Beige Book

September 3, 2003

Summary

Prepared at the Federal Reserve Bank of Boston and based on information collected before August 25,

2003. This document summarizes comments received from business and other contacts outside the Federal

Reserve and is not a commentary on the views of Federal Reserve officials.

Reports from the twelve Federal Reserve districts indicate that the economy continued to

improve in July and August. Eleven districts say that activity levels increased during the

summer. In some districts, improvement occurred in selected sectors, and in others, it was

broad-based. Even in the Dallas district, where activity remains generally weak, contacts are

said to be more optimistic.

Consumer activity showed improvement in most districts. But Kansas City, Philadelphia,

and Boston noted that the increases in retail sales were slight or modest, and New York

indicated retail results were better in July than August (partly on account of the August

blackout). And retail sales were weak or softening according to respondents in the

Cleveland and St. Louis districts.

Ten districts report increases in manufacturing activity. The exceptions were Dallas, where

there was little change, and Richmond, which reports that manufacturing weakened. District

reports on nonfinancial services firms--temp agencies, software and IT companies, or

trucking and shipping--mostly indicate activity increased during the summer months.

Among districts reporting on bank lending, a majority cite increases. Most districts report

strong housing markets and weak commercial real estate markets, with the latter showing

scattered signs of improvement.

Business reports from the New York, Cleveland, Atlanta, Chicago, and Dallas districts

mention the mid-August blackout. While respondents note a comprehensive assessment is

premature in this round of information-gathering, the effects were generally small. Even

where firms were closed for several days, affected contacts suggest they are not anticipating

difficulties in making up for lost production or shipments.

Labor Costs and Prices

Labor markets remain slack across the nation, with few reports of occupational shortages.

Employers in a number of districts indicate that wage increases, when they occur, are

modest, but the rising cost of benefits--notably health insurance--has raised compensation

costs.

Although districts note price increases for natural gas, gasoline, insurance, tuition,

semiconductors, and pharmaceuticals, most product prices are reported to be stable or lower,

as businesses say they cannot pass along these or other cost increases to their customers.

The dominant price pressures are downward according to reports from Boston, New York,

and Chicago, notwithstanding a few manufacturing respondents in Boston and Chicago who

indicate they have raised selected prices by small amounts; Dallas reports that

manufacturing prices are falling. San Francisco cites "very little upward movement" in the

prices of final goods and services, while Minneapolis reports that price increases are

generally modest and manufacturers expect prices to remain level for the remainder of the

year. Similarly, retailers in the Kansas City district expect little change in prices in coming

months.

Retail and Tourism

In most districts, retail sales improved at least modestly in July and August. Contacts in

New York report that sales were generally above plan in July, while August reports were

mixed, with the blackout having adverse effects on some stores. Respondents in

Philadelphia note that sales improved in August from July, while retail revenues are said to

be down slightly in St. Louis. Reports were mixed in the Cleveland district, though sales

were down compared to the same period last year.

Among categories, the Boston, New York, Philadelphia, Cleveland, Atlanta, Chicago, and

Minneapolis districts report reasonably strong demand for back-to-school merchandise, with

Philadelphia, Minneapolis, and Kansas City noting a sales up-tick particularly in back-toschool apparel. Home furnishing sales are reportedly up in the Boston, New York,

Philadelphia, Cleveland, and St. Louis districts. Appliance sales improved in New York, St.

Louis, and San Francisco.

District reports on automobile sales are mixed. Contacts in Boston, Philadelphia, St. Louis,

Kansas City, and San Francisco note rising auto sales over the summer, while sales in Dallas

are said to be generally flat. Overall car sales are down compared to a year earlier in the

Cleveland district, though used car sales continue to increase. Reports from contacts in

Atlanta and Chicago were mixed, although both districts report a pickup in sales of light

vehicles. Auto dealers in some districts have increased incentives to reduce 2003 inventory

as they head into the new model year.

Travel and tourism reports are mixed for July and the first half of August. Overall tourism

levels are below a year ago in the Atlanta district, but drive-to tourist destinations continue

to perform better than those relying on air traffic. Manhattan hotels note fairly strong

business in July and early August. Tourism was generally flat in the Chicago district, and

reports are mixed in the districts of Minneapolis and Kansas City, as business in some areas

was hindered by forest fires. Contacts in San Francisco report slight improvements in late

July and August, with hotel occupancy rates rising in some areas.

Manufacturing and Related Services

Manufacturing activity is reported to be improving slightly to moderately in 10 of the 12

districts. New York, Cleveland, Kansas City, and San Francisco cite continuations of the

upward trends in production or orders observed in the spring and early summer. Chicago

notes widespread up-ticks in key manufacturing sectors, and Philadelphia finds that

increases in shipments and orders are spreading. Most of the remaining districts characterize

the improvements as selective. By contrast with the prevailing tone, Dallas says that

manufacturers continue to report tough conditions, and Richmond indicates that

manufacturing activity has weakened somewhat.

Various districts report solid or strengthening demand for autos and auto parts, high tech

equipment, semiconductors, pharmaceuticals, and building materials. According to reports

from Philadelphia, Chicago, and San Francisco, the improvement in manufacturing

extended to a pickup in demand for machine tools and industrial equipment. Boston notes

rising demand for military goods and stabilizing demand for commercial aircraft, while St.

Louis indicates that firms in the helicopter and aerospace industries are expanding. On the

other hand, markets for paper, chemicals, textiles, and furniture were reportedly soft or

softer than in the recent past, and overall steel demand remains muted.

Manufacturers are reportedly facing rising costs for energy and insurance, but materials

costs mostly remain contained. Several districts cite new opportunities for manufacturers to

raise prices or trim discounts slightly for selected products. However, competitive pressures

or weak demand continue to cause other selling prices to hold steady or fall.

Manufacturing labor demand appears to be firming. A majority of districts indicate scattered

reports or projections of longer work hours and selective hiring, and several report that

layoffs are becoming less frequent. Most districts commenting on capital spending indicate

that manufacturers' plans remain cautious, although the majority of contacts in the

Philadelphia and San Francisco districts plan increases.

Manufacturers generally expect that their production volumes will increase somewhat

during the remainder of 2003. However, forecasts vary by industry, and some districts

indicate that their contacts are planning conservatively in light of uncertainties about the

economic recovery.

Non-Financial Services

Non-financial services firms in the Boston, New York, Cleveland, Richmond, Atlanta,

Dallas, and San Francisco districts report higher demand during the summer than a year ago.

For software and information technology firms in both the Boston and San Francisco

districts, revenue and employment levels were flat or slightly higher than a year earlier. In

Boston, a few companies that had considered layoffs in the first quarter have, in fact, begun

to hire. San Francisco technology respondents report slight demand growth, although sales

of telecommunications services were soft.

Temporary employment firms in the Boston, New York, Richmond, Chicago, and Dallas

districts report modest demand growth in the second and early third quarters. Respondents

said they are optimistic, believing recent improvements in demand reflect more than just

seasonal trends. A large New York firm reports a lull in temp hiring in early August, but

expects a rebound after Labor Day, noting that the pace of layoffs in the district has abated

noticeably in recent months. The Dallas and Boston districts cite signs of increased demand

for temp workers in technical areas like software, electronic assembly, and technical

support.

Trucking and shipping contacts from the New York, Richmond, and Dallas districts report

total volume is higher than a year ago, with a pickup in activity in July and August. Demand

for transportation services improved this summer, according to reports from San Francisco

and Dallas districts.

Banking and Financial Services

The majority of districts reporting on bank activity registered a modest pickup in lending in

late July and August. Overall lending was up in the Cleveland, Dallas, Kansas City, New

York and Philadelphia districts, but deteriorated in the Atlanta, Chicago and Richmond

districts due to weak mortgage refinancing activity. As thirty-year mortgage interest rates hit

6 percent in August, some districts tallied mortgage lending declines, while others scored

gains as borrowers reportedly hurried to secure mortgage financing in expectation of higher

interest rates.

Business lending increased in the Chicago, Cleveland, Dallas, and San Francisco districts,

but Atlanta, Richmond and St. Louis saw some decline. Richmond respondents remained

pessimistic about the possibility of an upturn, while Chicago and San Francisco report

growing demand by small and medium-sized firms. While business loan quality generally

held steady, Cleveland and New York saw slightly higher delinquency rates for commercial

and industrial loans; by contrast, the quality of consumer credit remained largely unchanged

across districts.

Construction and Real Estate

Residential real estate activity remained strong in most districts in July through mid-August,

with some contacts reporting all-time sales highs. Respondents in the Chicago, Cleveland,

Kansas City, Minneapolis, Philadelphia, Richmond, St. Louis, and San Francisco districts

report that overall sales were strong in recent weeks. Dallas indicates that real estate markets

"improved" in July and early August, but that the industry "remains very competitive,

restraining price increases." In contrast to most districts, real estate contacts in Atlanta

report a "slight weakening in overall sales growth, especially at the higher end;" some of

this weakness they attribute to unusually wet weather over the summer months. Contacts in

the Chicago, Dallas, Kansas City, New York, Philadelphia, Richmond, and San Francisco

districts say that the recent upturn in mortgage interest rates prompted a rush to complete

sales of both new and existing homes in August. Contacts in Atlanta anticipate some

continued slowing through the end of the year as a consequence of rate increases.

Although commercial real estate markets remained lackluster in most districts in July and

early August, scattered signs of improvement were reported. Overall conditions are "soft" in

Chicago, "weakened" in Kansas City, "sluggish" in Minneapolis, and "lagging" in St. Louis.

Boston reports that commercial real estate markets are "holding steady" and Richmond cites

"flat" conditions. By contrast, New York respondents note continued improvement,

particularly in areas of Manhattan. Atlanta cites "small improvements," and Dallas reports

signs of optimism. Most districts report high vacancy rates and some edged higher, but New

York cites moderate declines in vacancies, led by strong leasing activity in the Class B

segment. Looking forward, contacts in several districts indicate they expect continued

weakness until employment growth improves.

Agriculture and Other Natural Resources

Unfavorable weather--too much rain in the East and too little in the Midwest and

Southwest--is delaying harvests and damaging crops and pastures in parts of many districts.

