The following is the text of the Federal Reserve Board’s Fourth District-- Cleveland.
Business activity in the Fourth District expanded at a moderate pace since our last report. On balance, demand for manufactured products grew at a moderate rate. Housing market activity has leveled out after a six-month period of strong growth; sales of new and existing homes were above year-ago levels. Nonresidential builders experienced a rise in backlogs and the number of inquiries. Retailers were disappointed with sales during June and July, while new motor vehicle purchases posted robust gains on a year-over-year basis. Shale drilling picked up in regions rich in wet gas and was above year-ago levels. Output at coal mines trended lower. Freight transport volume remained strong. Applications for business credit were flat, while consumer demand for credit rose slightly.
Hiring was sluggish across industry sectors. Staffing firm representatives reported that the number of job openings increased, with vacancies found primarily in healthcare and manufacturing. However, job placements were lower. Wage pressures remain contained. Input and finished goods prices saw little change, apart from increases in construction materials and oil.
Reports from District factories indicated that demand grew at a moderate pace during the past six weeks. Companies seeing the strongest activity were suppliers to the energy, housing, medical device, and transportation industries. Defense contractors are still coping with uncertainty. Compared to a year ago, manufacturing production levels are similar or higher. Many of our contacts are optimistic and they expect that demand will rise during the next few months. Steel producers and service centers reported that shipping volumes were stable or fell below expected levels. Some respondents continue to express concern about the quantity of steel imports and the negative impact it is having on domestic producers. The outlook by steel producers is uncertain. As a result, they have been reducing inventories. District auto production showed a substantial decline in July on a month-over-month basis, due to normal seasonal retooling for model changeovers. Compared to a year ago, July production figures revealed a sizeable increase.
We heard some reports about a need by motor vehicle parts suppliers and assembly plants to expand capacity in order to meet demand. Other reports indicated that small manufacturers have reduced capacity utilization rates and bypassed growth opportunities because they were unable to hire skilled production workers. A majority of our contacts anticipate increasing capital budgets in the upcoming fiscal year. Raw material and finished goods prices were generally flat or trended lower, although producers acknowledged volatility in commodity prices. Steel producers who attempted to raise prices met with limited success. Factories expanded payrolls at a modest pace. Wage pressures are contained, though there is concern about rising health insurance premiums. One executive commented that he sees downward pressure on domestic labor costs due to excess production capacity off-shore.
Sales of new single-family homes have stabilized during the past couple of months, when compared to the solid growth seen earlier in the year. Builders characterized their sales as good, and most reported that they are higher than a year ago. One builder commented that he is concerned about a lot shortage in the near term. On-line traffic and inquiries are rising. New home contracts were found mostly in the mid- to higher-price-point categories. Demand for multifamily housing remains strong. Builders expressed confidence that demand for new homes will persist in the upcoming months, but they are apprehensive about rising interest rates and difficulties in obtaining construction loans. They also believe that a rise in consumer confidence would bring additional first-time buyers into the market. Selling prices of new homes across the District were up about 5 percent on average year-over-year due to rising costs and larger building footprints. The number of existing single-family homes sold year-to-date is up substantially across many regions of the District, relative to a year earlier. Contract prices rose moderately. In some regions, the supply of existing homes for sale is a challenge, which is leading to higher prices.
Nonresidential builders continued to see slowly improving business conditions. Although inquiries have picked up, uncertainty about interest rates and the economy led to hesitancy on the part of some customers. Backlogs have grown substantially. The strongest activity was on the industrial and manufacturing side. The former is related to shale gas work and the conversion of coal-fired generators to natural gas. Work in higher education has replaced government-sponsored projects as a major revenue source. Multifamily housing, including senior living, was also strong. Our contacts were more optimistic about near-term growth prospects than they have been in recent months.
