June 15, 2005 Federal Reserve Districts Fourth District--Cleveland

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Through the eight weeks in April and May, District business conditions continued to show some unevenness across sectors, but were still supportive of growth on net. In the manufacturer sector, activity at the District's durable goods facilities generally continued its recent increases, and for the first time in recent reports, notably more nondurable goods producers indicated improvements in production. Reports from retailers continued to be varied, though discounters saw slightly better sales than earlier this year. Commercial builders continued to report improvements in conditions, though residential builders saw sales continue to decline slightly through April and May. At the District's banks, commercial loan demand remained robust. And demand for shipping services rebounded in recent weeks, after slowing slightly in March and April. Input cost increases continued to moderate in April and May, though interestingly, some firms appeared more able to pass input cost increases on to their end consumers. Hiring throughout the District remained modest in most industries, though staffing-services companies reported some increases in available openings. Manufacturing Production at the District's durable goods facilities continued to increase in April and May, and was typically above year-ago levels. Moreover, most contacts expected conditions to continue to improve throughout the year. Nevertheless, activity at the District's steel facilities fell throughout the eight weeks ending May, and for many firms steel shipments are similar to or less than at this time last year. As indicated in the previous report, contacts again attributed the recent slowing to an accumulation of inventories, customers putting off purchases in the hope of buying cheaper steel, and weakening demand in some sectors, notably automobiles. Weakness in automobile production, however, was less evident throughout the District, where there were gains in year-over-year production for the two-month period ending in May. In general, nondurable goods manufacturers also reported slight increases in activity in recent weeks, with production levels slightly above those of this time last year. Many firms anticipate steady improvements in production throughout the rest of 2005, though the current pace of new orders growth does not indicate an improving production trajectory. Firms that supply the auto industry are anticipating weaker production. As in recent reports, hiring among manufacturers remained modest, with durable goods producers increasing staff sizes more often than their counterparts in nondurable good production. Still, the use of overtime appears to have increased in April and May for durable and nondurable goods producers alike. Firms that attempted to hire noted more difficulty attracting adequately trained candidates. Regarding increases in capital outlays, most contacts indicated that their firms were likely to spend according to their previously budgeted plans. Firms typically indicated that there was a limited need to expand or replace existing equipment, as many had made significant capital outlays over the last few years; few cited the partial-expensing tax provision that expired in 2004 as a significant factor in their decisions. In general, input cost increases continued to abate, but costs are still up substantially from a year ago. Steel prices, in particular, appear to have fallen noticeably, with prices for some steel products falling below last year's levels. Energy costs, however, continued to increase in recent weeks. Firms continue to have some success passing previous rounds of input cost increases along to their customers. Retail The economic environment for retailers continued to be mixed in April and May. The District's discount retailers saw some improvement in sales in recent weeks, though still-high gasoline prices and unseasonably cool weather were thought to have dampened sales somewhat. Most contacts indicated that their sales were unchanged or slightly above year-ago levels. While sales at specialty stores and grocers were above year-ago levels, sales at the District's department stores continued to be below expectations, and were less than at this time last year. Accordingly, department-store contacts cited increases in promotional and markdown activity; this was true for apparel retailers as well. After improving sales in March and April, District automobile dealerships reported sluggish sales in May. Sales seemed to be much weaker in the District than was true nationally. And for the first time in recent reports, sales trends for trucks and SUVs were poor. Inventories were characterized as high at dealers selling domestic makes. In general, incentives also remained generous at District dealerships. Construction Many homebuilders saw a slight weakening in sales in April and May. Relative to this time a year ago, homebuilders typically reported that sales were flat or falling. Contacts that also operate outside of the District indicated that market conditions were weaker in the Midwest than elsewhere. And some builders reported that the market for lower price-point homes was softer than that for other segments. Several contacts reported that their customer cancellation rates had risen higher than their historical average. While increases in materials costs moderated, costs remained above the levels of last year. Most builders do not expect business conditions to change markedly throughout the remainder of 2005. Nonresidential builders, by contrast, experienced somewhat stronger growth than homebuilders. Most commercial contractors reported an increase in activity in the second quarter, as well as on year-over-year basis. Several builders cited public projects and manufacturing as areas where demand was especially strong. Backlogs are also up for most builders. Regarding materials prices, steel price pressures have eased, though costs for petroleum-based products have continued to increase in recent weeks. Nevertheless, contractors report that it is easier to pass input cost increases on to their end consumers. Though most firms expect conditions to continue to improve throughout the year, hiring and additional capital investments remain limited. Banking At banking institutions in the District, commercial loan demand appeared to strengthen slightly in April and May. One contact noted that the number of its prospective borrowers had grown significantly since the start of the year, and another institution in the District reported its largest ever pool of prospective commercial borrowers. Demand was described as broad-based, with some seasonal increases in demand connected with commercial real estate. By contrast, consumer borrowing was more mixed across District institutions. Some strengthening in the demand for home-equity products and mortgages was mentioned. Banks' core deposits were generally flat or falling, and credit quality continues to be characterized as high. Trucking and Shipping The slight softening in this sector's business conditions that was reported for the late winter months continued through the end of April. However, demand reportedly rebounded for trucking and shipping services firms in May. Demand was generally broad-based, though some contacts noted weaker-than-expected demand from firms in the automotive sector. Contacts expect conditions in the industry to remain strong throughout the year--one contact called this period the best in the industry in 20 years--but think that growth will be constrained by an inability to attract and retain workers. Wage rates, nevertheless, remained stable. Fuel costs continue to be high, but have been offset through surcharges. Contacts' capital spending levels were largely driven by the need to comply with coming changes in emissions regulations. Return to top Philadelphia Richmond