Contacts across wide areas expect reduced yields for corn, soybeans, and small grains as

well as for some more localized products. However, in the Atlanta and St. Louis districts,

the corn and soybeans are reportedly in generally good condition. As a result, Atlanta

growers are said to be in a position to increase exports to drought-stricken Europe. San

Francisco contacts also note strong export demand. In the hot, dry weather, pastures are

reportedly deteriorating and livestock is coming under stress, especially in parts of the

Minneapolis and Kansas City districts and, to a lesser extent, in the Dallas district. While

contacts in Dallas, Kansas City, and San Francisco describe cattle prices as steady or strong,

potentially boosting profits, the need for supplemental feed is rising in some areas, and

bankers in the Kansas City district do not expect borrowers to fully recover recent years'

losses. Similarly, while some lenders in the Minneapolis district expect above-average farm

incomes in the third quarter, Chicago contacts point to lowered yield prospects and higher

input costs and anticipate no improvement in farm balance sheets.

In the energy sector, contacts in the Minneapolis, Kansas City, Dallas, and San Francisco

districts report that oil and gas exploration or rig counts are constant, solid, or increasing

slightly. San Francisco notes that widespread hot weather and the reduced availability of

hydropower have reportedly driven natural gas prices higher in recent weeks, while Dallas

indicates that blackout-related and other unplanned outages at refineries have caused spikes

in gasoline prices. Kansas City bankers say that demand for loans for gas field equipment

and development is strong, while Dallas drilling companies reportedly view prices as high

enough to cover capital costs. Still, Dallas energy contacts remain intent on controlling costs

and cautious about hiring. Most major iron mines in the Minneapolis district are said to be

operating near capacity, but they too have announced efforts to cut costs.

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First District--Boston

Conversations with First District business contacts again have a positive tone. Retailers say

sales were up modestly during the summer months, and manufacturers report second quarter

demand improvements in selected areas. Temp firms and software and IT companies also

see some pickup. Commercial real estate markets are said to be stabilizing. Contacts in all

sectors indicate that they remain cautious.

Retail

Most retail contacts in the First District report modest improvements, with increases in sales

ranging from 3 to 6 percent compared to a year earlier. Surplus merchandise and discount

furniture sales are reportedly slightly ahead of expectations, with furniture sales accelerating

in August. Rainy weather is said to have hampered sales in the hardware sector, particularly

paint products, in June and early August, while sales in July were up 6 percent

year-over-year. Office supply sales continue to build momentum, with increasing demand

for durable goods and back-to-school items, as low prices help drive sales. By contrast, sales

of graphic art supplies are reportedly below year-ago levels. Automobile contacts indicate

sales have continued to exceed expectations, particularly in July.

Most contacts report employment is steady, though two retailers expect their headcount to

increase by at least 100 over the course of the year. Some respondents recently implemented

annual salary increases, ranging from 2.5 to 3 percent, while the majority report no changes.

Vendor prices are mostly stable, with selling prices flat to down. Capital spending plans are

mixed among contacted retailers, with about half holding spending steady. New store

openings account for most increases, while decreases reflect computer-related cutbacks.

Looking forward, most surveyed retailers anticipate slow sales growth over the next six

months. Most contacts express greater optimism about the future of the economy than in the

recent past. However, some retailers note concern about high unemployment rates, the

possibility of rising interest rates, and the continued threat of terrorism.

Manufacturing and Related Services

Most manufacturing contacts report areas of improved demand in the second quarter but say

they are unconvinced that the upturn is sustainable. For half of these firms, sales are up by 2

percent to 20 percent from year-ago levels, with new products and currency translation

contributing in some cases. For the other half, year-over-year comparisons are weak, with

sales flat to down by as much as 20 percent. Sources of strength include sales to the military

and the semiconductor industry. Demand for commercial aircraft also shows signs of

stabilizing. By contrast, demand for paper products and furniture is reportedly soft. Contacts

continue to cut inventory--in a few cases from problematic levels--and note renewed

pressures from retailers trying to reduce stocks.

Manufacturers also report that retailers and other major customers continue to demand price

concessions although a few contacts have achieved small increases in selected prices.

Downward price pressures reflect manufacturers' excess capacity and customers' increased

use of online bidding. With prices for materials, other than petrochemicals, also flat to down

year-over-year, respondents plan to improve margins through ongoing efforts to cut

production costs.

Labor demand appears to be stabilizing at surveyed manufacturers. A majority reduced

employment in recent months, but most hope to avoid further layoffs. A few have increased

overtime or are hiring for specific divisions. One noted that experienced engineers are

scarce.

A few firms are increasing their capital spending markedly in 2003 from 2002 levels as they

"chase" technology or install long planned lean manufacturing systems. But over half are

spending "carefully"--below last year, below budget or below norm. Most point to idle

capacity.

A majority of contacts express cautious optimism about future prospects, with several

noting that the outlook for profits or sales is better than expected recently and may even be

improving. However, most view the improvements to date as modest and the challenges as

daunting. Thus, they continue to plan conservatively and to hunt aggressively for savings.

Temporary Employment

Respondents from temporary employment agencies in New England report slowly growing

labor demand in the second quarter, and a noticeable pickup early in the third. Demand for

manufacturing workers remains weak, while demand for technical workers--in

telecommunications, software, and electronic assembly--has grown significantly in some

cases. Respondents report employment is weaker in Connecticut, Vermont, and some parts

of western Massachusetts, while southern New Hampshire and Maine are said to be

performing better.

Several staffing companies report that some applicants have received multiple job offers,

which respondents interpret as a sign of demand growth. Some contacts report a decline in

labor supply, both skilled and unskilled. However, the number of permanent positions

available remains small, with clients still preferring to hire on a temporary basis. Downward

price pressure continues, with some companies reducing both bill rates and wages in

response. Most respondents express concern about rising costs, particularly for medical and

worker's compensation insurance.

Contacts are positive about the remainder of 2003, anticipating modest demand growth

during this period. But after a healthy July and August, some respondents say they will wait

to see what September has in store before committing to the idea of an economic recovery.

Commercial Real Estate

Commercial real estate markets in New England are holding steady. Contacts report no

substantial improvement, but no material deterioration either. High office vacancy rates

continue to prevail throughout the region. Even though Boston experienced positive market

absorption in the second quarter for the first time in over two years, the area's vacancy rates

increased as a result of new office space added to the market. Office rents continue to

decline in the Boston area and are "nowhere near building replacement cost." Consequently,

new construction is being put on hold until it becomes cost effective, which will likely take

"a long time." Activity levels are low in all markets, although some contacts attribute that to

usual seasonal slowdowns and anticipate more activity in the fall. Others expect the high

vacancy rates to persist for quite a while, insisting that substantial employment growth is

necessary to improve conditions in commercial real estate markets.

Software and Information Technology Services

Contacts cite renewed optimism in the software sector, with most firms recording either

revenue gains or no deterioration from first quarter to second. The majority of contacts, even

those with flat current results, are encouraged by pipeline activity, since software sales are

typically stronger at year end.

A few companies that were struggling to avoid layoffs in the first quarter are now beginning

to hire; however, one contact reports a 10 percent layoff. Capital spending across the sector

is still uneven, with some companies spending substantial amounts on technology and others

freezing expenditures until the end of the year.

The outlook is beginning to change from flat to positive in the near term as contacts

throughout the software and IT sector are buoyed by recent inquiries. Respondents report

increased interest in custom applications and banking software.

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Second District--New York

The Second District's economy has given mostly positive signals since the last report. The

mid-August power outage evidently had a minimal effect on overall economic activity-some

impact was reported on retailers and contract employers. Retail sales, which were above

plan in July, were close to plan, on balance, in the first three weeks of August; inventories

were generally reported to be at desired levels. Manufacturing activity continued to improve

in July and early August, and there was a noticeable pickup in port traffic.

Housing markets have continued to show strength, although some contacts view brisk

summer activity as an artifact of rising mortgage rates. New York City's office market

continued to improve in July, with particular strength in the Class B segment, and city hotels

report increased business. Finally, bankers in the district report stable loan demand, little

change in credit standards, and increased delinquency rates on commercial loans but

decreased rates on home mortgages.

Consumer Spending

Major retail chains report that sales in the District were generally above plan in July, but

were more mixed in the first three weeks of August. Three retail chains report that the

blackout adversely affected sales. One reports that sales are ahead of plan despite the

outage, but the other two describe sales as slightly below plan, primarily due to the outage,

and do not expect all of the shortfall to be made up by the end of the month. Overall,

year-over-year changes in comparable-store sales ranged from up 2 percent to up 7 percent

in July, and from down 3 percent to up 6 percent in August. In general, sales of back-toschool merchandise were described as strong-women's apparel, lawn and garden, and home

furnishings and appliances were also reported to be especially brisk. The pricing

environment remained weak. Most retailers say inventories are in good shape.

Manhattan hotels report that business was fairly strong in July and early August: while room

rates were down about 3 percent from a year earlier, occupancies were up nearly 5 percent.

As a result, total revenues were up, on a year-over-year basis, for the first time this year.

While two major New York City hotels had to evacuate during the blackout, most were fully

occupied-some offered discounts and even free rooms.

Construction and Real Estate

The housing market has remained robust in recent weeks. New Jersey home-builders report

that housing demand has been unusually strong for August, as rising mortgage rates have

reportedly spurred a sense of urgency among buyers. Construction is lower than in 2002,

mainly due to a dearth of available land, and selling prices are said to be leveling off but still

higher than a year ago. Buffalo-area realtors indicate that home sales were strong in July and

that selling prices were up roughly 10 percent from a year earlier. Across most of New York

state, compared with a year earlier, there were fewer sales transactions but median selling

prices posted double-digit gains. Manhattan's co-op and condo market was described as

unusually busy during the first half of August; selling prices were steady but still noticeably

higher than a year ago. Apartment rental markets have been mixed but generally sluggish. In

Manhattan, while rents remain moderately below a year earlier, they are said to have firmed

modestly since the end of 2002. In contrast, New Jersey's Hudson riverfront rental market

has experienced persistently high vacancy rates and little or no rebound in rents.

