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Beige Book Report: San Francisco

May 18, 1983

Consumer spending and residential construction continue to lead the Twelfth District economy into recovery. Retail sales at department stores and auto dealerships continue to improve, while the decline in mortgage interest rates has held Western homebuilding and sales activity at levels far above those of a year ago. Manufacturing activity is picking up in a few important industries such as lumber and aluminum, but most of the region's capital goods and mining industries continue to experience extremely weak demand. Despite ample funds and aggressive promotional efforts on the part of the institutions, commercial and consumer loan demand at Twelfth District banks remained sluggish during April, but the banks report a significant increase in real estate lending activity.

Consumer Spending
Reports throughout the Twelfth District confirm the growing strength of retail sales in March and April. Major department store chains in Southern California reported that sales increased in both months and in April ran about 8 percent above the level of a year earlier, representing a solid gain in real terms. One respondent described sales at smaller stores, such as those selling women's apparel and shoes, as "the best in years, even better than Christmas". In the Pacific Northwest and Intermountain states, department stores also are experiencing strong year-to-year sales increases. The pickup is extending beyond apparel, which remained relatively strong even during recession, to a broader spectrum of product lines. In particular, the upturn in home sales is helping to spur sales of household goods, including furniture, appliances, and other big ticket items. Interest rate concessions by automobile manufacturers, and declining gasoline prices, have stimulated sales of automobiles and recreational vehicles. Retail credit delinquencies are returning to more normal levels.

Manufacturing and Mining
Twelfth District manufacturing industries that serve the housing and defense sectors are showing improvement. But the majority of industries—namely, those that manufacture durable capital goods— continue to reduce output and employment. Perhaps the brightest spot in the district economy in terms of a turnaround is the Pacific Northwest lumber industry. The recovery in national homebuilding activity enabled the industry to boost production during the first quarter 46 percent above the level of a year earlier and to raise prices on average by 11 percent. The region's aluminum industry also has reactivated some idle capacity. But layoffs continue in a number of other important industries however. The paper industry continues its cost-cutting efforts in the face of weak demand. In both California and Washington, the aerospace equipment manufacturing sector has been benefiting from increased defense business, but weakness in civilian markets for aircraft and electronic equipment have continued to reduce overall industry payrolls. In the Intermountain states—Arizona, Nevada, Utah—the nonferrous metals industries are once again experiencing depressed demand now that the likelihood of a copper strike has diminished. Throughout the District, capital goods industries that produce such goods as trucks, machinery and equipment and ships, have yet to experience a turnaround in demand. The decline in oil prices is depressing oil drilling activity and revenues in Alaska and California and causing layoffs at Intermountain coal and uranium mining sites.

Construction and Real Estate
The West shared in the moderate decline in housing starts and building permits recorded nationally in March, suggesting that the pace of residential construction in the district in coming months may not be quite as high as during the first two months. But housing analysts still expect regional homebuilding activity to be at least 50 percent better for the year than last year's depressed level. They stress, however, that homebuilding activity could drop much more sharply during the rest of the year if mortgage rates do not fall further. This is because homebuilders built inventory during the first quarter in the expectation that rates would fall further, qualifying more buyers. If the decline is not realized, they will be caught with excess inventory and reduce construction sharply. The fact that most of the new homes being constructed are at the lower price range and that many carry subsidized FHA/VA mortgages also suggests that the recovery will not be sustained unless rates fall further to make homes affordable to a greater segment of the public. Lower rates also are needed to offset rising home prices. In the non-residential sector, construction is reported to be slowing due to the high vacancy rates in most metropolitan areas.

Agriculture
Rain storms continued in California through April causing further adverse consequences for the agricultural sector. In addition to an estimated $300 million in crop losses sustained earlier in the year, farmers face further financial losses as a result of continued delays in plantings of important row crops such as lettuce, tomatoes and onions. Prices for these products have risen sharply in the past few months but volume has been so reduced as to result in far less than normal revenues. Also, the storms seriously reduced the prospective nut crop by preventing pollination of blooming orchards. Although prices for livestock, grains and a wide array of other farm products also rose in April, District farmers and ranchers expect 1983 to be another difficult year, with net income showing little, if any, improvement over 1982's depressed level. Large world crop supplies, weak overseas economies and the rising value of the U.S. dollar are combining to lower exports.

Financial Institutions
Although Twelfth District banks have been aggressively promoting commercial and consumer loans as an outlet for the huge inflow of funds generated by the MMDA's, demand for those types of loans remained sluggish during April. Real estate loans showed a similar pattern. But since institutions are reporting strong real estate lending activity, this probably just means that the recovery in the housing market has yet to translate into an increase in the aggregate statistics on real estate loans. Banks are noting an increase in both loan inquiries and new loan extensions which coincides with the fall in mortgage rates and consequent surge in housing starts and permits during the first quarter. An additional favorable indicator that a homebuilding recovery is underway is that the majority of the lending activity in recent months has represented new credit extensions, rather than the refinancing of old loans.