May 10, 1978
Reports from the Third District indicate that the local economy is continuing its expansion in May. Retail sales are up significantly from the corresponding period in 1977. At the same time, manufacturers report another uptick in activity in their sector, along with some improvement on the employment front. With regard to the future, however, there is mixed opinion. While retailers look for further real gains in sales, optimism in the industrial sector has dropped to its lowest point in this recovery. Area bankers say business borrowing is strong this month, but don't expect any further pickup this year. Interest rates are expected to rise another 25 to 50 basis points by year-end, with the possibility of greater hikes if inflation accelerates further.
Manufacturers responding to the latest Business Outlook Survey give a clear indication that the upswing that started in March is continuing. Over 40 percent of the respondents this month say business has improved since April. A Director of this Bank in a nondurables industry confirms that May has been a strong month so far. In terms of specific indicators, new orders and shipments are higher in May, while inventories are down significantly for the first time since the beginning of 1977. The current surge has given a boost to manufacturing employment also. Larger work forces are reported at one-fourth of the firms sampled, while the average workweek is longer at a slightly smaller proportion.
Although manufacturing executives are still generally bullish for the longer term, optimism is, on average, less widespread now than at any time during the current expansion. Reflecting this, the proportion of respondents anticipating growth in new orders and shipments over the next six months is shrinking. Inventories are expected to remain unchanged between now and November. Despite this gloomier forecast though, respondents still anticipate an increase in factory payrolls six months down the road, and project higher expenditures for plant and equipment.
On the price front, inflation appears to have worsened slightly in May. Fifty-six percent of those polled report higher prices for raw materials this month, and 38 percent say they are charging more for their finished products. Comments by a Bank Director in the food industry agree with these reports. He says that all costs of production, including labor, are rising and that he will have to raise the prices of his products to maintain current profit margins. Looking ahead, about 9 out of 10 Survey respondents anticipate paying more for inputs by November, and about 2 out of 3 expect to be charging more by then for the goods they sell.
Third District retail sales are strong in May. Reports of current dollar sales range from 6 to 20 percent over year-ago levels, and would probably be higher were it not for unseasonably cool weather. These figures may be slightly inflated though, because sales at this time last year were depressed in the Philadelphia area by a public transit strike. Nevertheless, sales are outpacing expectations by 1 to 4 percent at the stores contacted. Inventories are at desired levels, on average.
Looking ahead to the rest of the year, most area merchants are optimistic. Although one contact anticipates sales growth of only 5 to 6 percent over year-earlier levels, most look for larger gains of 10 to 16 percent. One dark spot in sales projections, however, is inflation. Several retailers contacted feel that the current upswing in sales is the result of consumers trying to hedge against future price increases. If this is true, they point out, sales will slow in the coming months, as buyers start to pay for merchandise bought now.
Commercial bankers in the region say business loan demand is stronger in May. Current levels of C&I loans are reported to be between 4 and 10 percent above year-end '77 levels, and as much as 7 percent over planned volume. Contacts say the bulk of the demand is from larger companies outside of the immediate area.
As for the future, bankers forecast generally flat loan demand and gradually rising interest rates throughout the remainder of 1978. The prime rate (currently 8 1/4 percent at all of the banks contacted) is projected to be in the 8 1/2 to 8 3/4 percent range by year-end. One banker puts a caveat on the prediction, however, saying that if inflation worsens, the prime could go to 9 percent.