Manhattan's office market showed continued improvement in July, led by strong leasing

activity in the Class B segment, largely from small to medium-sized firms. Overall, vacancy

rates declined moderately in Midtown and Midtown South; Lower Manhattan's rate inched

up but is still substantially lower than at the end of the first quarter. Asking rents appear to

have leveled off this year but are still roughly 8 percent lower than a year ago.

Other Business Activity

A major New York City employment agency reports more than the usual seasonal slowing

in hiring activity in recent weeks, following a strong June and July, but suggests that the

August lull is probably temporary, reflecting a growing trend toward concentrating

vacations in August. This contact also notes that the pace of layoffs has slowed noticeably in

recent months and anticipates a brisk rebound in hiring after Labor Day. The blackout had a

noticeable but short-lived effect on contract employment: lost hours and wages for temp

workers and reduced fees and commissions for the agency.

The manufacturing sector has shown continued positive momentum in July and early

August. Our monthly survey of New York State manufacturers shows continued

improvement in conditions in early August. Buffalo-area purchasers report a strong

snapback in manufacturing-sector conditions in July, following a brief slowdown in June.

Similarly, Rochester purchasers report improved business conditions in both manufacturing

and other sectors. Finally, New York City area purchasing managers report continued

improvement in the manufacturing sector in July; there was some leveling off outside of

manufacturing, where New York City respondents had been reporting weakening throughout

the first half of the year. Purchasing managers in all three metropolitan areas report an

upturn in input prices.

A major freight shipping terminal reports a noticeable increase in volume (mostly imports

from Asia) since the beginning of August; total volume is reported to be up roughly 10 to 13

percent from a year earlier, and largely represents holiday-season retail merchandise. Part of

the pickup reflects a trend toward more "all-water" services to the East Coast ports from

Asia, and is spurring increased warehousing and distribution in New Jersey. The power

outage at the port lasted less than four hours and had a minimal effect.

Financial Developments

Small to medium-sized Second District banks report relatively stable loan demand in the

latest survey. Demand for residential mortgages was mixed, with nearly half of bankers

indicating lower demand, but a similar proportion reporting higher demand. Widespread

declines were reported in refinancing activity. On the supply side, over 90 percent of

bankers in each category report no change in credit standards.

Interest rates rose for all types of loans-in particular more than three in four bankers report

higher rates for residential mortgages, and more than half report an increase in rates for

commercial mortgages. However, average deposit rates declined, with over half of bankers

reporting lower rates, as opposed to one in six reporting higher rates. Bankers report that

delinquency rates increased for commercial and industrial loans but decreased for residential

mortgages.

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Third District--Philadelphia

Business activity in the Third District continued to advance slowly in August.

Manufacturers reported increases in orders and shipments for the month. Retail sales of

general merchandise picked up in August for the usual back-to-school shopping period,

although the year-over-year gain appeared to be slight. Auto and light truck sales have been

strong as model year close-out promotions boosted the sales rate. Bank lending has been

rising slowly, with most of the gain coming from residential lending. Commercial real estate

markets remain soft, but home sales have increased. Overall tourism business for the

summer season appears to be matching last year's level, but lodging activity is off from last

summer.

The outlook among contacts in the Third District business community is for steady or

slowly improving conditions. Manufacturers forecast increases in shipments and orders

during the next six months. Most of the retailers surveyed in August expect sales to rise

slowly through the fall. Auto dealers anticipate some slippage in sales after 2003 models are

cleared out. Bankers expect slow growth in lending as the pace of economic activity in the

region gradually rises.

Manufacturing

Manufacturers' shipments and orders increased in August compared with July. More than

one in three of the companies surveyed in August reported increases in demand for their

products and less than one in five reported decreases. Improvement in business conditions

appears to be spreading across the major manufacturing industries in the District. Firms that

make products used in residential construction reported increases in orders in August,

continuing the strong demand they have had in previous months this year. Manufacturers of

industrial equipment, which had experienced generally lackluster conditions for the past 12

months or longer, reported increases in demand in August. There were gains for makers of

many industrial products, such as primary and fabricated metals, machinery, and electrical

equipment. However, chemical producers and instrument manufacturers reported a falloff in

orders in August.

The outlook among the region's manufacturers is positive. Around half expect increases in

shipments and orders during the next six months, and less than one in five anticipate

decreases. Area manufacturers forecast some increases in employment and working hours,

on balance, in the next six months, and they plan to step up capital spending plans

moderately.

Retail

Third District retailers generally reported that current dollar sales increased in August from

July, although the year-over-year gain appeared to be slight, according to most of the stores

surveyed. Sales of back-to-school supplies and apparel have been good, but some women's

clothing stores continue to report weak sales. Some merchants said they have seen a pickup

in sales due to the federal income-tax rebates, but others said consumers continue to be

cautious in their spending. These merchants noted that many shoppers are favoring lowerpriced brands and concentrating their buying at discount stores and manufacturers' outlets.

Some stores have been left with undesired inventories of summer merchandise, although

several noted that warm weather apparel was continuing to sell fairly well, and sales of

home furnishings remained healthy.

The consensus among retailers contacted in August is that sales will move up slowly during

the fall. Several store executives said they will introduce cold-weather merchandise later

than usual this year and keep inventories limited. These retailers said consumers have been

showing a greater tendency to delay purchases until their needs are more immediate.

Merchants are responding by timing the introduction of seasonal merchandise more closely

to the relevant season.

Auto dealers reported generally rising sales during August. Manufacturers boosted

incentives to clear out 2003 models as 2004 models arrive. Dealers are taking delivery of

new models, and consequently, their inventories are high. In general, dealers expect it will

be difficult to maintain the current rate of sales once older model inventories are depleted,

but most dealers anticipate a high sales rate for the most popular new domestic cars and

trucks and continued strong sales of luxury imports.

Finance

Outstanding loan volume at Third District banks was growing slowly in August. Residential

real estate lending continued to move up, mainly for home purchases, while refinancing

activity has declined. Consumer credit also increased, although recent gains in most

categories of personal lending, including credit cards, have been modest at most of the

banks contacted for this report. Business loan volume outstanding has been practically flat,

according to bank lending officers. They said most of their commercial and industrial

borrowers have not had the increases in business that necessitate expansion.

Bankers surveyed in August expect business activity in the region to move up very

gradually, and they expect total lending to rise slowly along with the improvement in

regional economic conditions. Some also said they expect at least a slight deterioration in

credit quality, unless the recovery in the region's economy strengthens.

Real Estate and Construction

Commercial real estate firms in the Third District reported that overall office vacancy rates

have increased in suburban markets, where several new buildings have recently become

available with substantial amounts of space not pre-leased. Vacancy rates in suburban

markets were estimated in a range of 12 to 24 percent, up around 1 percentage point since

the spring. The vacancy rate in the Philadelphia central business district has been nearly

steady at around 13 percent, virtually unchanged in recent months. Effective rental rates

continued to decline as landlords offer tenant improvement allowances and rent-free

periods, and several major tenants have negotiated renewed leases at lower rents.

Commercial real estate contacts say office vacancy rates will probably begin to edge down

near the end of the year as the number of new buildings becoming available declines.

Residential real estate agents and home builders generally reported that sales have

accelerated. They said the recent upturn in mortgage interest rates prompted a rush to

complete sales of both new and existing homes. Home builders generally expect sales to

remain strong, although some indicated that their backlogs appear to have peaked. Real

estate agents expect a strengthening economy to support a fairly good rate of home sales

despite higher mortgage rates.

Tourism

Tourism officials in the region reported that tourist and vacation locations have had mixed

results this summer. Periods of cool and rainy weather have resulted in fewer visits to beach

resorts. Lodging and other business activity in some of these areas have been less than last

year. In particular, vacation home rentals have not met expectations. Tourist visits to urban

areas have been fairly high. Some museums have broken attendance records, and many

summer entertainment programs and performing arts festivals have had high attendance. On

balance, it appears that the region's overall tourism-related business this summer will be

roughly equal to last year's, but lodging activity will probably be down.

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Fourth District--Cleveland

Most Fourth District contacts reported increased economic activity since the last report,

although growth appears to be modest. For the third consecutive report, manufacturers cited

steady or improving production and sales. Residential homebuilders reported continued

sales growth. Demand for commercial loans increased since the last report, while consumer

loans remained constant.

Reports from other areas of the economy were mixed. Retailers and auto dealers

experienced continued slow sales, though these were not necessarily unanticipated. Activity

in commercial construction accelerated in parts of the District, but it remained sluggish in

others. After a more optimistic report in July, conditions in steel did not show further

improvement. Though overall prices of inputs were flat or declining, utility prices rose.

Employment levels did not change for most contacts; some added employees, and a few

firms reported layoffs. While there is plenty available labor, contacts stated there is less

available now than during the same time last year. Rising insurance costs have caused a

number of firms to change features in benefits offered to employees, both by passing some

costs to employees and curtailing some benefits.

Most contacts in manufacturing, residential construction, banking, and trucking and

shipping expect conditions to continue improving throughout the rest of the year, while

contacts in steel, commercial construction, and retail were more mixed with regard to

continued activity.

This District was affected by the blackout in mid-August. Though most contacts could not

immediately discern the total impact, retail and manufacturing experienced the greatest

impact as a result of closures. Other sectors of the economy experienced minor or no

problems due to the electricity problems.

Manufacturing

Most manufacturing contacts reported continued improving conditions in July and August.

However, unlike the previous report, a few contacts did note declines in both production and

sales. Overall, both production and sales were higher during this period than in the most

recent report and during the same time last year, with nondurable goods manufacturers

generally citing more favorable conditions than durable goods producers. Inventory levels

were flat during this time period, with idle capacity remaining relatively the same as well.

While most manufacturers said they were maintaining their current workforce levels, the

proportion of firms reporting new hires was greater than those cutting payrolls. Most

contacts still anticipate moderate sales and production growth by year's end.

Auto production fell again at most District plants in July and early August compared with

June, but it should be noted that many facilities re-tooled in early July. Regardless,

same-model production was about 4 percent lower than 2002 levels. In July, three new

models began production in the District. A few facilities reported the use of overtime.

