September 11, 2002 Federal Reserve Districts Fourth District - Cleveland

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The Fourth District's economic activity showed mixed signals during July and August. Homebuilding activity remained strong; shipping activity continued to increase; automobile and affiliated manufacturers reported positive conditions, as did home goods manufacturers; and, with one exception, contacts that previously reported they were planning to increase their capital expenditures indicated those plans were still on track. On the other hand, retail sales faltered during the back-to-school season despite strong performance in June and July; commercial construction continued to struggle; banking conditions remain mixed; and manufacturers outside the auto, automobile component, or home goods industries reported declining conditions. For the most part, however, contacts are "guardedly" or "hesitantly" optimistic about future economic prospects. Although third-quarter expectations varied, most contacts believe 2002 will see a strong finish. Many continue to worry about consumer confidence amid negative economic and political news, but they appeared less concerned about declining confidence than in the previous report. Labor markets showed little change since the last report. Most contacts reported a plentiful labor supply, and the few looking to hire reported having no difficulty finding skilled labor. No wage pressures were reported. Contacts again cited health care and pension benefits as a point of contention between unionized labor and employers. Regarding prices, contacts in the trucking and shipping industry noted that they were gaining the ability to set prices due to increased demand and reduced industry capacity. After leveling off in late May and early June, steel prices have remained stable. Otherwise, contacts reported that July and August prices continued the trends seen during the first half of 2002. Health care prices and insurance premiums continued to rise. Manufacturers continued to note falling input prices. Input prices in commercial construction and remained stable and retailers reported that their prices were steady. Manufacturing Despite improving manufacturing conditions through July, contacts indicated the sector faltered in August. In the Cincinnati area, contacts reported the worst industry conditions yet in 2002. Manufacturers that supply the auto industry or create consumer goods for the home reported strong business, but most other manufacturers reported declining conditions and falling new orders. They expect conditions to be weaker in the third quarter than in the second, but expect improvement in the fourth quarter. Most auto makers in the Fourth District have completed their retooling and plant changeovers and are now producing 2003 models. Aside from scheduled changeovers, no work stoppages were reported at any plant during July and August. Some plants continue to report overtime hours. Steelmakers reported no change in conditions since last report: Prices, wages, demand, production, and size of the labor force were steady in July and August. Retail Sales The optimism among retailers that was seen in the last report appears to have dissipated with slowing sales in July and August. Back-to-school sales have been disappointing, with weakness spread across most product categories. As in the winter and early spring, unseasonably warm weather may be dampening apparel sales. Products associated with homes (furniture and electronics) and jewelry sold well despite the recent downturn in overall sales. For the most part, retailers are maintaining very lean inventory positions and running very few promotions. Contacts expected sales figures for August 2002 to be 1 percent to 6 percent below August 2001. The two contacts that anticipated a year-over-year increase in August sales suggested the figure will be at the low end of their prior forecasts. Expectations for the year have been downgraded: Retailers expect 2002 sales to be flat or slightly above 2001. In contrast to general retail reports, automobile retailers reported stronger-than-expected sales in August. Sales were stronger over the summer than at the beginning of the year, and year-to-date sales have shown improvement over 2001. Dealers reported very low inventories (60 days or less) in preparation for the 2003 models that go on the market in September. Provided dealer incentives remain in place, contacts anticipate sales through the rest of 2002. Construction District homebuilders continued to report strong sales amid a favorable interest rate environment. Most contacts indicated their sales have been steady and, to date, above last year's totals. Contacts at smaller firms, however, noted that although customer interest and traffic remained high, it was more difficult to convert interest into sales in July and August. Contacts at larger firms indicated they have relied heavily on incentives to convert interested customers into buyers. Nevertheless, homebuilders remain optimistic about the outlook for the rest of the year. Commercial builders, on the other hand, continued to report unfavorable industry conditions through the survey period. Contacts reported that current economic uncertainties have caused companies to postpone any major building projects. Although companies are inquiring about building projects, they are not willing to begin new projects until the economic environment becomes more stable. The few commercial projects that are expected to proceed soon are drawing considerable competition, not only from firms within the state where the project is located (as is typically the case), but also from firms in other states. Trucking and Shipping Although shipping activity showed no increase since the last report, contacts continued to characterize demand as strong. Year-to-date shipping activity is higher than the same period in 2001 and is nearing the average of the past five years. Contacts noted that current demand, combined with a decrease in industry capacity over the last six quarters, has created a favorable price environment: Carriers have been able to raise prices 1 percent to 1.5 percent and make those increases stick. Most price increases are attributed to personnel costs-specifically, rising insurance premiums. Rising diesel prices were noted as a minor concern. Although companies are absorbing part of the increase, contacts noted that they would be able to increase their diesel surcharges to pass the cost onto their customers should that become necessary (as was the case through most of 2001). A smaller segment of the trucking and shipping industry, less-than-truckload carriers, reported that while they had seen improvement in the industry since the start of the year, the pick-up in their business had not been as strong as in the shipping industry as a whole. As evidenced by the recent bankruptcy of a major carrier, less-than-truckload carriers reported that despite improved conditions in recent quarters, they have had difficulty recovering from earlier financial problems encountered in 2000 and 2001. Banking Although most contacts reported no change in their net interest margin, two indicated a slight tightening. An already weak demand for commercial loans appeared to have slipped further over the last six weeks. Reports on the consumer side remained mixed: Roughly half of our contacts reported higher year-over-year demand, while the other half reported decreased demand. Those noting an increase in demand attributed the rise to refinancing and new loan activity. Most contacts reported little change in the rate of loan delinquencies and the credit quality of applicants--conditions remain much the same as at the beginning of the year. Likewise, bankers report aggressive competition for borrowers across all lines of lending. Return to top Philadelphia Richmond