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San Francisco Regional Outlook - Second Quarter 1998

Regular Features

Strong Economic Growth Is Expected to Continue
in the San Francisco Region despite Potential
Fallout from the Asian Crisis

  • The San Francisco Region added jobs at a rapid 3.6 percent pace in 1997, much faster than the nation's 2.7 percent growth rate.
  • The Asian crisis is likely to have a more significant effect on the San Francisco Region than on most other parts of the nation; still, most forecasters do not expect it to be a major stumbling block in 1998. Its impact on the various states and industries will not be uniform; effects on high tech, aerospace, and tourism could be sizable for some states.
  • The 1998 outlook for most of the Region's states remains positive, with another year of robust expansion projected, although at somewhat reduced growth rates.

San Francisco Region Continued to Lead the Nation in Growth

The San Francisco Region's economic performance, driven by a surging California economy and generally rapid growth throughout much of the Region, was robust in 1997. The Region led the nation in job growth rates for the third consecutive year in 1997, adding 815,000 jobs (seasonally adjusted) between December 1996 and December 1997, a 3.6 percent rate of increase. Arizona, Nevada, Utah, California, Oregon, and Washington were among the nation's 13 fastest growing states; all exceeded the nation's 2.7 percent job growth rate, as shown in Chart 1. The Region's economic expansion was generally reflected in strong banking industry performance as well. The Region posted a return on assets (ROA) of 1.19 percent in 1997, the highest in at least a decade, and matched the performance for the nation (see Current Regional Banking Conditions).

Chart 1

Asian Crisis Creates a Risk

Despite the strong performance of the Region and the banking industry as a group, there are still risks ahead. The greatest risk on the horizon in 1998 is the crisis in Asia, which has the potential to weaken the entire San Francisco Region. The initial effects of the Asian crisis likely will be felt in key sectors--manufacturing, export services, and agriculture--and may be concentrated in several states. The Asian crisis is not the only risk facing the Region. Alaska, for example, faces the risk that low oil prices will slow its economy.

The major currency devaluations suffered by a number of the Asian Tiger economies in 1997 force them to make serious economic adjustments that will dramatically slow their economies. The crisis is most often associated with the "Asian 10" group, henceforth referred to as "Asia": China, Hong Kong, Indonesia, Japan, Malaysia, the Philippines, Singapore, South Korea, Taiwan, and Thailand. Asia's economic turmoil could affect the Region's economy in 1998 in many ways, including:

  • reduced Asian demand for U.S. exports;
  • lower prices on Asian goods, which may weaken the market share of U.S. manufacturers in both domestic and international markets;
  • reduced spending in the United States by Asian visitors; and
  • lower prices in Asia, which may attract more U.S. visitors and slow tourism in the United States and Hawaii.

Crisis May Have a Proportionately Larger Impact on the San Francisco Region

The ill effects of the Asian crisis have particular relevance for the San Francisco Region. International Trade Administration Exporter Location data for 1996 indicate that about 52 percent of the Region's merchandise exports were shipped to Asia; elsewhere in the nation the comparable figure was 22 percent. The Region's largest export markets are shown in Chart 2. The Region also may have a higher share of service exports, including business, personal, and transportation and trade services; however, the following analysis focuses on merchandise export exposure, which for most states is much larger and for which statistics are available.

Chart 2

A disproportionate number of metropolitan areas in this Region are heavily dependent on merchandise exports; San Jose leads the nation in exports for metropolitan areas. Los Angeles, Seattle, Portland, San Francisco, Orange County, Phoenix, Oakland, and San Diego are among the top 20 metropolitan export centers. Ports in these areas may be affected by changes in both export and import volumes.

Not only are the Region's exports heavily weighted toward Asia, but in 1996 over three-quarters of the dollar volume of all exports fell in three categories of goods--high technology, aerospace, and agriculture. All three of these export categories are vulnerable to cutbacks in Asian sales. The Region's merchandise export composition is shown in Chart 3.