In the steel industry, production was fairly stable between July and August, though there

was some mention of increased sales between July and August. However, overall demand

was characterized as "soft" in August, and both sales and production levels during this

period were substantially down from last year. Inventories are down from a year ago, and

firms anticipate holding inventories at their current low level. New orders for steel for the

fall are coming at a steady rate, and contacts expect the demand to remain the same till the

end of the year. To meet current demand, plants are running normal-to-shortened work

schedules. Most contacts have held employment levels constant since the previous report

although a few are reducing jobs. Steel prices were mixed, with slight movement in both

directions.

Many manufacturers in the areas affected by the blackout were closed up to three days;

however, most firms stated that they were able to tap into inventories and anticipated being

able to use overtime production, as needed, to make up for the loss. Manufacturing contacts

stated that supply chains were largely uninterrupted and orders were unaffected.

Retail Sales

Economic conditions were again mixed in retailing during July and early August compared

to the previous report, with small increases and decreases in sales activity reported.

However, all contacts noted sales declines of slightly lower to almost 15 percent down since

the same period last year. Discounting and promotional activity continued, as many retailers

geared up for back-to-school shopping. Sales were in-line with retailers' expectations, and

all contacts reported favorable inventory positions. Though activity in apparel remains

generally sluggish, contacts stated that sales of furniture, cosmetics and personal care items,

shoes, and career wear (men's and women's suits) were strong during this period. Most

contacts are expecting sales to be flat or slightly higher this year relative to last.

Retailers in the District reported electricity-related losses on Thursday, though many were

able to open on Friday. Overall impact on the sector is not yet known. Restaurants were

particularly hard hit because of the water problems that continued after electricity was

restored.

Automobile dealers noted flat-to-declining new car sales throughout the District. Overall

sales this period were lower than during the same time last year. Sales continue to be

dependent on incentives, though their impact on consumers has deteriorated. Used car sales,

on the other hand, continued to increase. New car inventory levels are more favorable than

in previous months.

Construction

Continued strong sales were cited by homebuilders in the District, as in last month's report.

Growth in sales has continued since the spring and, while not uniform, some contacts cited

this period being one of the strongest ever. Sales for most builders are above plans, which

anticipated sales increases of about 3 to 5 percent during 2003 relative to 2002.

Commercial building continues to be slow, though parts of the District show signs of

improvement. Within the last several weeks in the Cleveland area, the number of new

projects in several building segments, including manufacturing, warehousing, and

distribution had accelerated. There also appears to be increased activity in the Pittsburgh

area, while in the Columbus area and the southern part of the District demand remained

sluggish.

Trucking and Shipping

Demand for trucking and shipping held constant again since the previous report, and

conditions were flat compared to the same time last year. Consolidation in the industry

points to further increases in capacity utilization. Increased demand from retail and

consumer goods was reported, while manufacturing demand continues its flat-to-negative

trend of recent years. Most contacts anticipate at least limited growth over the next months,

though capital expenditures will generally be targeted toward replacing current vehicle stock

rather than increasing capacity. The electricity problems delayed some shipments, but due to

available capacity the backlog was alleviated within twenty-four hours. Some likened it to a

one-day snowstorm.

Banking

Both commercial and consumer loan activity remained steady or increased since the last

report. Most contacts reported increased demand for commercial loans relative to both June

and the same period last year. Consumer loan activity remained strong because of mortgage

refinancing. There was no change in the number of applicants, and reports on the credit

quality of applicants were mixed. There were also mixed reports regarding core deposits,

with contacts reporting both slight increases and decreases. Business and mortgage loan

delinquencies increased during this time period for most contacts. The squeeze on net

interest margins continued into this report, as loan rates have adjusted downward and

funding rates remained relatively constant. Contacts observed that business confidence has

improved, evidenced by interest in borrowing for new capital expenditures, while general

consumer confidence has not changed.

During the blackout, many banks lost ATMs and some branches closed, though it was

toward the end of the business day, and most areas had power restored by the following

morning for business.

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Fifth District--Richmond

Economic growth in the Fifth District picked up in late July and August, although

manufacturing activity weakened somewhat. Retailers generally reported higher sales,

particularly at automobile dealerships and home improvement stores. Services businesses

recorded a noticeable improvement in revenues as well, although employment growth in the

sector remained subpar. The District's manufacturing sector wobbled, however, weakened

by further declines in production and employment, especially in the textiles and furniture

industries. In addition, manufacturers trimmed their forecasts for shipments and capacity

utilization for the remainder of the year. In housing, rising mortgage interest rates brought a

decline in residential mortgage refinancings, but home sales and housing starts continued to

be strong. On District farms, incessant rain delayed small grain harvests and thwarted hay

production in some areas, but assisted corn and soybean development.

Retail

Fifth District retailers generally reported higher revenues in the weeks since our last report.

Automobile sales were particularly strong--dealers in Virginia and the Carolinas said

business was brisk and they expected sales to remain strong through the end of the year.

Home improvement stores also fared well--a contact at a Virginia Beach, Va., location noted

a "marked improvement" in sales in recent weeks. Reports generally indicated that retail

employment was flat. An exception was in Richmond, Va., where retail hiring was in full

swing as two upscale malls were slated to open in September.

Services

Contacts at Fifth District services firms reported a substantial pickup in customer demand in

recent weeks but only modest increases in payrolls. A manager at a financial services firm in

Baltimore, Md., for example, noted that while demand firmed, hiring remained selective.

Trucking and transportation firms in Maryland and West Virginia reported increased

revenues during the past six weeks, as did a real estate firm in North Carolina. The pickup

wasn't felt in all areas of the District, however. Some services businesses in manufacturing

areas of North Carolina reported sluggish activity--a financial services firm there reported

feeling negative "ripple effects" from weakness in the textile industry.

Manufacturing

District manufacturing activity softened since our last report. Measures of both shipments

and new orders moved lower. Textiles manufacturers announced more plant closings and

layoffs. Furniture manufacturers also reported layoffs as demand continued to weaken--a

contact in North Carolina said furniture retailers were neither ordering stock nor building

inventories. Many District manufacturers lowered their sales forecasts for the next six

months as demand sagged. Outside of a few reports of higher natural gas prices, overall

prices for raw materials and final goods produced were little changed since our last report.

Finance

District loan officers said that loan demand dipped in recent weeks as the demand for

residential mortgage refinancings dried up. Thirty-year mortgage interest rates rose above 6

percent in August, taking the steam out of the refinancing activity that had surged in June

and July. A mortgage banker in Charleston, S.C., said that while residential mortgage

lending was strong early in the summer, refinancings had declined dramatically and lenders'

"fortunes have reversed." A banker in Greenville, S.C., added that if mortgage rates

remained above 6 percent, refinancing activity would grind to a halt. The demand for

commercial loans remained weak and most commercial lenders were pessimistic about a

pickup in the near future. In the words of a Richmond, Va., banker, "Businessmen are not

convinced the slowdown [in business activity] is over."

Real Estate

Real estate agents across the District continued to report strong home sales since our last

report. A realtor in Greenville, S.C., told us that business had been "incredible," adding that

2003 was a "banner year" for sales at his firm. Likewise, an agent in Charlotte, N.C., said

sales had been "off the charts" in recent weeks. Most agents contacted stated that the recent

increase in mortgage interest rates had sparked higher sales in August as fencesitters bought

ahead of possible further mortgage interest rate hikes. Homes priced in the low-to-middle

range remained the best sellers, while sales of homes in the upper ranges continued to be

sluggish. Home prices remained relatively steady across the District.

Fifth District commercial realtors reported that overall leasing activity was generally flat in

recent weeks, although signs of life were emerging in some areas. A realtor in Bristol, Va.,

noted continued strength in retail and office space leasing around a booming interstate exit

in the area. Stronger retail leasing activity was also reported in Charleston and Huntington,

West Virginia. A contact in Roanoke, Va., was "extremely encouraged" by a sharp increase

in sales of commercial tracts, while a contact in Raleigh, N.C., reported that office space

absorption was positive for the first time in five quarters. All the news wasn't upbeat,

however. Demand for industrial and warehouse space remained weak across most of the

District and construction activity was generally flat.

Tourism

District tourist activity was mixed in recent weeks. Along coastal areas, contacts reported

that bookings were somewhat better than a year ago. A manager at a Virginia Beach hotel

told us that tourist activity remained strong despite frequent rains in the area. A contact in

coastal North Carolina noted that cottage and luxury home rentals were up somewhat but he

said that rainy weather had slowed weekend bookings and day trips to the beach. Bookings

at mountain resorts were lower, in part because of inclement weather and lingering concerns

about the economy and the safety of travel.

Temporary Employment

Temporary employment firms generally reported modest increases in the demand for

placements since our last report. A contact in Hagerstown, Md., reported having a "sense"

that his customers were getting busier, which he believed would lead to an increased need

for temporary workers. Likewise, an agent in Charleston, W.V., said that he had acquired a

$2 million per year contract with a large firm in the area and he expected demand for

temporary workers to strengthen further as a result.

Agriculture

Wet conditions persisted in most areas of the District since our last report, delaying harvests

of some crops, causing rot and disease in small grains and vegetables and hampering hay

production. In many areas of Maryland, North Carolina, and West Virginia, farmers reported

that frequent afternoon storms had saturated fields and slowed the tobacco harvest.

Excessive moisture caused rot in melons in Virginia and some soybeans in North Carolina.

In contrast, corn and soybean crops in Virginia continued to show improvement with few

signs of disease. Despite the rains, both the cantaloupe and watermelon harvests were

nearing completion in South Carolina.

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Sixth District--Atlanta

Reports from Sixth District contacts pointed toward a modest improvement in economic

activity from late July through mid-August. Retail contacts were positive about sales

activity and the manufacturing sector displayed some welcome signs of improvement. The

pace of factory orders was reported to have increased in some industries, and transportation

contacts noted an increase in shipping activity. Despite the recent run up in mortgage rates,

single-family construction and sales remained flat to slightly up. Commercial construction

was still limited by low demand for new space. Nonetheless, office leasing activity and net

absorption conditions continued to improve in most markets. The District's tourism and

business travel sectors continued to lag, and higher gasoline prices in August were expected

to further dampen travel. The healthcare and education sectors continued to report increased

demand for workers, whereas the pace of the layoffs in the manufacturing sector slowed

from earlier in the year. The strongest employment reports came from Georgia and Florida.