We heard many comments from homebuilders about price increases for construction materials (lumber, drywall, and concrete), though the rate of increase has slowed during the past month. Several builders reported that they plan to retain their temporary summer workers through the fall season. Hiring of permanent employees (office and field) was modest. Wage pressures are contained. General contractors reported a shortage of qualified subcontractors. On the residential side, requests for higher rates by subcontractors were met with mixed results. Commercial builders said their subcontractors are having difficulty obtaining operating capital.
Retailers were disappointed with their June and July sales. They cited consumers being strapped for money and unseasonably cool weather as factors that held down spending. On a year-over-year basis, same-store revenues were fairly even or lower. Products in greater demand included core goods such as food, back-to-school items, and furniture. Looking ahead, fourth-quarter sales are expected to improve slightly when compared to those in the third quarter. Inventories were characterized as a little high, but manageable. Vendor and shelf prices held steady. Capital expenditures were on plan for the fiscal year, with no changes expected in the near term. Hiring will be limited to staffing new stores.
Sales of new motor vehicles increased at a robust pace during July, and year-to-date sales were running ahead of last year’s pace. The number of new vehicles sold in July was moderately higher than in June. Buyers prefer smaller, fuel-efficient vehicles. One dealer commented that the unpredictability of gasoline prices is a primary factor behind the sales of smaller cars. New-vehicle inventories are rising, but a majority of dealers said that they are satisfied with their inventory positions. Our contacts are optimistic about sales for the remainder of the year.
Dealers pointed to pent-up consumer demand, the availability of financing, and the option to lease as reasons for their optimism. Dealer service departments in the eastern third of the District are especially busy due to the influx of work generated by shale gas activity. Used-vehicle purchases rose during the past six weeks. Inventory is building as lease rollovers start to come in, which is putting some downward pressure on used-car prices. Even with an increase in business, dealers are reluctant to hire a large number of employees. For the few open positions, finding qualified applicants remains difficult.
Bankers reported that their industry is functioning in an environment of low interest rates, rising operating costs, and over-capacity. Net interest margins are showing signs of widening but remain below acceptable levels. Demand for business credit is flat or up slightly, with no loan category or industry performing significantly better than others. Our contacts attribute this to firms holding large cash reserves. A financial intermediary reported on a loosening in venture capital funding and commented that a substantial number of startups in the District are now contemplating an S-1 filing. Consumer-credit demand improved slightly, especially for auto loans, credit cards, and home equity lines of credit. Several bankers reported a slowing in residential mortgage activity. While new-purchase mortgages are trending higher, refinancing has dropped off. No changes were made to loan-application standards. Delinquency rates declined slightly. There were few reports about workforce reductions.
District coal production remains below year-ago levels, with the largest declines seen in eastern Kentucky. Spot prices for steam-coal declined slightly, whereas metallurgical coal prices were flat. Unconventional drilling picked up in regions rich in wet gas since our last report, and the number of drilling rigs is higher than last year at this time. However, in dry gas regions, drilling has declined during the past 12 months due to the low price for natural gas. Total output from gas wells was down slightly, while oil production was stable. Well-head prices for natural gas are flat to down, while oil prices were up substantially. Capital expenditures remain at targeted levels. One driller commented that the low price for natural gas is affecting the value of his reserves, which he uses as collateral for loans. As a result, banks are increasingly reluctant to extend credit for drilling new wells. On balance, little change was seen in production equipment and material prices. Labor costs are steady other than for rising healthcare insurance premiums.
Freight executives reported that shipping volume remains strong and they are seeing an improvement in net profits. Their outlook is cautiously optimistic. Freight haulers are still sorting through the effects of the hours-of-service regulations (HOS) that went into effect on July 1. The primary concern focuses on the availability of drivers and the ability of shipping companies to effectively schedule those drivers. Prices for equipment and maintenance items were stable. Capital outlays were allocated more for equipment replacement than capacity expansion. Some of our contacts have begun evaluating the use of tractors that run on compressed natural gas (CNG). Preliminary results indicate that these trucks may be more suitable for short-haul situations due to infrastructure issues. The industry is still experiencing a shortage of drivers, due in part to HOS rules and a high turnover rate.
SOURCE: Federal Reserve Board