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Cleveland: May 2018

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Beige Book Report: Cleveland

May 30, 2018

Summary of Economic Activity
Business activity in the Fourth District expanded at a moderate pace as customer demand held steady and confidence remained high. Hiring improved slightly, though it remained moderate. Contacts continue to report difficulty finding qualified candidates in a broad array of occupations. Employers are raising wages to attract talent, but the increments are moderate and in line with recent trends in the District. Rising commodity prices, especially for lumber and steel, are pressuring goods producers. Construction firms and transportation companies were generally successful at raising their selling prices. Also, retailers managed to increase their prices to cover higher fuel costs. Consumer demand, including for autos, was stable to slightly higher. Housing and commercial real estate markets remained strong, although builders are increasingly concerned about rising input costs. Manufacturing output trended higher.

Employment and Wages
Hiring in the District improved slightly, though the pace remained moderate. Contacts generally reported stable demand for their products and stronger confidence, which resulted in fewer firms reducing headcount. The majority of firms reported replacing staff or making seasonal adjustments. The nonresidential construction sector was a standout, as high project volumes motivated the majority of builders to add workers. Overall, contacts reported continued difficulty finding qualified candidates across a broad array of occupations. Nevertheless, no meaningful changes to wage pressures were noted. In general, employers are raising wages to stay competitive, but the increases are in line with recent trends in the District.

Input price increases gained momentum, especially for construction materials. Builders widely noted ongoing lumber cost increases. Also, the threat of tariffs was reported as having led to hikes in steel prices. To a lesser extent, cement price increases were also noted. As with builders, manufacturers observed similar upswings in metals prices and added rising transportation costs to their list of concerns. Overall, firms' ability to pass along input price increases to their customers did not change much from the previous survey period, although there were notable shifts within industries. Pricing power for banks fell sharply, which contacts attributed to heightened competition. However, an increasing share of construction contacts were able to pass along their increased costs, thanks to strong demand and higher backlogs. Retailers, who had been holding their prices steady for a long stretch of time, managed to raise their selling prices recently to cover higher fuel costs. Transportation companies across the board raised freight rates, as they have been doing in recent months, without pushback from customers.

Consumer Spending
Consumer demand increased modestly during the survey period. Seasonal factors aside, clothing retailers, department stores, and food retailers noted stable demand. Retail sales activity in the District was reported to be in line with or weaker than activity seen throughout the United States. One grocery chain operator noted that population loss in his region and increased use of alternatives to physical store locations had led to weaker regional sales activity relative to the rest of the country. Looking ahead to the next several months, most respondents expect stable demand. However, uncertainty surrounding tariffs on Chinese imports is a source of concern for some retailers that have operations overseas or use imported goods as inputs.

In the auto industry, customer demand improved modestly, thanks to improving labor markets, better weather, and higher consumer confidence. Furthermore, most auto dealers expect customer demand to remain stable going into the next quarter. Some auto dealers reported weaker sales in the region relative to the rest of the country, a situation which they partly attributed to prolonged cold weather conditions. Additionally, some auto dealers indicated that lenders are tightening credit and that loan and lease payments made by consumers are rising because of higher interest rates.

Most contacts in manufacturing indicated that demand was better during the past two months because of strong consumer confidence, seasonal factors, and the fear of future price increases leading to accelerated purchasing. Many fabricated metals and durable goods producers noted increased demand for heavy machinery and other capital goods. Some even moved up capital expenditures and plant expansions to keep up with increasing demand. Extractive industries, transportation equipment, and agriculture were noted as strong end markets. Because of trade-related price increases, most contacts did not believe that this strong demand would continue during the remainder of 2018. Finished goods inventories were down because of increased demand and uncertainty about future prices.

Real Estate and Construction
Homebuilders reported that overall customer demand was either steady or improving and that current trends are expected to continue into the next few months. A stronger job market, higher mortgage rates, and rising home prices were noted as enabling and motivating purchases. Financing conditions for homebuilders were reported to be stable. Real estate agents noted stable demand for first-time home purchases and Section 8 vouchers. Some contacts reported increases in housing inventory. Sales of homes in the lower price range strengthened, according to some contacts, while sales of higher-priced homes softened. Financing conditions for homebuyers remain generally stable.

Business conditions for nonresidential builders improved from what was an already strong environment. Contacts noted decreased uncertainty and pent-up demand as supporting activity and leading to increased backlogs. One contact noted his company had a record month for contracts because of manufacturing and distribution projects. Another contact noted a recent uptick in demand for speculative lease products.

Financial Services
Bankers reported stronger demand for financial services as construction lending, home equity lines, and mortgage activity picked up with the warmer weather. Demand for commercial credit increased as customers drew down cash reserves at the beginning of the year and pivoted back to relying on credit. Business confidence remained high, and some contacts reported that their customers increased their capital expenditures. Core deposits increased over the past two months. In some areas, deposit increases were driven by royalty checks and bonuses from increased shale activity. That aside, most contacts cited seasonal changes following tax filing season as boosting deposits. Businesses that had drawn down deposits to pay taxes at the beginning of the year have since increased their balances, while many consumers received refund checks that they have yet to spend. In addition, one contact noted that increased competitive pressure had led to higher deposit rates and special incentives to win deposits from nonbank competitors.

Nonfinancial Services
Nonfinancial services firms reported strong demand, thanks to generally favorable economic conditions. Notably, transportation firms cited an uptick in industrial production, construction, and activity in the energy industry as leading to higher freight volumes. Railroad contacts attributed some of their volume growth to ongoing capacity constraints in the trucking industry. Within the professional services sector, business advisory firms and software developers reported the strongest activity, which they attributed to improved business earnings, profits, and confidence. One contact noted increasing digital transactions as driving demand for his firm's software. A number of professional services firms reported boosting their capital investments, namely for cybersecurity and IT infrastructure.

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