Chart 3

Finally, as illustrated in Chart 4, the ill effects will not be evenly distributed across the states in the Region. Four states rank among the top five nationally in merchandise exports relative to gross state product (GSP): Washington, Oregon, California, and Arizona. Nationally, 1996 exports to Asia represented about 2.5 percent of gross domestic product; as a percentage of the total economy this may appear small. However, the share of exports to GSP in these four states and in selected industries is much higher than for the nation and may represent a significant share of economic activity. Some key areas of exposure for the Region, by state and industrial sector, are as follows:

Chart 4

  • High-tech exports to Asia are about 3.5 percent of GSP in Arizona and California, and about 2 percent in Idaho and Oregon.
  • Aerospace exports to Asia are over 4 percent of Washington's GSP but have slipped to under 1 percent of California's GSP.
  • Agricultural exports to Asia from Oregon and Washington are about 3.5 and 1.5 percent of state GSP, respectively.
  • Tourism is the major industry in both Nevada and Hawaii; Hawaii is especially dependent on Asian travelers.

Are There Mitigating Circumstances?

Several factors, including the strong national economy, moderate interest rates, and low prices for oil and Asian imports, are expected to help sustain the Region's expansion. Consequently, most forecasters believe that the Asian crisis will lower the Region's growth rate but will not cause a significant downturn. Still, considerable uncertainty remains about the ultimate size of the impact and when will it be felt. At the industry level, the crisis may dampen the growth of the Region's booming high-tech and commercial aircraft industries. Some agricultural exports, like Alaskan seafood, Idaho potatoes, and fruits and vegetables, also may be hurt (see Current Regional Banking Conditions).

Implications: Banks should be aware of the uncertainties created by the Asian crisis when evaluating the financial health of their market area and their borrowers. Because the Asian crisis, at least initially, will hit selected states and key industries, the paragraphs that follow briefly examine each state's vulnerability to the crisis and its outlook for 1998. States are presented in order of their projected exposure to the Asian crisis.

Washington Has the Highest Exposure but a Positive Outlook

Washington's economy depends heavily on exports of aerospace, timber and wood products, and agricultural goods to Asia. As shown in Chart 4, exports to these countries represented about 9 percent of Washington's GSP, compared with about 2.5 percent for the nation. As a share of GSP, Washington's exposure is the highest in the nation. Thus, there is potential for considerable disruption to Washington's export-based economy, especially if Asian airlines cancel a significant number of orders for commercial aircraft. Fortunately, Boeing has a huge backlog of orders, and these long-term purchases often may just be postponed.

The state of Washington's 1997 Labor Market and Economic Report projects "modestly slower growth in 1998 but basically a continuation of present trends." Job growth is expected to increase about 3.5 percent in 1998, keeping the state among the fastest growing in the nation.

Oregon Looks for Continued Growth but Needs to Watch the Exports

State analysts issued a warning about Oregon's vulnerability to the crisis in Asia, noting that it "will almost certainly have a disproportionate impact on the state because of the region's importance as an export market and as a source of foreign direct investment." Exports to Asia represent nearly 7 percent of GSP, the second-highest share in the nation. Risk is concentrated in agriculture, high technology, and lumber and wood products.

Like Washington, Oregon's economy is expected to grow more slowly in 1998. The 1998 Oregon Economic and Revenue Forecast projects that employment will grow 2.5 percent in 1998, down from 3.4 percent in 1997 when the state ranked tenth nationally in job growth. Manufacturing, as well as construction, showed signs of slowing in the second half of 1997, which is consistent with this outlook.

California's 1998 Outlook Is Upbeat, but High Tech Needs Watching

The Asian crisis is expected to have an impact on California's high-tech sector and to a lesser extent the state's agricultural industry, but the crisis probably will not affect the state's four-year-old expansion. Still, California, especially the Silicon Valley, is much more vulnerable to the crisis than the nation as a whole. High-tech exports to Asia accounted for about one-third of California's $99 billion in merchandise export sales in 1996. Asian exports are about 5.5 percent of GSP, third highest in the nation. Analysts will be watching for signs of declining sales of computers and electronic equipment or reduced profitability at high-tech firms. Analysts also will want to monitor changes in the farm sector (see Current Regional Banking Conditions).

