EconSouth (Fourth Quarter 2001)
he U.S. economy entered 2001 on a slowing trend. This downshift was particularly evident in manufacturing industries that were already operating under fierce competitive pressures. In order to reduce bulging inventories brought about by declining sales, firms cut production levels. In line with this cutback in production, firms initially maintained staffing levels but reduced hours worked. When this measure alone proved to be insufficient, manufacturers trimmed payrolls, and in some cases entire plants were closed.
By summer the manufacturing sector’s woes were clearly spilling over into the then robust service sector. For instance, as manufacturing employment contracted so did demand for the services of labor supply firms and transportation companies.
The slowdown also affected business and consumer spending decisions. Businesses became increasingly reluctant to undertake new investments that would expand productive capacity, and they sharply curtailed travel and other expenditures as sales opportunities diminished and profits declined. Office space, which had been in short supply in several of the region’s larger cities, became available as unsuccessful dot-com businesses closed or consolidated. Consumers also cut back on spending when their net wealth positions dropped following stock market declines.
In the face of a slowing economy, oil prices eased back from the highs of 2000. Lower oil prices, coupled with generally weaker demand, reduced inflationary pressures.
From a monetary policy perspective, the Federal Reserve responded early in the year to signs of economic weakness by lowering short-term interest rates aggressively. Longer-term rates, such as those tied to 30-year mortgages fell too. Lower interest rates, together with continued overall personal income growth, helped maintain a solid level of activity in the housing market. Consumers and businesses alike were also able to take advantage of lower interest rates to restructure their balance sheets, paying off high-interest debt using lower-interest loans. The federal government also loosened its fiscal policy stance as evidenced by the summer income tax rebate program aimed at stimulating household spending.
Whether the policy measures enacted in the first eight months of 2001 would have been sufficient to prevent the degree of contraction seen in the overall level of economic activity is not clear. What is clear, however, is that the tragic events of Sept. 11 exacted a substantial toll on the nation’s economy, leading to a decline in overall economic activity. Moreover, the terrorist attacks directly affected the tourism and travel industries — industries that play important roles in many parts of the Southeast.
National outlook shows promise and risks
For the nation, economic growth in 2002 will recover but at a more moderate pace than was anticipated prior to Sept. 11. The economic environment for businesses and consumers has changed as a result of that day’s events, and it may take time for the economy to fully adjust.
While consumer spending slowed considerably during 2001, consumers’ favorable reaction to price adjustments, like the price incentives introduced for automobiles in the latter part of the year, suggests that consumers are being more price conscious but are not eliminating discretionary spending. This trend will likely continue in 2002, but the outlook contains considerable risks that could affect the outcome. And some factors that contribute to a positive short-term outlook for economic activity, such as stimulative monetary and fiscal policies, may ultimately lead to a negative longer-term inflation outlook.
Moderate economic growth seen for Southeast
The outlook for 2002 across the Southeastern states reflects the considerable diversity in the mix of economic activities across the region.
Florida’s economy is heavily service-oriented. Although Florida’s service sector displayed strong growth through most of 2001, the state’s relative dependence on the travel and tourism industry meant that it was particularly exposed to the fallout from Sept. 11. While travel activity picked up somewhat later in 2001, it was still well below the levels of the recent past. In the short-term, tourism and related industries are likely to remain under pressure.
Other states in the region, such as Alabama and Mississippi, have relatively high concentrations of traditional manufacturing activities such as apparel, textiles, lumber and steel. These industries were hit hard by the initial contraction in manufacturing activity in 2000, and this contraction continued throughout 2001. Traditional low-value-added manufacturing industries face many long-term challenges, including strong competition from foreign producers and strong incentives to move production offshore to take advantage of lower production costs. Fortunately, the shift to higher-value-added activities, such as automobile manufacturing, is likely to be a continuing trend in the region.
The total mix of economic activities across the Southeast is broadly similar to the nation’s industry mix. Therefore, there are few pronounced differences between the overall outlook for the nation and the Southeast in the individual sectors of these economies, but certain differences do emerge in the outlook for individual states.
Service sector hopes to rebound
The service sector, which includes hotels, recreation, health care and business services, accounts for more than 30 percent of total nonagricultural payroll employment in the Southeastern and national economies.
Employment growth in the Southeast’s service sector slowed notably in 2001. After growing at a rate of almost 5 percent in 2000, employment in services likely grew at a pace of less than 3 percent in 2001. The slowdown was especially pronounced in business services, which lost 29,000 jobs in Georgia alone in the first three quarters, reflecting the shakeout in high-tech industries and the decline in manufacturing. Continued sluggish factory activity may hold down growth in business services for the near term.
Although data through the third quarter of 2001 showed some overall increases in the hotel and lodging and recreation and amusement industries, later data will no doubt reflect the adverse effect of the Sept. 11 terrorist attacks. Immediately following the attacks, tourist and convention activity came to a near standstill, as reflected in sparse convention attendance and low hotel/motel occupancies. The 2002 outlook is for a slow rebuilding as the confidence of the flying public returns and corporations renew business travel. The region’s traditional “drive-to” tourist markets should fare better than the “fly-in” markets in the short term.
The large health services sector displayed mostly stable employment levels over the course of 2001. Going into 2002, health services should maintain employment levels, fueled by the demands of the aging baby-boomer population. Based on increased security needs sparked by the events of Sept. 11, firms that specialize in security and protective services, particularly those firms specializing in security technology, will add to employment rolls in 2002.
