Beige Book Report: Cleveland
December 10, 1980
Summary
Sharply rising interest rates have caused most respondents
in the Fourth District to adjust their 1981 forecasts downward, with
several now expecting at least one quarterly decline in real GNP in
the first quarter. Capital goods producers continue to experience
weakening orders, especially in machine tools. Orders in the primary
metals industry continue to hold up surprisingly well, but industry
spokesmen expect a decline next quarter in response to a weakening
economy. Post-Thanksgiving day department store sales have been
better than expected, but several area retailers are concerned about
softening Christmas season sales because of rising interest rates.
Bankers report continued weak loan demand. S&Ls expect an
intensified profit squeeze as costs rise and loan demand slackens
because of rising mortgage rates.
Outlook
Although a sluggish recovery was generally anticipated at
the Fourth District Economists' Roundtable meeting on November 7,
most participants now expect a decline in real GNP in the first and
possibly second quarters of 1981. Several bank economists envision
the negative quarters as part of a continuation of the 1980
recession. The release of pent-up demand following credit restraints
provided a brief third quarter recovery in consumer spending and
economic activity. Positive quarters during a recession are not
uncommon, such as occurred during the 1973-75 recession. However,
interest rates never went to double-digit levels, notes a bank
economist, because inflation was viewed as a short-term problem.
Now, inflation is viewed as a serious long-term problem. Several
business economists anticipate at best a flat first half and a
strong recovery in the second half of 1981 based on tax cuts, pent-
up demand, and falling interest rates. A business economist notes
that, despite rising industrial production, inventories are still
generally tight and inventory liquidation is unlikely to sustain a
recession.
Capital Goods
Although capital spending remains weak, industry
officials state that the decline in orders has not been as sharp as
in some past recessions and the worst is probably over. While their
overall order pattern was late in turning down (i.e., orders were
strong until July), a machine tool producer notes that orders remain
strong from energy and aerospace industries. Cancellations from the
auto industry have not occurred, but softening of machine tool
orders in the first quarter of 1981 is expected as major programs
reach completion. A producer of trucks and heavy equipment reports
that orders are not showing strength from recent very low levels.
Investment in trucks is not taking place, except for replacement.
Despite the unlikeliness of a strong recovery, a capital goods
producer expects such positive factors as defense spending and an
underlying need to modernize to provide a good recovery in capital
spending, especially in the second half of 1981.
Primary Metals
November orders in the steel and aluminum industries
have held up surprisingly well, according to industry economists.
November's volume of steel orders was slightly above October's rate,
although a steel economist reports signs of a tapering off toward
the end of the month. Bookings in January remain solid, including
flat-roll products, and even February has shown no letup.
Nevertheless, orders in February and March are expected to slacken
as effects of rising interest rates and tax increases dampen
consumer durable goods, housing and producers' goods. The turnaround
in steel this quarter to about 80% of capacity from a low of about
50% last summer, largely represents a swing in inventories from
substantial liquidation last quarter to a mild buildup in December.
Aluminum orders, reports an industry economist, have been supported
by the relative strength in defense, aerospace and auto sectors.
Although normally a net importer, the country has been a net
exporter for 14 months. However, with a worldwide slump underway,
orders are expected to drop.
Retail Sales
Several retailers report stronger-than-expected sales
the day after Thanksgiving. A department store official states that
sales are currently doing well, compared to last year, with the
heaviest volume days yet to come. Inventories appear to be adequate,
but in some cases are lean. However, pre-Christmas discounting may
still be necessary to avoid an unwanted overhang. An economist with
a major retail chain in the District expects an 8% year-over-year
increase in December's GAF sales, and a slight increase in real PCE
in the fourth quarter from the third quarter level. However, an
apparel producer estimates a 5 to 6% decrease in company sales over
the next six months.
While several area automotive dealers are concerned about sales, an industry economist reports that small cars continue to sell relatively well despite rising interest rates. An area auto dealer states that rebates are essential to sales and notes that domestic producers are beginning to provide credit support for dealers. An auto industry economist states that production schedules are already being adjusted downward to minimize inventory overhang.
Banking
Consumer and business loans are still relatively weak,
according to several area bankers, partly because many consumer loan
applications are being rejected. A bank economist notes that the
volume of outstanding consumer loans declined in recent weeks, which
is unusual for this time of year. Auto loans have been the most
interest-sensitive consumer loans in recent weeks and declines in
loan applications have been more than seasonal. A bank official
notes that a disproportionate share of auto loans is for 1980 models
at the expense of 1981 models, reflecting higher cost of new models.
Loans for dealer floor plans are off because some dealers still have
sizable 1980 inventories, which must be reduced before banks will
risk financing higher inventories. Some pickup in business loans has
occurred in the last month, according to a bank economist, as
corporations avoid long-term markets.
Mortgage Lending
Weak mortgage loan demand and the rising cost of
funds are causing serious earnings pressure on area S&Ls. However,
an economist with a regional FHLB in the District notes that the
improvement in earnings that began in August has continued through
October, and probably in November, although profit declines are
expected by January 1981. Earnings next quarter could be worse than
in early 1980, but the net worth condition of S&Ls is strong enough
to sustain profit declines. While conventional mortgage rates on 80%
loans range between 14 and 15 1/2%, an S&L official states that
preferential rates are being offered by some banks to move unsold
new homes. While savings flows have been good in November, mainly
because of money market certificates, several S&L officials state
the funds are used either to repay advances or to invest in money
markets.