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The Eleventh District economy continued to expand at a brisk pace in January and February. Demand for business services was robust, and retailers said sales continued to be strong. Overall manufacturing activity was still quite strong. Construction and real estate activity was mixed, with a rebound in home building but a softening in office leasing rates. Energy activity has been lackluster after showing signs of rebounding at the beginning of the year. Financial service contacts reported slower lending activity. Drought continues to be a serious problem for agricultural producers.
Prices
Price pressures were mixed with rising prices for energy products and some metals but continued price declines for some high-tech products and some construction inputs. The lowest crude oil inventories in over 20 years and OPEC's stated commitment to production cuts have pushed up oil prices since early January, despite generally lackluster demand. Heating oil prices rose above $1 per gallon with low inventories and cold weather in late January and February, but fell back to the mid-70 cents level. Natural gas prices have remained over $2.00 per thousand cubic feet since the new year, with spot prices hitting a high of $2.91 on February 1. Despite higher heating oil and gasoline prices, rising crude prices are keeping refiners' margins under pressure, and refineries have sharply reduced output. Concerns that refiners are not building inventory for the spring and summer driving seasons pushed gasoline futures up to post-Persian Gulf war highs. Chemical producers say they would like to raise prices for basic petrochemicals, such as ethylene and polyethylene, to protect their margins from rising feedstock prices, and strong demand has pushed down inventories for ethylene, but excess capacity suggests producers will have difficulty raising prices. Contacts say prices for plastic products have not yet risen because prices never fully adjusted downward when crude oil fell to $10 per barrel. One respondent warns of price increases very soon, however, for the myriad of products made from plastic, such as shower curtains, garbage bags, and squeeze bottles. Transportation firms say higher fuel prices are taking a bite out of earnings. Many have added fuel surcharges and are trying to raise prices. Brick manufacturers are considering a price hike to pass along higher natural gas prices and shipping fuel surcharges.
High-tech firms reported an easing of the tight supply of semiconductor chips. The supply of flat-panel monitors has also increased, after being in tight supply for a couple of years, and their prices are softening. Homebuilders say that cost pressures are significantly reduced from the end of 1999, with lower prices for sheet rock and cement. Manufacturers also reported lower selling prices for concrete and cement, which they attributed to increased competition.
Labor markets remain tight. Wage pressures are extreme for some types of workers, particularly those who are being demanded by Internet firms. Some service firms reported that higher wages are translating into higher fees. Some high-tech companies say wages have accelerated slightly in recent weeks, and noted that workers are demanding more pay in direct wages instead of stock options. Legal contacts say heavy competition with "dot-com" firms has caused many law practices to increase wages. One retailer said that competition is "wild" for workers with Internet experience and "compensation is dramatic." Still, some firms reported no change in wage pressures. One retailer said that workers appear to be more sensitive to workplace conditions than moderate increases in wages. This has led the retailer to 1) conduct regular surveys of worker morale, 2) offer more training opportunities and 3) encourage workers to enlist their friends as fellow employees. The retailer is also offering contests and pizza parties to improve worker retention.
Manufacturing
Overall manufacturing activity continued to be quite strong in January and February. Several producers noted a rebound in sales, after a slowdown at the end of 1999. Demand for lumber picked up in February, particularly for wood used in finishing work at the end of construction. Demand for concrete rebounded in February, but remained slightly below a year ago, while cement sales continue to be strong, at roughly the same level as a year ago. Brick producers say sales are setting records every month. Sales for paper products have moderated, but without a Y2K-related drop, as some feared. Metals manufacturers reported brisk sales to the oil industry but slowing demand for construction-related metals. Computer and semiconductor manufacturers said demand growth was stabilizing at a strong pace, after rebounding from a Y2K slow down at the end of last year. Demand from Asia was reported as very strong but some cooling was reported from Eastern Europe, and demand remained sluggish from France and Germany. In response to terrible profit margins, refiners reduced production sharply, reducing capacity utilization from 91 percent in November to 84 percent in early February.
Services
Demand for business services remained generally robust. Temporary firms reported that business has been as strong or stronger than it was in December, with good demand from all areas, particularly high-tech companies. Legal firms also reported strong demand for their services. Transportation firms said demand was slower than in December, which they attributed partly to seasonal factors, particularly for passenger traffic. Trucking, rail and airline cargo contacts wondered if they are still feeling the effect of Y2K and depressed commodity prices.
Retail Sales
Retailers and auto dealers reported continued strong sales. Houston area sales are picking up, after posting slower sales growth than in the rest of Texas.
Financial Services
Lending activity was slower according to contacts, who noted slowing in auto and mortgage financing. While some banks attribute the slowing to the typical after-Christmas slow down, others believe that higher interest rates are beginning to affect lending. Some respondents have increased reserve accounts. Most financial service contacts are optimistic but expect lending this year to be slower than in 1999.
Construction and Real Estate
Home building picked up in January and February after showing serious signs of slowing toward the end of 1999. Some builders say growth was significantly stronger than expected and believe interest rates are not affecting sales or traffic. One builder noted that buyers have shifted to using adjustable rather than 30-year fixed rate mortgages. In contrast, a builder focused on the "more affordable buyer" reported a pick up in sales but said sales were below last year's level. This builder said buyers are having a harder time qualifying for loans and, although the builder has been "pushing ARMs," the cost-conscious buyers tend to have an aversion to adjustable rate mortgages. A commercial real estate broker reports "a lot more anxiety" in the office market over the past 6 weeks. Tenant companies have increased the velocity of change--shifting strategies and changing leasing plans. There has been a sharp increase in subleasing, and one contact estimated that 16 percent of the Dallas market is currently available for subleasing, which will lead to an overall drop in absorption and leasing rates. Office leasing rates have fallen 5 to 8 percent in recent weeks and will likely fall further, according to this contact.
Energy
Drilling activity has been lackluster, with the domestic rig count stuck at 750 to 775 rigs and international work outside of Canada still in decline. Oil remains out of favor, with an apparent turn to oil-directed drilling in late 1999 seeming to evaporate. After rising at the end of 1999, the "workover" rig count dropped back sharply in January. Workovers are the quickest, cheapest route to increasing oil production, as well as a leading indicator for oil-directed drilling, according to contacts. Improvement in the Gulf of Mexico has been marginal, with day rates for rigs and supply vessels flat or showing small improvement from depressed levels. Contacts say the industry "remains unimpressed" by high oil prices and are unwilling to take significant risks, choosing instead to pay down debt with the increased cash flow. One respondent stressed the financial and psychological damage that oil prices at $10 per barrel had caused, and said firms needed to clean up the financial problems before moving forward.
Agriculture
The USDA has declared almost half of Texas counties eligible for drought disaster assistance. Wheat and oat crops are in generally poor condition. Livestock conditions are poor, with heavy supplemental feeding and herd reduction. Agricultural bankers reported a decline in demand for loans, renewals or extensions. Many link the reduced demand to drought conditions that have discouraged farmers from planting and to government assistance that has helped farmers pay off existing loans.
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