Manufacturing — part trend, part cyclical
Southeastern manufacturing employment declined again in 2001. Factory employment fell by over 3 percent during the year following a more than 2 percent decline in 2000. Manufacturing-intensive states such as Alabama, Mississippi, Georgia and Tennessee saw the largest declines, but nearly all major factory industries posted job losses.
The labor-intensive apparel sector was especially hard hit. Foreign competition increased, and domestic producers moved plants offshore to take advantage of cheaper labor, decimating the apparel workforce. Some estimates by industry analysts indicate that apparel employment fell by nearly 11 percent, or about 12,000 workers, during 2001. Apparel employment is down by almost 50 percent in the Southeast since 1986. Employment in the textile sector fell by more than 6 percent during 2001 as demand for core products like office carpet tiles slackened.
Slowing residential construction and home remodeling resulted in employment declines in the region’s furniture and lumber and wood industries. The electronics, transportation equipment and machinery industries also registered declining employment over the year as consumers cut back on purchases of durable goods and companies cut back on outlays for capital equipment and machinery. The outlook for the region’s factory sector is subdued and will hinge on the pace of recovery in demand. Although increased military contracts have helped some domestic apparel producers, the long-term trends of declining employment in apparel and textile industries should not change substantially.
Continued strength in the housing market or a pickup in commercial real estate markets would help both the building materials and the furniture industry. The transportation equipment industry in 2002 will get a boost from military ship production, and the recent boom in automobile sales has supported the Southeast’s important vehicle production industry. Expansions of automobile production facilities in the Southeast should continue. Moderating oil and gas prices, together with higher production costs, will probably dampen the pace of recent expansions in the oil and gas industry in the Southeast.
Retail trade — the wild card
Retail sales slowed considerably during the first half of 2001. Overall sales growth was only modest and not evenly distributed across the various types of retailers. Inventory levels were unusually high at the beginning of 2001, and deeper than normal discounting pushed sales for much of the year.
Consolidations in the retail industry continued as several chain stores scaled back operations or left highly competitive markets. Both durable and nondurable sales were weak overall; however, discount retailers fared much better than department stores and upscale retailers. The fact that discount retailers still performed reasonably well in 2001 suggests that a solid level of consumer demand remains, but shoppers are looking for bargains. In this environment, merchants have been especially wary of accumulating inventory.
Difficulties already apparent in the retail sector were exacerbated by the Sept. 11 terrorist attacks, which left consumers more uncertain than ever about their own prospects and hence increasingly cautious about purchasing decisions. Florida retailers were hit especially hard, and merchants who depend on tourists reported a sharp decline in traffic and purchases. Consumer confidence has definitely been shaken by recent events, and it appears consumers will continue to carefully monitor spending decisions until they see clear signs of an improvement in the economic climate.
Construction slower but at a high level
The region’s single-family home construction activity continued to slow through 2001 but remained healthy overall. Homes priced on the high end did accumulate in some markets such as Atlanta, Tampa and Nashville, but there was little evidence of widespread overbuilding problems. Low- to midpriced homes remained in strong demand, particularly in south Florida.
Lower mortgage rates helped support demand for new and existing homes. There was a slight increase in the rate of single-family permit issuance in 2001 after a small decrease during 2000. The Florida market, which represents nearly half of new home construction in the Southeast, was particularly robust. Inventories were often in short supply in the Sunshine State.
Looking ahead through 2002, the key for single-family housing markets will be the extent to which income growth can be sustained to support purchases. Further declines in the employment situation will put downward pressure on housing markets. Fortunately, it appears that the industry is well positioned for any further gradual downturn as builders have been proceeding cautiously for some time.
The health of the multifamily sector in the Southeast has closely mirrored the national situation, with the level of construction activity starting strong but declining as 2001 progressed. By year-end 2001, supply was well in excess of demand in several Southeast markets. For example, in Atlanta and Orlando the vacancy rate increased notably and rent concessions were common. In south Florida and in Birmingham the high-end condominium market moderated. In 2002, the multifamily construction market will likely continue to slow to bring supply and demand into closer balance.
Industrial and office real estate markets in the Southeast also experienced some oversupply problems during 2001. The imbalances were most pronounced in the office sector. Corporate mergers, buyouts, consolidations and bankruptcies increasingly kept commercial real estate space empty.
Along with higher vacancy rates, sublease space was abundant in most parts of the region, putting further downward pressure on rents. In response, speculative construction was reduced somewhat and many projects were postponed or cancelled altogether. Retail and industrial vacancies also rose during the year.
One area of strong growth has been public sector work. But this trend will not be sustained into 2002 as state governments cut spending in the face of reduced revenues (see sidebar in Regional Focus). The decline in commercial real estate markets in the Southeast has been more pronounced than in many other parts of the nation, and construction levels should continue to remain subdued through 2002 as both developers and financiers proceed cautiously.
Editor’s note: Throughout this issue, Southeast refers to the six states that, in whole or in part, make up the Sixth Federal Reserve District: Alabama, Florida, Georgia, Louisiana, Mississippi and Tennessee. This article was written by John Robertson, David Avery, Whitney Mancuso, Navnita Sarma and Gustavo Uceda of the Atlanta Fed research department’s regional research group.