Beige Book Report: Cleveland
June 3, 2015
On balance, the Fourth District's economy expanded at a slight pace since our last report. Activity at manufacturing plants was mixed. Nonresidential building contractors reported a strong boost in activity; homebuilders saw a mild pickup in single-family starts during April following a slow first quarter. Retail sales were marginally higher than those of a year ago, while new car sales fell slightly year-over-year. Activity in the Marcellus and Utica Shales leveled out after a sharp decline in the first quarter. Most freight haulers indicated that volume has softened over the period. The demand for business and consumer credit continued to move slowly higher.
Payrolls were little changed on net. Staffing firms reported a pickup in the number of job openings in healthcare, IT, and manufacturing. However, job placements did not keep pace because of difficulty in finding qualified applicants, especially for technical positions. Upward pressure on wages is limited to experienced and technically skilled personnel. Overall, input and finished-goods prices were steady. We heard reports about declines in prices for steel, beef, and dairy products, and rising prices for some building materials and diesel fuel.
Employment and Wages
The pace of hiring is expected to be modest across industry sectors this year, with some bias toward replacement. Newly created positions typically require a higher-level skill set than in the past. The average increase in wages and salaries is expected to be about 2 to 3 percent; however, firms are increasing wages in selected occupations at a much higher rate than for the labor market as a whole. High-skilled workers have enough confidence in the job market that they are not hesitant about moving from one employer to another. As a result, firms are increasing budgets for retention initiatives. Since younger workers show a greater propensity for changing jobs, several contacts indicated that they are increasing wages of new hires at a faster pace than for continuing employees in order to support retention of these workers. Firms typically are absorbing the higher labor costs as opposed to attempting a pass through to customers.
Manufacturing
Factory contacts reported that demand was little changed during the past six weeks. Suppliers to the aerospace, motor vehicle, and construction industries continue to see strong or strengthening demand. One contact noted that his customers are returning to normal buying patterns since petroleum-based raw material prices began stabilizing. Factors tempering growth include exposure to weakening foreign markets, a downturn in the oil and gas industry, and a strong dollar. The near-term outlook for business prospects was mixed. While some producers expect strong growth, an equal number anticipate weakness or a decline compared to that of a year ago. The steel industry is still struggling because of declining prices, a strong dollar, and rising imports, especially from China. Nonetheless, the underlying domestic demand for steel was characterized as good, but flat. Steel producers and service centers see little change in the coming months. Year-to-date auto production at District assembly plants through April fell 3 percent below the prior year level.
A sizeable number of our contacts indicated that they have increased their capital budgets over the period. Monies are being allocated primarily for equipment (machinery and IT) and maintenance projects. One manufacturer noted that anticipated changes to the tax code are a bigger impediment to capital spending than are interest rate increases. Input prices were mainly flat or lower. Contacts cited price reductions for iron and steel, petroleum-based products, and energy. Producers were reluctant to pass through lower input prices to customers.
Real Estate and Construction
Year-to-date sales through March of new and existing single-family homes were moderately higher as compared to those of the same time period in 2014. The average sales price rose about 7 percent. First-quarter single-family construction starts were down compared to those of a year-ago; however, builders reported that housing starts picked up in April. New-home contracts remain concentrated in the move-up price point categories. Prices are trending higher because of rising labor costs and lower existing-home inventory. Several builders commented that the market for spec homes exists, but because of capacity constraints and difficulty obtaining construction financing, it is difficult to increase their inventory. Despite this, homebuilders remain optimistic. They predict new-home sales for all of 2015 will rise on average about 15 percent on a year-over-year basis. Homebuilders also believe that the expectation of higher interest rates should serve as an impetus for potential buyers to sign purchase contracts. One builder remarked that while the labor market is strengthening, it is not yet at a point that will generate a significant number of new-home contracts.
Nonresidential contractors reported a strong boost in activity over the period, with a bias toward private work. On balance, the number of inquiries has increased. General contractors reported that their margins are increasing. Labor capacity was frequently mentioned as a factor that will restrain growth going forward. Backlogs were characterized as strong or strengthening. Demand is greatest for office space, industrial structures, multifamily housing, and university construction. Financing is more readily available to successful developers than it has been in the recent past.