Consumer Spending

Retail contacts indicated that sales growth during late July and through mid-August

improved compared with early July and exceeded year-ago levels on a same-store basis.

According to reports, sales have matched or surpassed expectations, and back-to-school

sales were generally very positive. Retailers continued to be upbeat about prospects for the

remainder of the year. Despite better than expected sales, there were no widespread plans to

increase inventory at this stage. District auto dealers continued to report mixed sales results.

Disappointing domestic car sales were offset by strong results for light trucks and for

non-U.S. brands.

Real Estate

According to reports from single-family homebuilders, new home construction and sales

from late July through mid-August was flat to slightly up compared with last year. However,

wet weather continued to dampen activity in some areas. For instance, one report noted that

Atlanta has had one of the wettest summers on record. Reports from District real estate

agents noted a slight weakening in overall sales growth, especially at the higher end.

Although contacts anticipated some continued slowing through the end of the year as a

consequence of higher mortgage rates, a dramatic drop-off in activity is not expected. The

region's commercial real estate markets continued to show small improvements, especially

regarding leasing activity and net absorption. However, weak demand for new space

persisted in most markets.

Manufacturing

Factory activity improved slightly since early July, but most firms remained reluctant to add

to payrolls or purchase new equipment. Reports from lumber mills, high-tech producers, and

building material suppliers indicated increased shipping volume and orders. Chemical

industry contacts reported steady demand. Production levels are increasing in the region's

auto industry because of newly opened auto assembly plants. However, new orders for

apparel and textile producers continued to suffer because of sluggish demand and foreign

competition. Consistent with the reports of increased production overall, business conditions

continued to improve for most shipping contacts. However, some have noted that the recent

blackout disrupted services to some manufacturing customers.

Tourism and Business Travel

Drive-to tourist destinations continued to report better performance than those relying on air

traffic but overall tourism activity remained subdued. Resort tax collections were down from

year-ago levels for some Florida counties, and international tourism remained weak. Along

the Mississippi Gulf Coast, casino gross gaming revenues were down from a year earlier.

Throughout the District, hotels catering to business travelers continued to report

low-occupancy levels.

Financial

Mortgage refinancing declined and applications for new mortgages slowed in most parts of

the District in August. Contacts continued to indicate that problem loans and delinquencies

continued to be manageable. Overall business loan activity remained lackluster. Borrowing

by small businesses remained down, except for activity related to the housing industry, such

as building material suppliers or furniture dealers.

Employment and Prices

There were mixed reports on labor markets in late July and August. The healthcare and

education sectors continued to add to permanent and temporary staffing levels. Layoffs in

some struggling manufacturing industries persisted, as did reports of weak demand for

temporary office staff. Most reports continued to indicate that businesses did not expect to

substantially change their hiring plans over coming months. Employment reports from

Florida and Georgia were generally stronger than other parts of the District. Increased costs

for insurance and pharmaceuticals continued to be reported, and higher gasoline prices in

August were expected to dampen travel-related activity in the District. Discounts by hotels

and cruise lines remained in effect in an effort to stimulate activity.

Agriculture

A series of new tropical storms brought significant rainfall to much of the District in July

and August. The rains slowed pesticide spraying in parts of Florida and Georgia, but no

major damage was reported. Generally, cattle and pastures were in good condition in most

areas. In Georgia, crop conditions were favorable, particularly for the soybean and corn,

which are expected to have record yields this year. These District crops could benefit from

increased export demand as a consequence of severe drought conditions in parts of Europe.

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Seventh District--Chicago

Seventh District economic activity improved in late July and the first few weeks of August,

with contact reports suggesting that gains, while modest, were broad based. The power

"blackout" of mid-August forced many Michigan businesses to close for a day or two, but

contacts were confident that any lost production and/or sales would be quickly recouped.

More generally, both consumer and business spending picked up in late July and August,

though households and firms remained cautious. Home sales rose as buyers rushed to lock

in interest rates, while commercial real estate markets remained weak. Manufacturing

activity also increased slightly, with widespread improvements in key industry segments.

Overall lending activity slowed, as mortgage applications dropped sharply. Prices firmed for

some producer goods and services, but fierce competition kept retail prices in check. Little

precipitation in late July and early August lowered expectations for the corn and soybean

harvest, dampening hopes of expanded capital spending by farmers and boosting the

likelihood of an increase in operating loan renewals and extensions.

Consumer Spending

Consumer spending firmed in late July and the first few weeks of August, although many

contacts (retailers, auto dealers, restaurateurs, etc.) indicated that gains in the Midwest again

lagged the rest of the nation. Retailers were generally pleased with sales results and said that

back-to-school promotions have been very successful. Inventories were mostly in line with

sales expectations, and at least one national retailer was planning to boost year-over-year

stocks in anticipation of stronger sales ahead. Entertainment spending was mixed. One

contact in casual dining said that sales were "okay," but the industry did not see an expected

boost from tax rebate checks. Ticket sales for one regional theater chain were down from a

year ago, though our contact indicated that the decline reflected product offering more than

consumer demand. District auto dealers said that light vehicle sales picked up in late July,

particularly in the last few days. Showroom traffic and sales slowed in early August, but

recent trends suggest that consumers have been waiting until the end of the month to buy,

believing that is when they will get a better deal. Several dealers noted an increase in service

sales. Tourism spending was generally flat in most of the region, although it seemed to

improve in the Chicago area.

Business Spending

While most firms remained cautious, business spending appeared to pick up slightly. Labor

demand was still soft, but was said to be firming in some areas and industries. Reports of

manufacturing layoffs became less frequent in recent weeks, and there were even scattered

reports of increased hiring. One large temporary help firm noted that the number of workers

on assignment was flat through mid-August, but average hours on assignment edged up,

rising to the highest levels in four or five years. A smaller staffing services firm also noted

"a trickle" of direct hire orders over the last two months, something that this firm had not

seen in two years. Capital spending remained soft, although we continue to hear reports of

spending for maintenance, repair, and replacement of equipment. While many business

contacts noted a general improvement in economic conditions, they suggested that capital

spending would remain subdued until cash flow improved. Reports on other business

spending (such as for advertising and travel) were mixed.

Construction and Real Estate

Home sales rose in much of the District in July and early August, while commercial real

estate markets remained weak. Realtors and builders in some areas said that July was a

"barn-burner month" for home sales, with many reporting all-time sales highs for the month.

Several contacts said that rising mortgage interest rates helped boost home sales as potential

buyers rushed to close deals, fearing rates would move higher. A few contacts noted that

traffic and sales activity slowed modestly in mid-August, but they did not think it was the

start of a trend. Realtors and builders were still optimistic about prospects for the fall, as

long as interest rates did not rise substantially further. Commercial real estate activities

remained soft, and contact reports suggested that markets had not changed much in recent

weeks. Demand for office space was still weak. One contact attributed the softness to slow

job creation, stating "if tenants aren't adding bodies, they don't need more space." With the

lack of payroll employment gains, many property holders again pushed back their timetable

for a recovery in office markets.

Manufacturing

Seventh District manufacturing activity picked up modestly in July, with gains broad based

across key industry segments. Automakers said that light vehicle demand was solid through

mid-August with sales nationwide running ahead of July's pace, and just below a year earlier

(which was an exceptional month). While many in the industry expect demand to remain

firm, inventories were still slightly high and automakers had not changed production

schedules. A major appliance manufacturer reported that shipments were strong in July and

off to a good start in August. Producers of heavy trucks and equipment noted an increase in

new orders and production in July. Contacts in the machine tool industry said that new

orders had firmed, and that the increase in demand was widespread. Domestic steel makers

benefited from a sharp drop in steel imports, which some contacts attributed to a weaker

dollar.

Banking and Finance

Overall lending activity appeared to slow somewhat, due in large part to a drop in mortgage

lending. Many bankers noted a sharp decline in mortgage refinancing activity as interest

rates on 30-year fixed-rate mortgages rose by more than 100 basis points since mid-June.

Mortgage applications for new purchases edged down, but held at high levels. Bankers

noted that more homebuyers were opting for variable rate mortgages. Margins on mortgage

loans narrowed in July and August, as competition for a smaller pool of potential borrowers

intensified. Overall credit quality on household loans was good, with little change from our

previous report. On the business side, some bankers indicated that loan demand firmed in

recent weeks, albeit slightly. For the banks that saw improvement, the gains were generally

in the small and middle-market business segments. One lender said that business loan

volumes should begin to rise in the third and fourth quarters as businesses "emerge from

survival mode." Overall business loan quality was still good, and some bankers indicated

that the number of loans on watch lists continued to trend down.

Prices and Costs

Some manufacturers (including steel, gypsum wallboard, and heavy equipment producers)

suggested that firmer demand was allowing them to raise prices and/or trim discounts. Over

the last few years, prices had been eroding more or less steadily for many manufacturers due

to a combination of weak demand, a strong dollar, and intense competition. Manufacturers

of a few consumer durables, such as appliances and light vehicles, said that product prices

continued to slide. Fierce competition kept retail prices in check, as many retailers

continued to use steep discounts to move merchandise. Some manufacturers said that natural

gas prices were raising the costs of production, and consumers faced rising prices at the gas

pumps. One national dining chain also suggested that increases in state and local taxes were

squeezing profits. Contacts suggested that wage gains continued to moderate, but higher

benefits costs (particularly for health insurance) kept overall employment costs rising.

Agriculture

Crop conditions have deteriorated in much of the region, which has lowered expectations for

corn and soybean yields. The lack of timely moisture in most areas stressed crops, although

the region escaped prolonged extreme heat. Soybeans were also stressed by aphids, forcing

additional spraying to prevent further yield losses. A later frost could give crops much

needed time for improved yields, especially in the eastern portions of the District where

planting delays were longest. Given lowered yield prospects and higher input costs, most

farm balance sheets are not expected to improve this year, and some may worsen. As a

result, contacts anticipate increased operating loan extensions and renewals this winter.

Moreover, a hoped-for increase in capital spending by farmers is now unlikely.

