Beige Book Report: Cleveland
September 2, 2015
On balance, the Fourth District's economy expanded at a slight pace since our last report. Factory output was stable. The housing market improved, with higher unit sales and prices. Nonresidential building contractors characterized backlogs as strong or strengthening. Retailers reported that their revenues were flat over the period and year over year. New-car sales rose slightly. Exploration in the Marcellus and Utica Shales declined, whereas mid-stream infrastructure projects moved forward. Freight volume contracted slightly. The demand for business and consumer credit continued to move slowly higher.
Payrolls expanded slightly. Newly created positions typically require a higher-level skill set than in the past. Staffing firms reported a pickup in the number of job openings in healthcare and manufacturing; however, the number of placements did not keep pace. Wage pressures were intensifying in the construction, retail, and transportation sectors. Overall, input and finished-goods prices were steady.
Manufacturing
Factory contacts reported that demand was stable over the period. Key factors tempering output include a strong dollar, the downturn in the energy sector, and weakening demand for agricultural equipment. That said, suppliers to the motor vehicle, construction, construction equipment, and defense industries continue to see strong or strengthening demand, with improved top-line growth compared to that of a year ago. On balance, our contacts are cautiously optimistic in their outlook for the remainder of 2015. The steel industry continued to experience stiff competition from imports, competition driven in part by the strong dollar. As a result, steel shipments fell more than expected over the period. Year-to-date auto production at District assembly plants through June fell 2 percent below the prior year's level. This decline is primarily due to retooling at a medium-duty truck assembly plant.
On balance, capital budgets were stable over the period. Spending was largely allocated for new equipment, and to a lesser extent, maintenance projects. Some manufacturers increased capital budgets to purchase equipment that could replace labor. Steel makers and suppliers to the oil and gas industry cut budgets to control costs and preserve cash. Automakers and parts suppliers reported using overtime and adding shifts to meet demand increases instead of expanding plant capacity. Raw material and finished-goods prices were generally flat. Downward pressure on prices for steel and finished goods with a high steel content continued. Reports indicated a slight expansion in payrolls. Newly created jobs were in technology-related fields.
Real Estate and Construction
Year-to-date sales through June of new and existing single-family homes rose about 8 percent compared to those of the same time period in 2014. The average sales price increased by almost 6 percent. Single-family construction starts picked up over the period. Builders attributed the strong housing market to a potential rise in interest rates, an improving labor market, and rising consumer confidence. Going forward, our contacts expect some softening related to seasonal factors, higher borrowing costs, and spillover from the slowdown in the energy sector. New-home contracts remain concentrated in the move-up price point categories. Builders cited a moderate increase in new-home prices since the beginning of the year, an increase that they attributed to rising construction and land development costs. Several builders commented that the market for spec homes exists, but is limited by supply side factors, including capacity constraints and difficulty obtaining construction financing.
Nonresidential contractors reported continued robust activity over the period, with revenues rising above year-ago levels. Backlogs were described as strong or strengthening, with work booked one to two years out. Demand has been strong across multiple segments: commercial (including office), education, government contracts (including roads), and multifamily housing. Regarding multifamily, there is growing demand for affordable housing as increased rents have priced out low- and moderate-income individuals from select multifamily units. There is concern about the sustainability of the current pace of growth in the construction industry during the next three years. Some builders believe the current cycle could peak by 2017.
Capital spending by general contractors was mainly for new equipment and technology. Materials prices were stable during the past six weeks. For the remainder of 2015, builders anticipate that material prices will increase primarily for concrete and drywall. A majority of our contacts reported a modest expansion in payrolls over the period. That said, the construction industry remains challenged by a labor shortage, including laborers, skilled craftsmen, and construction professionals. The end result is upward pressure on construction costs, including labor, and a reduction in the overall number of bids.
Consumer Spending
General merchandise retailers reported that their revenues were flat over the period. Store traffic continued to decline, while on-line shopping expanded. Active wear and products related to outdoor activities were in highest demand. Restaurateurs experienced an increase in customer visits, particularly in the fast-casual and high-end segments. Retailers stated that revenues were flat or lower than they were a year ago. Revenues during the next three months are expected to increase in the low single digits compared to the prior three months, partly because of back-to-school sales. Vendor and shelf prices were stable, other than increases for eggs and some meat products. Hiring is limited to new-store openings. The retail sector is confronting stiffer labor competition. Higher turnover of managerial staff and hourly workers combined with a smaller pool of qualified workers is driving up wages. These situations are in addition to large minimum wage jumps in select metro areas.
Year-to-date sales of new motor vehicles through July were about 1 percent higher compared to those of a year ago. A strong consumer preference for SUVs and light trucks continued. One auto group owner remarked that while overall pricing is stable, consumers seem willing to invest in higher-priced trim levels and options, especially in SUVs. New inventory is close to matching demand, except for the most popular models, where inventory is light. Looking forward, dealers expect unit volumes will be on par with that of 2014. Year-to-date pre-owned vehicle sales are moderately higher compared to those of last year. Capital spending was primarily allocated for expanding dealer footprints. Payrolls were stable over the period, but dealers indicated that labor markets are tight, putting upward pressure on wages.
Banking
Bankers reported a modest increase in demand for business credit, particularly for CRE loans and, to a lesser extent, M&A financing. Consumer credit was stable over the period, with activity concentrated in auto lending and home equity products. Interest rates for business and consumer credit held steady. Almost all of our contacts noted continued strength in their residential mortgage business, which was biased toward new-home purchases. Little change was reported in delinquencies (already at low levels) and loan-application standards. Core deposit balances remain strong. Margins were characterized as very thin, and banks are looking for creative ways to generate additional revenues. Capital investment by banks was primarily for technology enhancements such as cyber-security. Payrolls increased, on net. Most hires continue to be in higher-skilled positions such as IT, risk management, and regulatory compliance.
Energy
The number of drilling rigs operating in the Marcellus and Utica Shales trended lower over the period, and is currently about 40 percent below its peak level in the fourth quarter of last year. Natural gas production through the first half of 2015 was at a higher rate compared to that of the same period a year ago. Wellhead prices for oil dipped over the period, while natural gas prices have stabilized at a low level. We heard several reports about capital budgets being adjusted downward as companies trim back their exploration and production plans. In contrast, already contracted midstream infrastructure projects are moving forward. Because of weak exploration activity, hiring within the oil and gas industry is modest and tightly controlled. Industry wage pressures have dissipated with the decline in natural gas prices.
Freight Transportation
Reports indicated that freight volume contracted slightly over the period. Declines were prevalent in consumer goods, steel, and energy-related shipments. Growth was seen in intermodal transportation, electronics, and chemicals. Any lingering effects of the West Coast port strikes have dissipated. The outlook for the next few months is for volume to grow moderately along seasonal trends. Prices for fuel and maintenance items were fairly stable over the period. A few reports indicated that capital investment plans have been cut back due to uncertainty about future demand. Spending is mainly for replacing older equipment and maintenance projects. The labor shortage (drivers and service technicians) continued to put upward pressure on wages. Hiring was more for replacement than to add capacity.