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An Update on Emerging Issues in Banking

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For Your Information An Update on Emerging Issues in Banking
The Effects of the U.S. Economic Slowdown: Houston
March 7, 2002


This is the first of a series of profiles that will highlight regional issues affecting FDIC-insured institutions. This FYI is a shorter version of a more detailed Bank Trends report available today on the FDIC website.

Forces driving the U.S. economy in 2001 intersected in the Houston metropolitan area1. After racing ahead of the national economy early in the year, Houston faced weakening energy prices, layoffs at computer manufacturers and airlines, the bankruptcy of Enron, and the most costly tropical storm in U.S. history. The many FDIC-insured institutions that conduct business in this market, especially the 58 institutions headquartered in Houston, must adjust from a period of extraordinarily rapid growth to one in which the economic fundamentals seem to have changed.

A principal reason why Houston's economy has deteriorated since mid-year 2001, and may lag the national economy in 2002, is the shift in the energy outlook (see Chart 1). Energy firms are reporting lower fourth quarter earnings, dampening the outlook for profits and causing cutbacks in capital expenditures and exploration budgets. Soft demand for petroleum and natural gas-related products, the result of warmer than average weather and sluggish U.S. and global economic growth, is expected to continue to constrain energy prices.

Secondary economic effects arising from a less than robust energy sector are affecting other industries such as construction, retailing and business services. These spin-off effects are expected to dampen Houston's total nonfarm employment growth rate this year. The layoffs at Continental Airlines and Compaq Computer, and the collapse of Enron, have also affected the Houston economy. The ripple effects from these events are expected to contribute to a belated and slow recovery in trend employment growth in the Houston metro area in 2002.

The consequences of the slowing economy will present challenges to the 58 FDIC-insured institutions headquartered in the Houston metropolitan area. Through the first three-quarters of 2001 the median return on assets for FDIC-insured institutions headquartered in the Houston metropolitan area was 0.85 percent, significantly below the national median of 1.00 percent. Preliminary year-end 2001 data suggest that the performance of this group of institutions weakened further with a median return on assets of 0.66 percent.

Moreover, reserve coverage as a percentage of loans among Houston area banks as of September 30, 2001 was far below the national average (1.06 percent versus 1.61 percent). Financial performance has thus far been affected by tight interest margins and low fee-based revenues rather than loan-loss provisions. Provision expenses as a share of average assets for Houston area banks were less than one-third the average for all banks in the nation. Should asset quality deterioration materialize, a need for additional provisions will compound the earnings issues facing Houston area banks.

Analysis of regional economic conditions can help banks make informed risk-management decisions. The FDIC provides a wide range of up-to-date economic information for the 50 states, for over 380 metropolitan areas and more than 3,100 U.S. counties on its website in RECON -Regional Economic Conditions).

Chart 1. Oil and Natural Gas Prices Fell Throughout 2001D

For the full Bank Trends report, entitled "Houston's Downturn Comes Later but Will Linger Longer," go to:

1. References to Houston in this FYI are for the metropolitan statistical area and include the following counties: Chambers, Fort Bend, Harris, Liberty, Montgomery and Waller.

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