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Eighth District--St. Louis

Economic conditions in the Eighth District, particularly in manufacturing, have improved

moderately since our last report. Recently, there have been announcements of plant

openings, product line expansions, increased spending on research and marketing, and new

jobs created. Retail sales in July and August were down slightly, on average, from a year

ago. Auto sales over the same period rose slightly. Over the past three months, District

banks have seen almost no change in lending activity. Residential real estate markets in the

District continue to do well, while commercial markets are still lagging behind.

Consumer Spending

Contacts reported that retail sales in July and August were down slightly, on average, from

year-earlier levels. More than 50 percent of the retailers surveyed noted that sales levels met

their expectations, although, given the slow economy, they were not expecting much

growth. About 25 percent of contacts reported that sales levels were below what they had

anticipated. Food, apparel, shoes, home items, and appliances were strong sellers, while gift

items, jewelry, specialty, and luxury items were moving more slowly. More than 60 percent

of the retailers surveyed noted that inventories are at desired levels, while 25 percent of

contacts reported excess inventories. A few contacts indicated continuing plans for

merchandise discounting. Retailers remain cautiously optimistic about the next two months,

with 95 percent of contacts expecting sales to remain flat or slightly above 2002 levels.

Car dealers in the District reported that, on average, sales in July and August were slightly

up over year-earlier levels. Most contacts attributed this to strong manufacturer incentives

and heavier advertising, as more than 60 percent of them noted that their use of rebates has

increased. About 40 percent of contacts reported that sales of new cars have increased, while

20 percent of the car dealers surveyed reported in increase in low-end vehicle sales. About

40 percent of contacts reported that their inventories are at desired levels, while another 40

percent noted that their inventories are too low because of sales growth and the expectation

of the new models towards the year-end. About 60 percent of the dealers surveyed expect

sales to increase slightly over last year in the next two months.

Manufacturing and Other Business Activity

The Eighth District's manufacturing sector appears to be getting stronger. Plant openings,

product line expansions, increased spending on research and marketing, and new jobs have

been reported. Companies in the helicopter, boat, auto and auto-parts, aerospace,

pharmaceutical, fiber, wiring, communication, energy, food, appliances, stationery, and

printing industries have announced such moves. Firms in the communications,

pharmaceutical, and medical products industries have reported higher sales volumes and

increased earnings. There has also been an increase in acquisition activity, especially in the

magnesium, energy, foam material, and food industries. Business optimism is the highest it

has been over the past 18 months; however, many contacts note that the increased costs of

health insurance, severance packages, litigation, and natural gas prices have slowed the

recovery of manufacturing employment. Despite the positive outlook, there have also been

several announcements of plant closings, downsizing, layoffs, higher operating costs, low

sales volumes, and negative profits. Affected industries include textiles, bedding, chemicals,

wiring, furniture, metalworking, lubrication, and utilities.

Real Estate and Construction

Residential sales are still doing well in most of the District. In June, Memphis year-to-date

home sales were 10.3 percent higher than in June 2002. Over the same time period, Little

Rock had a 6.1 percent increase and northern Kentucky had a 14.0 percent increase.

Contacts report that new home sales continue to be strong despite recent mortgage rate

increases. June year-to-date single-family housing permits were up in most of the District's

metropolitan areas from last year. Permit levels increased by 22.8 percent in Little Rock and

by 5.6 percent in the Memphis area, but decreased by 5.0 percent in the St. Louis area.

Commercial real estate markets are still lagging behind residential markets in most of the

District. The St. Louis area office vacancy rate was 17.3 percent for the second quarter of

this year, up from 16.5 percent in the first quarter; the industrial vacancy rate remained

stable at 7.9 percent. The second quarter industrial vacancy rate in Louisville was 21.0

percent, and the midyear office vacancy rate was 20.2 percent---a modest increase when

compared with the same period one year ago. Although industrial vacancy rates have also

been increasing in Little Rock and in Tupelo, Mississippi, contacts in those two cities report

that construction is picking up. Commercial construction is also doing better in other parts

of the District, including several new projects being undertaken in Danville, Kentucky.

Banking and Finance

A recent survey of senior loan officers at a sample of District banks indicates little change in

overall lending activity over the past three months. Banks' credit standards for commercial

and industrial (C&I) loans remained generally unchanged for large and small firms. The

responses about the change in demand for C&I loans over the past three months varied from

unchanged to slightly weaker. Contacts that reported weaker demand cited a decrease in

merger and acquisition financing needs and the availability of alternative funding sources as

the most important reasons for the change. The responses about inquiries for future C&I

loans varied from slightly increased to moderately decreased. Given the historically low

interest rates and the subsequent downward pressure on banks' net interest margins, this

survey introduced questions about measures banks have taken to combat this situation.

Contacts reported that in the past six months they have increased the use of fees and interest

rate floors on C&I loans. Credit standards and demand for commercial real estate,

residential mortgage, and consumer loans remained generally unchanged over the past three

months.

Agriculture and Natural Resources

District crops are generally in good condition, but corn and soybean development is lagging

because of the lack of rain. On average, these two crops are rated over 65 percent in

good-to-excellent condition. Illinois and Indiana are considerably behind their five-year

averages in corn development. For all states except Arkansas and Mississippi, setting pods

in soybeans lags more than 20 percent behind their average pace. Sorghum development is

ahead of schedule in Arkansas and Mississippi, whereas in Illinois and Missouri it is

substantially behind average (and less than 40 percent is rated in good-to-excellent

condition). On average, approximately three-fourths of the cotton and rice, which is

developing ahead of its normal pace, is in good-to-excellent condition.

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Ninth District--Minneapolis

Overall Ninth District economic activity increased in July and August. The residential real

estate, consumer spending, manufacturing, energy and mining sectors grew, and tourism was

mixed. Meanwhile, commercial building was sluggish, and agriculture was down slightly.

Labor markets were soft. Wage and price increases were generally modest; however,

significant price increases were noted in natural gas, long-term care insurance and tuition.

Construction and Real Estate

Overall commercial building was sluggish, but some areas of improvement were noted.

During the first half of 2003, commercial construction activity in the Minneapolis-St. Paul

area office and industrial markets was at its slowest level in almost 10 years, according to a

real estate firm; however, leasing activity has picked up during the past two months.

Another Minneapolis-St. Paul real estate company noted that July sublease space in the

office market decreased by about 25 percent from year-end 2002. A number of new health

care related building projects are under way or planned in northeastern Minnesota. The

value of office and institutional building permits for July year-to-date in Sioux Falls, South

Dakota more than doubled from a year ago.

Home building and residential real estate activity grew. By the end of July, 401 permits for

new single-family homes were issued year-to-date in Billings, Montana compared with 318

for the same period a year ago, according to a city official. In the Minneapolis-St. Paul area,

the number of housing units authorized was 6 percent higher in July compared with last

year, and the number of home sale closures was up 10 percent.

Consumer Spending and Tourism

Overall retail sales grew moderately. A major Minneapolis-based department store and

discount retailer reported same-store sales in July up 3.1 percent compared with a year ago.

A Montana mall manager noted that July sales were up 4 percent from last year. While July

traffic was flat compared with last year at a Minnesota mall, August traffic was up. In North

Dakota a mall manager noted flat sales in July, but an increase in August with back-toschool shopping sales, particularly in apparel. Another Minneapolis area mall reported

recent sales as flat, but traffic was up 10 percent compared with a year ago. A consumer

sentiment survey conducted by the Montana Bureau of Business and Economic Research

showed that Montana consumers felt essentially the same about economic prospects in July

as they did in December 2002.

Tourism activity was mixed. In South Dakota, a tourism official noted that visits to a Black

Hills ranger station were up between 20 percent to 75 percent on any given day compared

with last year. Visits to Mount Rushmore were up 2 percent in July over a year ago. Tourism

activity was steady to up a little bit over last summer in North Dakota, an official said. An

outfitter in northern Minnesota reported activity level with a year ago. However, in the

Upper Peninsula of Michigan, July expenditure at tourism-related businesses was off about

10 percent compared with a year ago. July visits at Glacier National Park were down about

30 percent due to forest fires.

Manufacturing

Manufacturing activity was up slightly. Preliminary results from an August survey of district

manufacturers by the Federal Reserve Bank of Minneapolis and the Minnesota Department

of Employment and Economic Development revealed that businesses expect new orders and

production to increase in the second half of 2003 from the first half. In addition, a July

survey of purchasing managers by Creighton University (Omaha, Nebraska) indicated

overall increased manufacturing activity in the Dakotas and Minnesota. As evidence, a

human vaccine producer plans to expand in South Dakota, and a North Dakota brick

manufacturer recently completed a plant upgrade to double production. A shower and bath

spa company in the Upper Peninsula recently added a production facility and additional

shifts to keep up with demand. However, a North Dakota cheese processing plant and a

pasta factory shut down, and a consumer housewares producer plans to close a

manufacturing facility in Minnesota.

Energy and Mining

Activity in the energy and mining sectors increased slightly. Early August district oil and

natural gas exploration levels increased slightly from early July. In addition, a power plant, a

gasoline refinery, and wind and ethanol facilities are in development or design in the district.

Meanwhile, most major district iron ore mines are operating at near capacity, although cost

cutting and productivity enhancements were announced at several mines. A Montana copper

mine plans to reopen this fall.

Agriculture

Agricultural economic activity was down slightly. Significant soybean aphid infestations

were reported in parts of Minnesota. Lack of moisture caused stress to district row crops and

livestock as drought conditions expanded across most of the district. Row crop farmers

across the district complained of reduced yield expectations due to lack of rainfall. The U.S.

Department of Agriculture rated 62 percent and 37 percent of pastureland in Montana and

South Dakota, respectively, as poor or very poor. However, preliminary results of the

Minneapolis Fed's June Survey of Agricultural Credit Conditions revealed that 35 percent of

lenders expect above average farm income during the third quarter. The mid-summer dry

weather assisted small grain harvests. The USDA rated about three-quarters of the

Minnesota and North Dakota spring wheat and barley crops as in good or excellent

condition.

Employment, Wages, and Prices

Labor markets were soft. Employment levels were down almost 1 percent among district

states in July compared with a year ago. Minnesota's initial claims for unemployment

insurance increased 4 percent in July compared with last year. Layoff announcements

included the closure of two call centers in South Dakota that resulted in 230 job cuts. In

Minnesota a circuit board manufacturer cut 100 jobs and a maker of power-conversion

products eliminated 40 jobs. A mine in the Upper Peninsula reduced employment by 50

positions. A retailer in the Minneapolis area recently received 1,600 applications for 150

positions at a new store. Preliminary results of the survey of district manufacturers show

that respondents expect only slight employment growth for the rest of 2003.

