January 16, 2008 Federal Reserve Districts First District--Boston

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Closing out 2007 with mixed results, business contacts in the First District express considerable uncertainty about 2008. Manufacturers and business consultants mostly report recent revenue results similar to earlier in the year and meeting their expectations but say they expect the first half of 2008 to be slower. Contacted retailers cite a wide range of sales results in November and December, with "challenges" ahead. Residential real estate markets remain soft. Cost pressures, especially from oil prices, are widely noted; some retailers and manufacturers `expect to pass them along in higher prices. Manufacturers expect to increase wages in 2008 about the same or slightly more than they did in 2007, while selected business services firms plan to keep a somewhat tighter rein on their pay increases in 2008 than in 2007. Retail First District retailers report mixed sales results for the months of November and December. A contact in the hardware business says business has been "truly fantastic" because of heavy snow, while other respondents indicate inclement weather contributed to weaker than expected sales. Many retailers report strong sales in the week after the Christmas holiday. Some respondents note an increase in gift card purchases, continuing a trend of the past few years; gift cards are generally not reflected in sales numbers until redeemed. Inventory levels are mixed, but several contacts note they are higher than expected because of decreased sales. Headcount is also mixed; several contacts report hiring in line with new store openings, while another--experiencing weak sales--plans layoffs in the near future. Capital spending is varied, with a couple of retailers shifting their focus to refurbishing current stores. The majority of contacted First District retailers observe varying degrees of price pressure, with modest increases being passed along to the consumer where possible. In particular, most respondents indicate they are feeling both direct and indirect effects of rising oil prices, including increased surcharges and decreased consumer spending. Overall, retail respondents are cautious in their outlook and expect early 2008 to be challenging. Most retailers are worried about the impact of rising energy costs on both consumer confidence and disposable income. However, some are still cautiously optimistic, and one contact said that it surprises him that the consumer has been "so wonderfully resilient" over the last several months. Manufacturing Manufacturers and related services providers headquartered in the First District report that year-over-year revenue changes in fourth quarter 2007 remained similar to those in the prior quarter. Sales of aircraft equipment and pharmaceuticals continue to grow at a robust rate, while demand for home construction products continues to decline. Several manufacturers of consumer products or consumer product inputs say they were relieved to experience somewhat improved business late in the fourth quarter. Makers of high-tech equipment and instruments indicate that sales trends remained solid through yearend, but they sense some hesitancy on the part of their customers going forward. Sales to western European markets appear to be slipping a bit, while other foreign sales remain on a positive course. Most manufacturers report that materials costs are rising--especially for plastics, metals, grains, and energy--and they anticipate further escalation in coming months. Some contacts for whom such inputs account for a sizable component of overall costs describe these prices in terms such as "astronomical" or "out of control." For the most part, responding firms have been able to increase their selling prices somewhat in response to higher materials and energy prices, and they plan to continue to announce increases in 2008. However, about one-half of respondents express at least some degree of concern about growing margin pressures or obstacles to raising prices. Manufacturers continue to adjust their U.S. headcounts only minimally. Average wage and salary increases are expected to remain in the range of 3 percent to 4 percent, but some firms employing mainly high-end technical workers are planning somewhat higher pay raises in 2008 than in 2007. More than one-half of the respondents say they will increase their U.S. capital spending in 2008, especially for research, development, and testing of new products and adoption of improved technologies. Most of the remaining firms intend to hold domestic investment steady. Manufacturers and related services providers express a variety of views on their prospects in the coming 12 months, with some emphasizing that negative economic developments in late 2007 have led to growing uncertainty. Respondents increasingly voice concerns about margin pressures, the impacts of higher oil prices on the U.S. economy, or the ripple effects from the weak housing market and rising foreclosures. On the other hand, concerns about the availability of business credit seem to have abated, compared to the prior two Beige Books. Selected Business Services The majority of contacts at First District consulting firms report that fourth quarter revenues were strong, or stronger, than expected. Demand for consulting services from the airline industry and U.S. pharmaceuticals is robust; however, demand from the financial services sector has weakened. More generally, firms report that elevated economic and domestic political uncertainty is prompting their clients to delay committing to projects until they have a clearer picture of their situation. The majority of contacted firms have put through modest price increases, while the remainder have left bill rates unchanged, citing a competitive market environment. Input costs are relatively stable. Headcounts at the majority of New England firms are growing, but at a slightly slower rate than revenues. Most respondents plan to increase wages by between 2 percent and 5 percent in 2008. The majority of New England business services respondents expect to see lower revenue growth in the first half of 2008 than they had in 2007, while the rest anticipate stable growth. Commercial Real Estate The common theme of respondents this time is that conditions have not changed much since the last report, either for the better or for the worse. In general, credit is much tighter than it was in the first half of 2007. The ratio of cash flow to building value in Boston is said to have edged up about 100 basis points over the low levels seen in mid-2007. This movement reflects the tighter credit situation and is consistent with reports of price depreciation for office buildings in Boston, Hartford, and Portland. In most markets and sectors, rents and vacancies are flat and sales activity is slow. Although there are growing signs of a slowdown in non-residential construction in all markets, strong construction activity by hospitals and universities in greater Boston has mitigated the slowdown there. Reports are conflicting about the apartment market in Boston, with one contact describing it as "relatively strong" and another saying it is "weaker than expected." The consensus expectation is that 2008 will be a slower year for commercial real estate than 2007. Sales volume and construction are expected to be below 2007 levels, prices will appreciate more slowly or will fall outright, with office building prices the most vulnerable. Rent growth is expected to slow or stall, absorption to slow, and vacancy to hold steady or increase. The key factors that contacts are watching are job growth and credit supply. Residential Real Estate New England residential real estate markets showed substantial drops in home sales in October and November compared to the same months in 2006. Comprehensive data (including foreclosures) showed sales declines of 17 percent to 18 percent year-over-year in Connecticut and Rhode Island in October. Massachusetts and Maine single-family home sales declined by double-digit percentages in October and November compared to a year earlier. New Hampshire sales decreased by just under 10 percent in those months. Median home price changes are somewhat more varied in New England markets. Comprehensive data for October and November show median single-family prices in Massachusetts down 6 percent year-over-year. Similar data indicate Connecticut prices decreased 1 percent in October compared to the year before, while Rhode Island prices dropped 10 percent. State Realtors' data (including only multiple listings) show a 1 percent year-over-year price decline in New Hampshire and a 1.6 percent year-over-year price increase in Maine in November. In Massachusetts and Connecticut, condo sales are also down, although median condo prices have actually increased somewhat year-over-year, as the high end of the market is still relatively strong. Contacts in Massachusetts remain concerned that negative media reports are causing buyers to avoid the housing market. Tighter lending standards are also said to be having a negative effect on sales. Several contacts expect New England residential real estate markets to remain weak well into 2008. Return to top Summary New York