October 15, 2008 Federal Reserve Districts Eleventh District--Dallas

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The Eleventh District economy slowed markedly in late August and September. Many businesses were affected by temporary production disruptions caused by hurricanes Gustav and Ike. In addition, softer demand and increased uncertainty caused some firms to reduce investment and payrolls. Moreover, a number of contacts reported recent credit market developments had led them to re-evaluate future plans amid slower growth nationally and internationally. Outlooks were more pessimistic than in the last survey, with respondents citing many "unknowns" on the horizon. Prices Reductions in energy and commodity prices eased cost pressures in many industries, and transportation expenses were less of a concern than in recent surveys. Fewer firms reported pass-throughs, although several were still trying to recoup cost increases from earlier in the year. Some respondents in industries with soft demand noted recent cost reductions will be passed on to customers, and retailers were offering more favorable promotions. Construction contacts said high costs remain a major issue, but some expect costs to edge down as the number of projects ebb. Crude oil prices fell from $115 per barrel in mid-August to below $100 by the first week of October. Natural gas prices also edged down, in part due to high inventory levels. Despite a brief spike during recent storms, the national average price of gasoline fell about 11 cents per gallon, and diesel about 24 cents, during the survey period. Contacts expect soft demand for petrochemicals to lead to weaker prices for ethylene and polyethylene in coming weeks. Labor Market The labor market loosened slightly over the past six weeks, and wage pressures were mild. While most District respondents said employment levels remained steady, there were reports of layoffs in several industries, including primary and fabricated metals, residential construction-related manufacturing and auto dealers. Contacts said skilled financial employees were easier to come by, a result of mergers in the financial industry. Staffing services firms said orders for direct hires were down, although temp activity was holding up. Pockets of tightness remain, however. Labor shortages are prevalent in the energy sector, and firms continue to steal workers from other industries. Some manufacturing respondents still reported difficulty finding workers with highly specialized skills. Driver shortages persist, although lower diesel prices were enticing some drivers and operators to return to work. Staffing firms noted difficulty filling upper-level positions. Manufacturing Many Eleventh District manufacturers reported interruptions in business activity from hurricanes Gustav and Ike. In addition, the credit market squeeze added uncertainty to company outlooks. Producers of residential construction products said new orders and shipments continued to fall due to worrisome conditions in housing markets. One company had laid off salaried workers for the first time in 20 years. Some respondents expressed concern over builders' ability to pay existing contracts with suppliers or renew lines of credit. Metals producers said the falloff in demand had worsened recently, in part due to slower growth worldwide. High-tech manufacturing respondents reported mixed conditions, although overall production and new orders have declined slightly since the last survey. One contact noted the market for memory chips weakened further due to the recent slowdown in the global economy. The current financial situation is reflected in a more cautious business environment, with the possibility of fewer orders from retailers for the upcoming holiday season. Food product manufacturers said sales were solid, although there were reports of temporary production cuts and export delays due to the storms. Specialized transportation equipment firms said activity remained stable despite demand disruptions from clients tied to the Houston Port. Orders for paper products were mixed. Refinery production in Texas and Louisiana was severely disrupted by the back-to-back storms, as plants were forced to reduce output or shut down. Contacts say damage was light, and all refineries but one are operating or restarting production. Still, the storms left inventories at record lows, leading to spot gasoline shortages in the southeast and on the east coast. Retail Sales A combination of factors--weather disruptions, consumer uncertainty and financial concerns--led to mostly weak reports from retailers. Sales of consumer durables were down markedly according to contacts, and the back to school season did not provide the usual bump. Discounters continued to fare better than most. Respondents said food and gasoline sales remain the primary drivers, while sales of discretionary items are flat to down. Outlooks were fairly pessimistic, yet outside of storm-damaged areas sales are somewhat better in Texas than elsewhere in the country. Auto sales continued to fall, leading to high inventories, even for used cars. Contacts attributed the weakness to heightened consumer uncertainty related to the current financial environment. While down significantly from last year, truck and SUV sales picked up slightly over the past