April 20, 2005 Federal Reserve Districts Eleventh District--Dallas

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Eleventh District economic activity expanded moderately in March and early April. The manufacturing sector continued to rebound, while activity in financial and business services continued to expand at the same pace reported in the last Beige Book. Retailers said they were disappointed with recent sales growth. Residential construction continued to cool from last year's strong pace, amid signs that commercial real estate markets were slowly improving. The energy industry strengthened further, and contacts said exploration activity was expanding on the belief that energy prices would remain high. Agricultural conditions remained generally positive. While activity was strong in some industries, in many sectors contacts reported slightly less optimism about the strength of activity for the rest of the year, largely because demand has not been picking up as quickly as they had hoped. Prices Energy prices were up despite rising U.S. inventories of crude oil and refined product. Crude oil prices rose from $47 per barrel to a high of $57 per barrel since the last Beige Book, while domestic crude inventories built rapidly toward five-year high levels. Prices for both distillates and gasoline rose with the price of crude oil. Sales of gasoline continued to be very strong despite prices that increased from $1.95 to $2.19 per gallon at the pump between early February and late March. Gasoline inventories are far above five-year highs, which contacts say is unusually large. Distillate inventories, including heating oil, were below normal for most of the period, but built back toward the five-year average in early April. Natural gas prices were up from near $6 per million Btu in early February to near $7.25 in early April. Natural gas inventories are now 22 percent higher than the five-year average with the heating season rapidly coming to an end. Most manufacturing and service sector contacts expressed concern about rising cost pressure for utilities, transportation and petroleum-based products, such as Styrofoam and plastic bags. A weaker dollar contributed to increases in the cost of some imported raw materials. The ability of firms to push through these cost increases remains mixed. Some companies have reduced energy consumption to mitigate cost increases, and others have increased selling prices and/or reduced profits. Uncertainty about energy prices has added caution to the outlook for activity. Labor Market The labor market continued to slowly improve, and there continued to be reports of shortages for a few types of workers. Still, most industries said there was little or no wage pressure. The costs of benefits--particularly for health care--remain a concern for most firms, but contacts reported that the rate of increase had slowed. There were still reports that the accounting and energy industries were having difficulty finding qualified workers, and competition between banks for quality workers is bidding up salaries and benefits. A few firms say they are considering capacity expansion that would require adding workers, but are waiting for demand to strengthen before making these investments. Manufacturing Manufacturing activity continued to pick up--with strong demand for food products, some construction-related products and activity to support the energy industry. Sales of fabricated metals increased over the past month, partly because of an increase in the availability of steel. Producers of cement, clay, brick, tile and glass continued to report robust demand for their products. Demand for paper products softened slightly in recent weeks. Contacts reported reduced demand for corrugated boxes for durable goods. Demand for primary metals and lumber was unchanged. Lumber contacts reported that inventories are high. Apparel manufacturers said demand was unchanged over the past few weeks, which is lower than a year ago. Stiff global competition continues to force producers out of the apparel business. One contact expects demand to drop by about 15 percent during the summer and plans to lay off some workers at that time. There was little change in the growth of orders for most high-tech products. A rise in orders for communications equipment, industrial switches and medical instruments stimulated a slight pickup in demand for semiconductors. Sales of consumer electronics and personal computers were reported as unchanged. Demand for basic petrochemicals continued to be very strong. Petrochemical prices are up, and producers say that margins are very strong. New capacity is not expected to provide price relief until mid-2006 at the earliest. Refiners reported that strong product demand and limited capacity allowed increased profits on both light, sweet and heavy, sour crude, despite sizable increases in crude oil prices. Services Demand for accounting services was strong, driven mostly by firms complying with tax and regulatory laws; but there was some pickup in transactions services. Law firms reported no change in the demand for their services. Temporary staffing firms said demand was mixed over the past six weeks. Activity was still sluggish in the major metropolitan areas but picked up outside the metropolitan areas. Demand for trucking has leveled off but remained above last year's levels. Railroads and airlines reported strong demand. Airfares were up in some markets, but contacts said fare increases were too low to cover growing fuel and other costs, such as escalating landing fees. Respondents say continued financing for bankrupt carriers is hindering a return to profitability. Retail Sales Most retailers reported disappointing sales growth, which they attributed to a combination of wet weather, an early Easter and higher gasoline prices. Sales of home goods were particularly slow. Still, retailers said selling prices were higher than a year ago. Contacts say this was largely the result of higher input costs but some also reported higher profit margins. Auto sales were weaker than a year ago, and dealers said inventories are slightly too high. Sales have been softest for domestic brands, SUVs and trucks. Most manufacturers say they have taken incentives off of the market because they can not afford to continue them. Construction and Real Estate Demand for new homes remained at or just below last year's record levels, while sales of existing homes were still robust. Builders say competition is limiting pricing power, except in Austin where demand is strong. Rising building costs continued to squeeze builders' margins. Overbuilding in apartment markets remains a concern, according to contacts, particularly in Dallas and San Antonio, but development in Austin is in line with demand. Leasing activity in office markets continued to gain steam, mostly due to expansion by smaller tenants. In Dallas, pockets of strength are spurring plans for new office construction. Financial Services Overall lending activity was unchanged. There continues to be a lot of money available for investing in commercial real estate, according to lenders. Competition for good investments remained stiff, leading lenders to be creative with contract terms to attract borrowers. Otherwise, contacts say that there have not been significant changes in lending standards and delinquencies remained unchanged. Energy Energy activity continued to strengthen. Drilling plans have moved up faster than predicted earlier in the year. The U.S. rig count is at the highest point since 1986. Pricing power continues to strengthen for oil services, and many firms have begun to consider expanding capacity. Many say that they won't expand, however, until they are actively turning down work. Contacts say there are more signs that the industry believes higher oil prices will last because price movements are being driven by the market bumping up against capacity constraints rather than by an OPEC production cut. As a result, producers are considering oil and natural gas from coal-bed methane, tight gas, tar sands and gas shales. Service companies are interested in creating new products that support this unconventional resource development. Agriculture Producers reported good demand for livestock and favorable prices. Range and pasture conditions improved. Prices remained weak for most District agricultural commodities, but there were reports of some improvement in the price of wheat, corn and soybeans. Land preparation and planting was active in most parts of the District. 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