital spending plans of Third District manufacturers increased between October and November. On balance, however, the number of firms scheduling increased outlays remained below the number that raised capital spending earlier in the year. Retail Most of the retailers contacted for this report indicated that sales have increased in recent weeks, although the strength of growth varied among stores. Department stores and most apparel specialty stores reported that sales of new fall merchandise have been up solidly compared with a year ago. Sales growth for most other types of stores and lines of merchandise has not been robust, and sales of home improvement items have been generally below retailers' plans. Looking ahead, area retailers expect current trends to last through the holiday shopping season. Area retail executives expect sales growth to continue at the current rate for department stores, most apparel specialty stores, and for luxury merchandise. They say prospects for growth are less strong for discount stores and for home furnishings, appliances, and consumer electronics. Auto sales in the region showed no signs of increasing in November, and some dealers reported a slowing in sales. Year-to-year sales comparisons continued to be better for foreign makes than for domestic makes. Inventories remained above desired levels for many dealers but did not appear to be increasing. Auto dealers in the region expect sales to remain sluggish through the winter, and they say the outlook for 2007 is uncertain. Finance The volume of loans outstanding at Third District banks rose slightly in November, according to commercial bank lending officers contacted for this report. Commercial and industrial lending increased for most banks, but many said the rate of growth had slowed recently. Credit card lending expanded, but the rate of increase has eased somewhat. Growth in other types of personal lending also slowed, and some banks reported substantial softening of demand for personal credit. Demand for residential mortgages continued to decline. Bankers in the District expect business and consumer lending to increase slowly in the months ahead, but they foresee a further decline in the demand for residential mortgages. Bankers noted that both business and personal loan quality was good. However, several bankers said they are concerned that builders, land developers, and other firms involved in residential real estate and construction might soon face cash flow problems, and they are monitoring these borrowers closely. Real Estate and Construction Commercial real estate firms reported that vacancy rates in the region's office markets have continued to decline in the past few months, and rents have risen. The amount of leased space has increased in both the Philadelphia and Wilmington central business districts and in suburban markets throughout the region. The increase in occupancy has resulted in a scarcity of large blocks of available space. Commercial real estate contacts report that there has been an increase in the construction of buildings to accommodate anticipated demand for large blocks of space with up-to-date features, while demand for space in older buildings is falling. Demand for office space and high-tech research and manufacturing facilities is expected to increase into next year, with much of the demand coming from firms in the financial, health care, and pharmaceutical industries. Residential real estate agents and homebuilders surveyed in November indicated that sales were declining, continuing the sharp slowdown that began during the summer. Real estate contacts noted that the number of existing homes for sale and the time they are on the market have risen. Home builders reported significant increases in cancellations. They have reduced prices for resold houses and increased the value of free upgrades for all houses sold. Price appreciation of existing homes in recent months has been well below the pace recorded over the past few years. Homebuilders and real estate agents expect the pace of sales to slow further during the winter. While most expect sales to recover next spring, several said they do not anticipate a substantial rebound. Prices and Wages Business firms in the Third District noted increases in the costs of raw materials and other inputs, although reports of price increases were not as widespread in November as they were earlier in the autumn. Manufacturers noted continued increases in prices for metals and energy, although the incidence of such increases appears to have slowed since the summer. Retailers indicated that they have implemented price reductions for some lines of merchandise, especially consumer electronics and home appliances, but that prices for most other types of goods have been kept near plan. Employers in many industries reported that labor markets remain tight for skilled workers and some professional occupations. Retailers noted that they have had some difficulty in hiring temporary sales workers for the holiday season. In contrast, the slowdown in residential construction has resulted in greater availability of construction workers. Area employers indicated that wages have been rising at a nearly steady rate in the past few months, somewhat above the rate of increase recorded earlier this year and a year ago. Return to top New York Cleveland