Capital spending by general contractors was mainly for technology, new equipment, and maintenance. Materials prices were stable during the past six weeks. Over the course of the year, builders anticipate input price increases of about 3 percent, primarily for concrete, wood, and fabricated metal products. Subcontractors remain busy. They are being challenged by a labor shortage and as a result are more selective when bidding. Subcontractors are pushing through rate increases, which they attribute to capacity constraints and a need to raise margins.
Consumer Spending
Reports on retail sales were mixed. Contacts experiencing higher revenues over the period attributed them to lower gasoline prices and improvements in the weather and job market. That said, an apparel retailer noted that weak wage growth is a barrier to accelerated consumer demand. Some contacts reported that they are still being negatively impacted by residual effects of the west coast port strike. Product lines in highest demand included women's apparel, home furnishings, and health and wellness products. Same store revenues were marginally better than they were a year ago. Third-quarter sales are expected to be slightly above those of a year ago, with a higher rate of growth projected for on-line sales versus brick-and-mortar sales. Vendor and shelf prices were mainly stable. Restaurateurs reported rising demand by customers for more expensive, but locally produced products. Although there is downward pressure on beef and dairy prices, some food retailers have raised prices in response to rising employee healthcare costs. Capital spending was mainly for e-commerce operations and existing-store maintenance and remodeling.
Year-to-date sales of new motor vehicles through April were slightly below those of a year ago. A strong consumer preference for SUVs and light trucks continued. New inventory is somewhat light because of production cutbacks. After lower-than-expected sales during the past couple of months, dealers are projecting strong sales during the summer and anticipate that unit volume for the year will be on par with that of 2014. Year-to-date pre-owned vehicle sales are moderately higher compared to last year's, a situation which was attributed to an increase in lease turn-ins. Credit unions and OEM captive finance operations are becoming more aggressive in financing new-car purchases.
Banking
Business loan portfolios expanded, but at a slow pace. Demand was strongest for C&I and CRE loans. Bankers reported that rising confidence in the economy provided the impetus for higher capital spending by manufacturers and moving ahead with construction projects. Some strengthening in consumer credit demand was reported. Auto lending remains strong, and there has been an increase in the use of home equity products. Interest rates for business and consumer credit were stable. Most of our contacts noted a seasonal increase in their residential mortgage business, which was heavily weighted toward new home-purchase. Delinquencies slowly trended lower from already low levels. No changes were made to loan-application standards. Core deposits remain strong. One banker observed that consumers and small businesses are cautious about borrowing and have learned the value of liquidity. Banks' capital spending was primarily for technology and building maintenance.
Energy
Little change in District coal production was reported. Spot prices for steam and metallurgical coal declined since our last report. The number of drilling rigs operating in the Marcellus and Utica Shales leveled out in April, after declining about 25 percent since late last year. Natural gas production remains at a high level, but the pace of growth is declining. We heard reports about a potential drop in wellhead prices as a result of storage levels above what is typical for this time of year. Otherwise, wellhead prices are holding within a narrow range. After adjusting capital budgets downward earlier in the year, spending is on plan, with monies being allocated mainly for maintenance projects and equipment. Reports indicate a more broad-based decline in prices for materials and equipment over the period.
Freight Transportation
Reports on freight volume were mixed. While a few contacts continue to operate at high levels of capacity utilization, most freight haulers reported that volume has softened over the period. They believe that markets generally are not as robust when compared to the fourth quarter, and they cited the downturn in the steel, and oil and gas industries. Growth was seen in intermodal transportation and the transport of seasonal products. The outlook for the next few months is uncertain. Fleets continue to aggressively replace older equipment. Little change in costs was noted other than an increase in diesel fuel that was passed through via the surcharge. A strong pricing environment was attributed to capacity issues. A driver shortage continues to put upward pressure on the driver pay scale across the industry.