In contrast, home building contractors recently noted difficulty finding available laborers in

Billings, Montana. In St. Paul, a temporary services firm noted that demand was relatively

strong this summer compared with last year. Recently revealed expansion plans include a

Minnesota online education firm that may increase employment by about 400 positions. A

new call center in North Dakota plans to employ up to 125 employees. Overall increases in

wages were moderate. For example, union members at two Minnesota newspapers agreed to

annual wage increases of about 2 percent to 3 percent over the next four years. However, the

average wage for hired workers on farms in Minnesota, Michigan and Wisconsin increased

12 percent in July compared with a year ago.

Price increases were generally modest, with exceptions noted in prices for natural gas,

long-term care insurance rates and tuition. District manufacturers expect product prices to

remain level for the rest of 2003, according to preliminary results of the manufacturing

survey. Several thousand households in Montana recently saw natural gas rates jump 35

percent over a year ago. Some insurance companies in Minnesota just announced premium

increases for long-term care insurance of 20 percent to 45 percent compared with last year.

Tuition increased about 12 percent to 15 percent at the University of Minnesota for

2003-2004 compared with last year.

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Tenth District--Kansas City

The Tenth District economy continued to improve in late July and early August, and

business contacts were generally upbeat about future activity. The manufacturing sector

added to gains made earlier in the summer, retail sales again rose slightly, and housing and

energy markets remained strong. On the negative side, commercial real estate activity

weakened slightly after showing signs of stabilizing in recent months. In the farm economy,

hot, dry weather harmed crop and pasture conditions. Wage and price increases remained

minimal, while employee benefit costs continued to rise.

Consumer Spending

Retail sales in the district increased slightly in late July and early August and were above

year-ago levels at most stores. Retailers attributed part of the improvement to consumers

spending federal tax rebate checks. Among product categories, sales of men's and children's

apparel, particularly back-to-school clothes, were strongest. Some softness was evident,

however, in sales at high-end stores and in sales of jewelry. Most retailers expect sales to

increase further through the fall. Store managers were generally satisfied with inventory

levels and plan only seasonal changes in coming months. Sales of new motor vehicles in the

district increased slightly in late July and early August, and, in a change from the previous

survey, sales of used vehicles also rose. Auto sales, however, were still somewhat lower in

most areas than last year's high levels. The improvement in vehicle sales in recent months

has allowed most dealers to reduce or eliminate excess inventories heading into the new

model year. Nearly all dealers remain optimistic about future sales, due in part to the

anticipated continuation of manufacturer incentives. Travel and tourism activity was mixed

across the district. Airport traffic increased from earlier in the summer in several cities but

was down somewhat in others. Rafting activity in Colorado was reported to be solid, and

hotel occupancy rates in Denver finally rose back above year-ago levels. On the other hand,

some recreation businesses in and around Yellowstone reported fewer visitors in early

August due to wildfires.

Manufacturing

District manufacturing activity expanded further in late July and early August, and most

managers were optimistic about future output. Plants reported slightly higher levels of

capacity utilization than in the previous survey, and the volume of new orders rose

considerably. Producers of pharmaceutical goods reported the strongest activity, while some

makers of fabricated metal products continued to struggle. Several manufacturers reported

that recent increases in demand have spurred longer workweeks and some new hiring.

However, factory production remained slightly below year-ago levels, and capital

expenditures were still sluggish at most firms. In addition, several firms indicated concern

about the continuing impact of high energy and insurance costs on their profit margins.

Real Estate and Construction

Residential real estate activity in the district remained strong in late July and early August,

while commercial real estate activity weakened slightly. Single-family housing starts

maintained a rapid pace in most district cities, with starts of entry-level homes particularly

robust. Builders reported that demand for virtually all types of homes was boosted

somewhat in recent weeks by home-buyers rushing to sign contracts for new houses before

mortgage rates rose further. Builders generally expect strong single-family construction to

continue through the fall. Home sales also remained brisk across the district in late July and

early August, and inventories of unsold homes showed signs of stabilizing in most markets

after rising earlier in the year. Like builders, realtors in some cities reported increased buyer

traffic in July after mortgage rates began to rise. Most realtors expect sales to hold steady in

coming months. The strong residential real estate activity boosted demand for home

purchase mortgages, partly offsetting a steep decline in refinancings. Mortgage lenders

generally expect the shift from refinancings to home purchase loans to continue, with

overall loan demand moving lower through the fall. Most commercial real estate markets in

the district weakened slightly in late July and early August after showing signs of stabilizing

in previous surveys. Sales and absorption of office space eased in most cities, while vacancy

rates edged higher. Looking forward, realtors expect commercial real estate activity to

remain sluggish for at least the remainder of the year, but they generally do not anticipate

further deterioration in conditions.

Banking

Bankers report that loans increased and deposits held steady since the last survey, boosting

loan-deposit ratios somewhat. Demand for home purchase mortgages continued to rise, and

demand for commercial real estate loans increased as well. In contrast, demand for business

loans and consumer loans was largely unchanged. On the deposit side, slight increases in

demand deposits and NOW accounts were offset by a decline in large CDs. Most respondent

banks held their prime lending rates and consumer lending rates steady, and lending

standards were unchanged.

Energy

District energy activity continued at a solid pace in late July and early August. The count of

active oil and gas drilling rigs in the region edged higher. Moreover, district bankers

reported strong loan demand for gas field equipment and development, suggesting that

natural gas production will continue to increase. After easing slightly in late June and July,

natural gas prices began to rise with higher temperatures in August and are expected to

remain elevated in coming months. Some contacts fear a spike in prices this winter if hot

summer temperatures prevent gas supplies from being adequately replenished by November,

or if winter temperatures turn out to be colder than normal.

Agriculture

Hot, dry weather had a marked adverse impact on the district's farm economy in late July

and early August. The condition of corn and soybean crops deteriorated, and planting

prospects for winter wheat were poor. Pasture conditions throughout the district also showed

signs of deterioration. While herd liquidations did not increase, most livestock producers

were not expanding their herds. Strong cattle prices will boost profits for livestock

producers this year, but district bankers do not expect borrowers to recover all of the losses

incurred over the last few years. District farmland values continued to be boosted by

nonfarm demand in scenic areas and for recreational use.

Wages and Prices

Wages and prices remained relatively stable in late July and early August. Labor markets

were still quite slack around the district, and managers reported worker shortages in only a

few occupations, including pharmacists and security guards. The pace of layoff

announcements picked up slightly but remained much slower than earlier in the year. Firms

generally do not expect further reductions in their workforces, but the vast majority of firms

also plan very little hiring until 2004, due in part to productivity enhancements. Wage

pressures were virtually nonexistent, with nearly all firms offering only cost-of-living

increases or less. Benefit costs continued to rise, however, and most firms do not expect

health insurance inflation to subside anytime soon. Overall, pricing trends have remained

largely unchanged from the previous survey. Retail prices remained flat, and building

contractors and manufacturers reported little ability to raise their prices in the face of rising

fuel and energy costs. Retailers expect little change in prices in coming months. However,

manufacturers anticipate some increases in steel prices heading forward, and builders expect

slight increases in some construction material prices, including gypsum wallboard.

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Eleventh District--Dallas

Eleventh District economic activity remained generally weak from mid-July to late-August

but there is improved optimism about the outlook for activity. There was little change in

manufacturing or service sector activity, but retail sales were higher. Contacts at financial

institutions reported slightly improved conditions. Construction and real estate markets were

also very slightly improved. There was little change in energy activity, and dry weather

hampered agricultural production.

Prices

Higher energy costs were reported as a concern, particularly by manufacturers, and these

increased costs are being passed along to consumers when possible. Crude oil prices moved

in a narrow range of $30-$32 for West Texas Intermediate during the period. U.S. crude

inventories are only slightly higher than the 27-year low set during the disruption of

Venezuelan crude deliveries earlier this year. Retail gasoline prices nationally rose from

$1.53 to $1.58 between late June and early August. The blackout is expected to briefly add

another 10 cents to gasoline prices. Gasoline inventories remained at the lowest levels of the

last 8 months.

Natural gas prices fell steadily throughout the period as storage continued to fill at a faster

than normal pace, but prices remain high compared to this time last year. Spot prices fell to

$4.60 in late July, a decline of 60 percent since February. Natural gas in storage is now only

9.4 percent below the 5-year average, and 18 percent below last year. Storage was 35

percent below the five-year average earlier this year. Natural gas going into storage this

summer does not appear to be coming from new supplies, rather it is the result of "demand

destruction"-large industrial users closing, cutting back or switching to oil.

Prices continue to fall for most manufactured products, including apparel, lumber and paper.

Paper producers say that consolidation in the industry is keeping prices 10 percent to 15

percent higher than demand would dictate, and future price declines are anticipated. Prices

for fabricated metals are being heavily discounted (or the quality of the product improved)

to keep up with the competitiveness of the industry, despite rising input prices.

Manufacturing

Manufacturers continued to report tough economic conditions, with lower than expected

demand and continued layoffs at some plants. Still there were some reports of increased

activity and many contacts were more optimistic-or less pessimistic-than they were six

weeks ago. The pace of layoffs appears to be slowing.

Paper producers say that demand remains soft even though this should be a time of

seasonally increasing activity. Contacts attribute the weakness to a lack of manufacturing

activity, and say that the pick up in demand for boxes to ship Christmas orders was smaller

than is typical. Some paper companies have reduced their workforce to cut costs,

eliminating support positions rather than production workers. Others firms anticipate some

future layoffs if business does not pick up.

Construction-related manufacturers reported a slight increase in demand but expressed

concern that, without a backlog of orders, the outlook for activity is uncertain. Demand for

fabricated metals and lumber picked up. The increase in lumber sales was partially seasonal,

and contacts say that sales are just "less horrible" than they have been in the past. Demand

for brick and cement was unchanged, but competitive pressures remain stiff. Companies say

they are still finishing up projects stimulated by lower interest rates, and indicated some

worries that rising mortgage rates could dampen demand down the road.

