Beige Book Report: Cleveland
April 13, 2016
On balance, the economy in the Fourth District expanded at a modest pace since our last report. Manufacturing output weakened slightly. The housing market improved, with higher unit sales and higher prices. Nonresidential contractors reported very favorable results for the first quarter of 2016. Midway through the first quarter, consumer spending at retail outlets and restaurants increased on a year-over-year basis. Motor vehicle sales continued to move higher. The demand for credit by commercial and retail customers was unchanged. Although regional natural gas output remains at historic highs, some upstream oil and gas companies are finding it more difficult to access credit. Freight volume expanded along seasonal trends.
Payrolls showed a modest contraction on balance during the past six weeks. Robust increases in construction jobs were offset by declines in manufacturing, energy, and freight transportation. Wage pressure was most evident in the entry-level and high-skilled segments. Staffing firms reported an increase in job openings and placements, primarily in healthcare and technology. One staffing firm noted that most openings were for part-time jobs. Overall, input and finished-goods prices were steady. Energy and commodity prices drifted lower.
Manufacturing
Reports indicated a slight weakening in manufacturing output on net. Key factors tempering output growth include the strong dollar, low oil and natural gas prices, and softness in some emerging market economies. A rise in disposable household income is seen as a primary factor supporting growth. Activity for suppliers to the motor vehicle, aerospace, commercial construction, and housing industries remains elevated. Year-to-date production through February at District auto assembly plants rose 8 percent when compared to that of the same time period during 2015. Reports from the steel industry were little changed. Overcapacity combined with weak demand from the oil and gas industry and machinery producers kept steel shipments down. Although demand for manufactured goods has become somewhat more tenuous since our last report, the outlook by our contacts has improved. Sentiment is weighed toward an expansion in the upcoming months.
A modest increase in capital budgets was reported over the period. Monies were allocated primarily for new equipment and maintenance projects. Capacity expansion was cited by several contacts. Downward pressure on energy and commodity prices helped push input costs lower. Finished-goods prices moved slightly lower in response to rising competition and declines in raw material prices. On balance, manufacturing payrolls shrunk across job categories. Firms cutting employment cited a need to reduce costs because of weakened demand. Other than cost-of-living increases of 2 percent to 3 percent, wages held steady.
Real Estate and Construction
Year-to-date sales through February of new and existing single-family homes increased 10 percent compared to those of a year earlier. The average sales price increased by more than 3 percent. Several builders and real estate agents attributed robust sales to low interest rates and continued pent-up demand. A few commented that recent financial market volatility had negatively impacted consumer confidence and may have dampened new-home sales. Estimates of single-family construction starts rose moderately over the period. New-home contracts remain concentrated in the move-up and high-end price point categories. New-home prices increased over the period, a circumstance which builders attributed to rising labor (including subcontractor) and material costs. Homebuilders and real estate agents expect further improvement in housing market conditions in the upcoming months.
Nonresidential contractors reported very favorable results for the first quarter of 2016. The unusually mild winter resulted in higher revenues than expected. Financial market volatility had reportedly little impact on customers' willingness to move forward with projects. Construction project pipelines are strong and backlogs continue to build. Several builders expressed concern about their capacity to take on additional projects. Demand is broad based, though it is weighted toward higher education- and healthcare-related projects. In general, contractor revenues for all of 2016 are expected to be on par with or higher than those of a year ago. Over the past couple of months, many general contractors were able to increase their billing rates with little pushback. These higher rates enabled them to cover rising labor and development costs and to build margins.
Capital budgets are allocated primarily for expanding capacity, including investments in technology, equipment, and plant expansion. General contractors reported rising prices for concrete and drywall. Prices declined for other commodity-based products such as shingles and diesel fuel. Otherwise, materials costs were stable. Reports indicated robust hiring over the period across job categories. Hiring was for newly created positions and replacement. The current pace of hiring is expected to continue into the summer months. Wage pressures are mainly limited to craft workers and project managers. Subcontractors remain very busy. They are challenged by labor shortages, and, as a result, many are selective when bidding. In order to cover rising labor costs and to widen margins, most subcontractors are increasing their rates.
Consumer Spending
Midway through the first quarter, consumer spending at retail outlets and restaurants increased when compared to that of the same time period a year ago. The increase was attributed in part to expanded promotional activity, a stronger product assortment, and milder weather. Segments selling particularly well included home furnishings, women's apparel, and health and wellness. Grocers noted that the unusually mild weather had a negative impact on food sales. Same-store revenues for the second quarter are expected to increase compared to those of a year ago. Vendor and shelf prices were fairly stable, other than declines in gasoline. Meat and dairy prices decreased in recent months, but there was little pass-through to the consumer because the lower wholesale food prices were offset by higher labor costs for some restaurants and grocers. Changes in staffing were limited to store openings and closings. Retailers continue to cope with stiff labor competition. Higher turnover combined with a smaller pool of qualified workers is driving up wages.
Year-to-date sales through February of new motor vehicles rose 7 percent District wide compared to those of a year ago. Purchases of light trucks and SUVs continue to dominate the market. Dealers expect new-vehicle sales to remain stable at high levels this year. Transaction prices rose slightly during the past couple of months, but manufacturer incentives have been keeping pace. Leasing continues to gain in popularity. In Ohio, 45 percent of all new-vehicle transactions are leases. As the spring selling season approaches, dealers are adding to payrolls, but the market for sales and service personnel is tight, putting upward pressure on wages.
Banking
Reports showed little change in business and consumer credit conditions, on net, over the period. On the commercial side, demand for C&I loans increased, while the pace of growth for CRE loans slowed. In retail banking, reports indicated that consumers are becoming more cautious. That said, bankers saw a seasonal pickup in mortgage activity, auto lending, and drawdowns on home equity products. Little change was reported in loan-application standards and delinquencies, which are at very low rates. On balance, core deposits increased during the first quarter. However, several bankers said that business core deposits declined or their rate of growth fell below expectations. These losses were partially offset by public fund deposits. Capital budgets increased slightly over the period. Spending was primarily for technology, including applications in mobile, IT, and regulatory compliance. Payrolls declined: Newly created jobs in commercial lending and regulatory compliance did not offset job cuts in retail. Some wage pressure is being felt at the entry level and for higher-skilled technology jobs.
Energy
The number of rigs operating in Marcellus and Utica Shales was little changed after declining precipitously over the past year. Nonetheless, regional natural gas output remains at historic highs. Reduced demand owing in part to the unusually warm winter has boosted inventories and put further downward pressure on wellhead prices. Because of the sharp drop in wellhead prices, asset values are being marked down, a situation which affects credit to the industry. The end result could be additional bankruptcies. Hedges at higher prices began rolling off at the start of 2016, exposing natural gas producers to lower prices. Significant layoffs in the upstream segment continued. Reports indicate that investment in pipeline and mid-stream projects moved forward, but at a slower pace. Not much change is expected across the sector during 2016.
Freight Transportation
Freight volume expanded slightly over the period, though some of the increase was seasonal. However, compared to a year earlier, freight volume is lower owing to weakness in the energy and steel industries and lower demand for industrial goods generally. Auto-related volume remains strong. Our contacts anticipate a modest expansion in volume during the upcoming months. Overcapacity is forcing some haulers to lower shipping rates. Diesel fuel surcharges have been largely eliminated. Additional reductions were made to capital investment budgets, with spending allocated mainly for maintenance projects and equipment. Some of the spending is in response to regulatory requirements. Freight payrolls drifted lower. A majority of our contacts reported cutting jobs in select areas based on changes in service-level demand.