Despite the Asian situation, California's employment growth in 1998 is expected to exceed the national growth rate while slowing to a 2.5 to 3 percent growth range. The strong national economy and a booming service sector in California are expected to continue to help boost the California recovery, much as they did in 1997 when the state added jobs at a 3.8 percent rate.

Arizona Is the Fastest Growing State

Arizona's dependence on exports to Asia as a share of GSP ranks fifth nationally, at over 4 percent. Moreover, exposure is highly concentrated: over 80 percent of the state's exports to Asia are high-tech products, which increases the state's risk from a high-tech slowdown.

Arizona's economy has been growing rapidly; in 1997 it overtook Nevada as the nation's fastest growing state in terms of job growth. Moreover, employment growth was well balanced across the economy as it added 4.5 percent more jobs in 1997. The Arizona Department of Commerce estimates that 1998 employment growth will be 3.3 percent, the slowest rate of growth since 1992. Nonetheless, Arizona would remain among the fastest growing states in the nation.

Asian Situation Clouds the Outlook for Hawaii and the Pacific Islands

Hawaii's primary exposure to the Asian crisis lies in its main industry, tourism, rather than in exports to Asia. Asian tourists make up a large share of the state's visitors, and Japan accounts for nearly one-third of all visitors and more than one-third of all spending. The yen's depreciation has reduced Japanese spending in Hawaii. While the other Asian Ten nations account for only about 5 percent of visitors, their numbers and spending are expected to be sharply curtailed as a result of the severe devaluation of their currencies in 1997, which further contributes to the weak outlook for tourism.

Most analysts expect the state's economy to remain stagnant in 1998. In the 1990s, the Hawaiian economy appears to have been driven more by the weak performance of Japan than by the expanding U.S. economy. In 1998, international forces and the continued weak Japanese economy should again curtail tourism, as well as foreign investment, especially in real estate. Furthermore, banking industry performance in the state likely will continue to reflect the stagnant economy.

In recent years the Pacific Island Territories of American Samoa, the Federated States of Micronesia, and Guam have benefited from the rapid growth in Asia and have focused much of their economic development and export strategies on their links with Asia. While that may be a sound long-term strategy, it will create challenges in 1998 since the devaluations have made these three areas less competitive in attracting tourists from Asia and in generating export sales to Asia. Banks in these three territories reported increases in problem loan ratios in 1997; at year-end, ratios for all three areas were 6.50 percent or more of total loans.

Alaska's Guarded Outlook Hinges on Oil

Although Alaska's exports are modest, according to the Export Location data series, other series suggest that the state's exposure may be significantly larger. In both cases exports are heavily weighted toward natural resources--oil, lumber and wood products, and seafood--destined for Asia, especially Japan and South Korea. State economists expect Japan and South Korea to continue to demand sizable quantities of oil and timber, minimizing the potential impact on export sales. By contrast, Alaskan seafood exporters should face additional downward pressure on prices in 1998 as Asian consumers find prices for Asian fish products much more attractive than for Alaskan fish.

A larger concern for the Alaskan economy is oil prices, which fell to a nine-year low in March. Alaska's economy is unusual in that its economic performance depends more on conditions in the energy markets than on national economic conditions. Its 1997 performance reflected the weakness in energy prices; the state added jobs at a very slow pace--only 1.3 percent in 1997. On the positive side, state economists now expect that oil production will be "flat rather than plummeting" over the next four or five years. The improved forecast also should benefit the state government, which depends heavily on oil tax revenues.

Moderate Expansion Continues in Idaho

The Idaho economy is not heavily dependent on exports to Asia. However, almost 36 percent of that state's small volume of exports are high-tech goods destined for Asia. Agricultural products, many of which are tied to the state's large potato crop, also are exported to Asia. Nonetheless, total farm exports to Asia account for less than 11 percent of the state's exports. State forecasters expect both high-tech and food product demand to soften in 1998 as a result of the Asian situation.