Demand for primary metals has been "spotty" over the past month. Contacts say the industry

is experiencing stronger demand than a year ago and quoting activity has increased. Demand

for apparel products is picking up, but manufacturers continue to lay off workers to remain

competitive. There was little change in demand for food products.

Orders of high-tech products continued to increase, although at a slower pace than the

strong second quarter. Steady gains in personal computer and cell phone sales since the last

survey continued to drive the demand for semiconductors. Asia was reported to be a hotbed

for semiconductor production and consumption while demand in the U.S. was described as

"better but not robust." Much of the demand for PCs continues to come from consumers, but

replacement demand by businesses continues to improve. One respondent noted that there is

still little hiring because companies are improving profits by driving up productivity as far

as they can. Most respondents expect continued improvement for the remainder of the year.

Demand for chemicals remains weak and prices have fallen again for ethylene, propylene,

styrene, polyethylene, polypropylene, and polyvinyl chloride. Demand has been sluggish

domestically, and export markets are hurt by the high price of natural gas relative to oil.

A series of accidents and unplanned outages at refineries caused several spikes in the price

of gasoline in July, and tightened supply enough to move spot prices over $1.10 per gallon

in late August. Additional refinery outages as a result of the blackout further reduced

production and impaired pipelines. Gasoline consumption for the first half of 2003 was

down compared to a year ago, the first six-month decline since the 1990-91 recession.

Capacity utilization on the Texas and Louisiana Gulf Coast rose slightly from 95 to 96

percent. Refiner's margins improved throughout the period, mainly on the basis of higher

gasoline prices.

Services

There was increased optimism in the service sector, although activity was mostly

unchanged. Demand is mostly unchanged for temporary staffing and placement, although

there was a pick up in staffing needs for tech support and call centers. Legal contacts also

reported little change in overall activity. There has been some drop-off in regulatory work,

but activity is steady for litigation and bankruptcy. There is still little demand for mergers

and acquisitions, and this comes as somewhat of a surprise as contacts anticipated a reaction

to pent-up demand by now. Legal work to support transactions has picked up a little and

clients are beginning to plan more for the future.

With the exception of higher than expected fuel prices, airlines continue to report steady

improvement. Overall, airplanes are carrying more passengers and prices are moving up. As

long as industry capacity stays where it is, the outlook has improved in the medium term.

The outlook for trucking is "looking a little better." Rail shipments in the Western U.S. are

still running slightly higher than year-ago levels. Future months could see some upward

pressure on prices if rail capacity is tested with rising demand.

Retail Sales

Retail sales growth increased over the past six weeks, and retailers are cautiously optimistic

that sales will continue to meet the high end of expectations. While there was some question

about how much the sales pickup was stimulated by tax refund checks, retailers who cashed

checks in the stores believe the increased sales are not entirely induced by tax credits.

Competition remains stiff, and retailers say they still have no pricing power. Because prices

have fallen for most products, contacts note that the volume of sales has increased by more

than the dollar growth of sales suggests. There has been no change in the pace of automobile

sales. Respondents expect steady business ahead, but not to the peak-levels experienced in

the last couple years.

Financial Services

Financial conditions have improved slightly leading contacts to be more optimistic about the

outlook for activity, although caution remains. Business is returning, according to

respondents, who say that traffic and referrals are up, and customers appear to be expressing

more interest in capital investment and doing deals, but are not yet ready to pull the trigger.

Deposit growth remains strong and loan demand appears to be stable to up in most

categories. Mortgage activity is still the strongest category with consumer lending close

behind. The recent increase in mortgage rates has spurred people to act before rates increase

further, according to contacts. Auto lending remains weak with strong competition between

banks, credit unions and "captive" lenders, such as GMAC or Ford Credit. Commercial and

industrial lending is mildly positive but caution is still prevalent.

Construction and Real Estate

Construction and real estate markets improved some over the past six weeks. Contacts say

the up-tick in mortgage rates pushed some fence-sitters into the new and existing-home

markets. The industry remains very competitive, restraining price increases. New home

construction rose in some metro areas, but contacts believe building will ease in the latter

part of the year. The strong housing market has come at the expense of the apartment

market, which continues to experience growing supply and reduced demand.

Contacts are more optimistic about commercial real estate markets. A recent pick up in

leasing inquiries seems to have ended the deterioration in the office market. With little office

construction underway, contacts are hoping for improvement later in the year, although it is

unlikely that a noticeable turnaround will occur until 2004. Retail markets remain the best

performing of the commercial sectors. Demand for industrial space was up in Houston and

flat to down in Dallas.

Energy

After growing strongly in the early part of the year, District drilling activity leveled off in

mid-May and has remained relatively constant. Drilling in the Gulf of Mexico remains

unchanged, although some rigs moving to Mexico may improve utilization and day rates.

The U.S. domestic rig count leveled off in recent weeks before dropping sharply at the latest

weekly reading. The decline raised concerns that domestic activity is peaking, but the drop

was related more to wet weather than to market fundamentals. International drilling remains

strong. Respondents continue to describe the current market as very good if not great, and to

be moderately optimistic about the future. Pricing is adequate for capital recovery, but

companies are controlling costs and remain cautious about hiring. Despite slower growth in

domestic activity, service companies continue to report a good market, with adequate

margins and pricing that continues to slowly improve.

Agriculture

Hot, dry conditions reduced soil moisture and stressed some crops. The cotton crop,

especially dryland cotton, has suffered damage because of the heat, and yields are expected

to be below year-earlier levels. Hot weather has also affected the corn crop. Crop production

continues to be hampered by high energy costs and relatively low commodity prices. The

cattle market remains in relatively good shape with steady demand and stable prices, but

some contacts said water supplies were getting low, and range conditions were deteriorating

quickly in the heat. Supplemental feeding of cattle continues in the driest areas.

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Twelfth District--San Francisco

Reports from Twelfth District contacts indicated a modest increase in overall economic

activity in late July and August, representing an improvement in the pace of growth. With

the notable exceptions of health care services and energy, contacts noted little upward

pressure on prices and wages. Retailers reported that sales were generally up and that

discounting was less pervasive than in past survey periods. The District's software services,

travel, and tourism sectors saw improvements. Reports indicated that manufacturing activity

continued to rise; orders strengthened for manufacturers of semiconductors, machine tools,

and basic metals. Conditions for District agricultural and resource-related businesses

remained solid. Respondents indicated that demand for homes continued to be strong, while

commercial real estate generally remained in the doldrums. Banking contacts reported some

slight improvements in commercial loan originations, particularly among small businesses,

and a sharp decline in mortgage refinancing in response to the rise in long-term interest

rates.

Prices and Wages

District respondents reported that prices for final goods and services exhibited very little

upward movement in the most recent survey period. Exceptions to this pattern were for

health care services, natural gas, and gasoline. Contacts noted ample labor supply and little

upward pressure on wages in most areas. In contrast to wages, several employers noted that

they continued to face pressure from increases in non-wage labor costs such as health

insurance benefits and workers' compensation and liability insurance, particularly in

California.

Retail Trade and Services

Reports from District retailers indicated improved sales during the most recent survey

period. Contacts reported solid automobile sales (spurred in part by generous incentives),

especially for foreign brands. Favorable financing terms and strong home sales helped

prompt sales of large appliances. Discounting among retailers reportedly was less pervasive

than in previous survey periods. In response to stronger sales, a big-box retailer finally acted

on its expansion plans and proceeded with the construction of additional stores in the Pacific

Northwest.

Demand for several other District services strengthened a bit. Of note, contacts indicated

that demand for both air and water transportation services trended up. Additionally, new

orders for some software and media services increased slightly, with the exception of

enterprise software where business is still very slow. District service providers reported a

slight increase in demand for both part-time and full-time employees in IT services. On the

downside, telecommunications service providers continued to be plagued by soft sales and

excess capacity. About an equal number of District retailers and service providers planned to

either increase or leave capital spending unchanged, while only a small number expect

capital spending to decrease in the near term.

Reports indicated that conditions in the District's travel and tourism sectors improved

slightly in late July and August. In Hawaii, increases in domestic visitor counts largely

offset declines by international visitors. Hotel occupancy rates inched up in Hawaii,

California, and other areas. However, the restaurant industry continued to face belownormal demand in some markets.

Manufacturing

Overall District manufacturing activity picked up in late July and August. Demand for

semiconductors improved and capacity utilization, particularly for leading-edge products,

reportedly remained high. Respondents noted that semiconductor prices increased slightly,

although competition held down prices for most IT products. Producers of other

manufactured products, such as machine tools and basic metals, also reported improved

orders. Consistent with improved conditions, a majority of manufacturing respondents

indicated plans to increase total capital spending and spending on IT in the next several

months.

Agriculture and Resource-related Industries

Agricultural contacts noted continued strength in export activity. Respondents reported

stable prices overall for crops and livestock. Demand for natural gas was boosted by hot

weather in late July and August. Also, poor water conditions are expected to reduce the

amount of hydro-power and increase the demand for natural gas. In response, natural gas

prices rose in recent weeks, and rig counts and extraction have been increasing. Gasoline

prices in the district also increased as a result of a break in an Arizona pipeline.

Real Estate and Construction

Housing demand remained a bright spot in the District's economy. New home construction

continued at a brisk pace across the District, particularly in areas where demand exceeded

supplies, namely Hawaii and Southern California. Several respondents believed that housing

demand increased as some home buyers rushed into the market fearing that interest rates

may escalate further.

On the commercial side, high vacancy rates continued to characterize many District

markets, including the San Francisco Bay Area and Las Vegas. Contacts reported very little

commercial construction activity outside of Hawaii and Southern California.

Financial Institutions

Throughout the District, increased interest rates have sharply reduced mortgage refinancing

activity, although originations for new mortgages remained strong. Contacts reported some

signs of improvement in the demand for commercial loans, particularly among small

businesses. Respondents noted that some of the pickup in commercial loan demand likely

owes to anxiety over possible future increases in interest rates. Finally, a majority of District

banks reported plans to increase total capital spending as well as spending on IT in the next

several months.

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Last update: September 3, 2003