six weeks, as low prices enticed some buyers. Tighter credit conditions are making it harder for the marginal customer to get a loan, but contacts said the primary problem is the lack of customers. Services Demand for temporary staffing remained steady overall. Orders were strong for workers in light industrial manufacturing, but had slowed for employees in software/web services. Contacts said orders were down for workers in financial services and auto manufacturing. Legal service activity continued to be concentrated in litigation and bankruptcy work. Respondents said demand for legal services to support real estate and financial transactions had declined sharply, but demand remained strong from the oil and gas sector. Several respondents in the transportation services sector noted considerable, although temporary, loss of business as a result of hurricane Ike. Intermodal transportation contacts saw a rise in cargo volume last week as activity caught back up after the closing of the Port of Houston. Overall, respondents were thankful the port was closed for just one week, and suffered minimal damage. Railroad cargo volumes continued to decline. The storms reduced cargo volumes of chemicals and petroleum products, while construction materials and motor vehicles volumes fell dramatically--which contacts attributed to weaker consumer demand. While business activity is expected to remain fairly stable through year-end, outlooks reflected increased uncertainty about the economic impact of the current credit market situation. Eleventh District-based airlines said demand was holding up, despite losses due to Ike-related cancellations. Recent capacity cuts and increased fares helped bolster revenues. While still elevated, the reduction in oil prices is starting to show up in more stable fares at some companies. Construction and Real Estate Worsening problems in credit markets permeated construction and real estate markets in the Eleventh District. The pace of new and existing home sales continued to slow, as economic uncertainty kept many potential homebuyers on the sidelines. Those deciding to buy found it much tougher to get qualified. Contacts noted weakness in sales of higher-priced homes, as equity requirements and interest rates for jumbo loans have increased significantly. While inventories remain much lower than in other parts of the country, one builder said foreclosures in Dallas are adding to the supply of moderate to higher-priced homes. On a more positive note, realtors said relocations were spurring some demand, and values appear to be holding up overall. The outlook for the housing market remains extremely uncertain, but many noted the "bottom was in sight". Contacts said apartment leasing picked up in the third quarter, and rents were holding up in the face of national declines. Commercial real estate respondents said leasing activity for office and industrial space declined sharply as businesses re-evaluate plans in the face of current uncertainties. Sales of commercial properties continue to plummet, with one contact in the industrial market saying closings had "hit the wall". Lenders are increasingly wary of raising their exposure to real estate, especially given the recent flurry in merger/consolidation activity which may elevate acquiring banks' shares of real estate loans on the books. Previously funded projects in the pipeline are expected to keep commercial construction activity solid, but there were reports that some early 2009 projects have been pushed back or halted. Financial Services Heightened caution was prevalent among financial services contacts, although most still expect the effects of the current situation to be less severe than in other districts. Lenders reportedly have become even more conservative since the last survey--highly scrutinizing borrowers and enforcing strict underwriting standards. According to some contacts, the cost of capital remains high, inducing lenders to widen loan interest-rate spreads. Very few commercial real estate deals are getting done, with only smaller, low-risk projects able to meet current standards. Contacts said consumer lending is soft, although business lending remains fairly solid. While competition for new deposits is tough, institutions saw an uptick in deposits recently, reflecting a flight to quality from riskier investments. Energy U.S. drilling activity rose in recent weeks, with the average number of active rigs above 2,000 for the first time since 1985. More than half the rise was attributed to the Eleventh District. Activity continues to be focused on land-based unconventional natural gas, despite the fall in price to $7.50 per thousand cubic feet. Offshore oil drilling was disrupted by the hurricanes Gustav and Ike, but damage was light compared to Katrina and Rita. While demand for oil has weakened, contacts say long-run prospects for the industry have not changed. Agriculture Conditions were mixed in the agricultural sector. Late summer rains helped alleviate drought conditions in parts of the District, but strong winds, the storm surge and severe flooding from Ike caused some crop damage and displaced a substantial amount of livestock. While the storm's impact should not be significant for Texas overall, it is devastating for affected areas. Return to top Kansas City San Francisco