Idaho's Department of Financial Management (January 1998) forecasts a 2.5 percent employment growth in 1998, similar to that of 1997 when the state added jobs at a 2.6 percent rate. The department foresees weakness in lumber and wood products, as well as federal government employment. The state's construction boom also appears to be over.

Strong Growth Is Expected in Utah in 1998

As is the case in Idaho, exports are less important to Utah's economy than they are to the Region as a whole. Moreover, exposure is not concentrated in any one industry or sector. High-tech goods are the state's leading export, but only 15 percent of them are high-tech products destined for Asia.

State forecasters expect that Utah will continue to expand in 1998; they also expect the slowing trend of recent years to continue. Utah added jobs at a 4 percent rate in 1997, the fifth fastest rate in the nation, but the slowest growth rate for the state since 1991. The 1998 Economic Report of the Governor projects robust growth for employment, at 3.6 percent. Still, the report cites several factors that justify the prediction of slower growth: lower net in-migration, reduced housing affordability and residential construction, improved conditions in other state economies, slower export growth, tight labor market conditions, and expected higher downtown office vacancy rates.

Nevada Will Have Rapid Growth but Higher Risks

Nevada's exposure to the Asian crisis arises mostly through its heavy dependence on gaming and tourism, which account for about one-third of the state's employment. While Asia may not be a major issue for Nevada (except through its impact on gaming and tourism), other risks are of concern to the banking industry.

Nevada's booming economy is slowing; it added jobs at a 4.3 percent annual rate in 1997, only about half as fast as in 1996 when it added jobs at an extraordinary 7.7 percent rate. Nevada's huge gaming and tourism industry appears to have weakened somewhat in 1997, while construction job growth slowed dramatically. Construction of new hotel rooms is outpacing the number of visitors, and commercial office vacancy rates have climbed well above the national average. Finally, Nevada's new banks and community banks both have a high exposure to construction and commercial real estate loans, as discussed in previous issues of this publication.

Despite this high-risk profile, most forecasters expect the state's economy to continue to add jobs at a 4 to 6 percent rate in 1998; the consensus published by the Western Blue Chip Economic Forecast (January/February 1998) was a 5.4 percent rate of job growth for the year.

Montana and Wyoming Should Have Moderate to Weak Growth

Neither Montana nor Wyoming is likely to be significantly affected by a decline in exports to Asia. Both states' export sectors are only a tiny share of GSP, and exports to Asia are below the national average. The only major difference between the two is in the type of exports destined for Asia. Montana's exports to Asia are mainly high-tech goods, while Wyoming's are primarily agricultural.

Montana's economy likely will continue to record moderate to slow growth during 1998. The economy clearly has slowed over the past several years; its 1997 employment growth rate, 2.1 percent, was the slowest since before the 1990-1991 recession. Weak personal income growth, a rising unemployment rate, and softness in housing all contribute to the weak prognosis.

Likewise, Wyoming's outlook for 1998 is for continued weakness, especially in its large natural resources sector. The state has been hurt by falling energy prices and declining energy production; its construction sector also contracted in 1997 as the building boom faded.

Implications: A review of the exposure of the individual states in the Region to Asia, their current performance, and their outlook for 1998 suggests that the Region in aggregate likely will be only moderately affected by the Asian situation. In general, states with large manufacturing sectors are growing rapidly and are expected to continue to expand faster than the nation in 1998; however, most are expected to slow somewhat as a result of a mix of factors, including weaker exports to Asia. Despite this concern, strong economic growth in these states may give the Region's banking institutions the opportunity for another good year in 1998, although insured institutions in these states should carefully monitor the health of borrowers that depend on high technology, aerospace, farm products, or other trade that may be affected by the Asian crisis.

Unlike Hawaii, most of the states with weaker economies will not be affected directly by the Asian crisis. Still, any additional softening could expose lenders to potential asset quality problems. Furthermore, continued weak economic conditions in Hawaii and the Pacific Island Territories could result in additional deterioration in the performance of some community banks and thrifts (see Current Regional Banking Conditions).

Gary C. Zimmerman, Regional Economist


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Last Updated 7/26/1999 insurance-research@fdic.gov