Federal Reserve Bank of Kansas City
Summary of Economic Activity
Economic activity increased slightly in the Tenth District; however, consumer-facing firms continued to report softer demand and margin compression. Contacts noted that limited labor availability, elevated labor costs, and faster AI adoption among offshore providers increasingly motivated firms to shift back-office professional functions to lower-cost global service markets to improve productivity and offset margin compression. Firms reported higher energy-related expenses, though liability insurance, packaging materials, and other inputs exerted the greatest upward price pressure. Consumer-facing contacts described growing behavioral adjustments among middle-income households, including reduced frequency and lower per-visit spending at sit-down restaurants. One contact noted that "middle-income households are squeezing more life out of every dollar before deciding to spend it."
Labor Markets
Labor market conditions have shown little to no change in the Tenth District, with employment remaining stable and wages increasing modestly. Contacts have observed that the lack of labor availability and elevated labor costs have increasingly motivated firms to offshore back-office and professional functions to lower-cost global service markets over the last two months. Several firms also noted that faster AI adoption among offshore providers has improved productivity and service capabilities, increasing their competitiveness relative to some domestic operations in areas like accounting, medical transcription, and database management. Manufacturing contacts reported elevated turnover among workers with certifications departing for larger employers. One contact stated at an aerospace roundtable, "If they come with a wrench in their hand, they can work the next day," suggesting that some manufactures are shifting toward labor pools with practical mechanical competencies and lower credential intensity as competitive pressure for technically trained labor remain elevated. District firms are expecting little change in employment and modest increases in wages over the next six months.
Prices
Prices in the Tenth District have increased moderately, with sixty-five percent of survey respondents reporting increased input prices compared to last month. Although firms noted an uptick in energy-related expenses, contacts indicated that non-energy costs like liability insurance, packaging materials, and other input prices all exerted the greatest upward pressure. Several firms reported efforts to maintain stable pricing on goods targeted toward low-income consumers while increasing the prices of their other products to avoid tighter profit margins. Manufacturing contacts expect a slight increase for finished goods, while services contacts are expecting a moderate increase over the next six months.
Consumer Spending
Consumer spending on discretionary items declined slightly, while non-discretionary spending remained flat during the reporting period. Contacts noted growing behavioral adjustments among middle-income households, including reduced frequency and lower per-visit spending at sit-down restaurants, even within traditionally resilient segments. One firm stated, "middle-income households are squeezing more life out of every dollar before deciding to spend it." In contrast, higher-income households remained largely insensitive to price pressures, as a restaurateur noted that his restaurants were at full capacity and he wanted to expand. Consumer spending expectations over the next six months shifted lower, to a slight increase.
Community Conditions
Organizations serving low- and moderate-income (LMI) populations reported increased budgetary strain, affecting their ability to meet the growing needs in LMI communities. Contacts reported reduced funding from federal and state governments, as well as from individual and corporate donations. Funding shortages have increased competition for philanthropic funds, and foundations reported that they could not fill the funding gap. To cope with funding shortages, contacts reported that more organizations were cutting programs and staff. Organizations also reported increased discussion of mergers, acquisitions, financial agent agreements, and stronger cooperation among nonprofits. Services have also emerged to help organizations pursue those pathways.
Manufacturing and Other Business Activity
Business activity increased slightly during the reporting period, though consumer-facing firms continued to face softer demand and margin compression. Aerospace activity expanded rapidly across the military, satellite, and drone segments, adding to the already strong growth in general and commercial aviation. Elsewhere, growth in manufacturing activity ranged from slight to moderate, supported by steadier backlog fulfillment. Firms raised their investment expectations and now expect investments to increase slightly over the next six months.
Real Estate and Construction
Contacts in the housing construction sector noted robust increases in the cost of a variety of building materials and to higher delivery costs associated with higher oil prices. They characterized the increase in materials costs as being "like tariffs all over again, but with price increases coming faster." Providers of building materials emphasized that the timing of the price shock for fuel and petrochemicals undermined the previously expected pick-up in home building construction, whose growth expectations across much of the District are now reportedly anemic. The inventory of single-family homes for sale rose at a modest pace, somewhat slower than the robust growth over the last two years. Still, the continued increases in the availability of both single-family homes for sale and multi-family units delivered kept rent growth subdued.
Community and Regional Banking
Loan demand and credit standards were largely unchanged across lending categories. However, several respondents indicated a moderately stronger demand for commercial real estate (CRE) loans. In contrast, demand for commercial and industrial (C&I) loans was mixed, tied to local market conditions or sentiment towards the economy. Although loan quality remains stable overall with little change expected for most respondents, one-third are experiencing some level of credit deterioration, and one-quarter expected further deterioration over the next six months. Current and expected deterioration is concentrated in agricultural and consumer lending due to the combination of energy price volatility, low grain prices, adverse weather/drought conditions, and storm damage. While energy price volatility has not impacted overall willingness to lend, all sectors are being closely monitored for direct and indirect impacts. Bankers noted that deposit levels were relatively stable.
Energy
Tenth District drilling activity remained mostly unchanged. The number of active oil rigs increased in recent weeks but has not yet exceeded the level before the conflict in the Middle East, even as oil prices were elevated but volatile. The number of gas rigs continued to decline as natural gas prices remained low, in part because of elevated associated gas supply from oil-heavy basins outside the District. Contacts reported that higher diesel prices have raised the cost of drilling new wells, and they are looking for less expensive substitutes for other key inputs as they face broad cost pressures. Many District firms remain cautious about materially increasing drilling activity amid uncertainty about the duration of the supply disruption and the outlook for oil prices.
Agriculture
Conditions in the Tenth District farm economy remained split across crop and livestock sectors. Corn, soybean, and wheat prices have increased moderately since April, but the spike in fuel and fertilizer costs was expected to keep profit opportunities narrow. Contacts noted that wheat conditions in Kansas, Nebraska, and Oklahoma were particularly poor due to severe drought, raising concerns about reduced revenue for producers. Strong cattle prices continued to support cow/calf producers and boosted incomes for dairy and crop operations with diversification into beef cattle. According to the latest lender survey, ranchland values increased sharply alongside strength in the cattle sector, and cropland values increased modestly despite ongoing challenges for crop farms.
For more information about District economic conditions visit: https://www.KansasCityFed.org/research/regional-research.