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San Francisco Regional Outlook - Second Quarter 1997
San Francisco Region: Following Separate Paths
San Francisco Region Outperforms Nation
Services Remain Strong in the Region
Service job growth accelerated to a 5.3 percent rate in 1996, well above the 3.7 percent rate elsewhere in the nation, and service employment grew by nearly 340,000 positions in the Region. This key sector accounts for about 30 percent of all jobs in the Region, close to the 29 percent share for the nation. The Region was paced by Arizona, Utah and Nevada, states that increased their service-sector growth rates to better than 7 percent for the year. Two other fast-growing states, Oregon and California, also ranked near the top in service-sector growth rates. Lodging and recreation, business services, computer and software services, motion pictures and entertainment all recorded robust growth, and their outlook remains favorable.
Manufacturing Bucks National Downturn
The Region's manufacturing expansion shifted into high gear in 1996, expanding by almost 84,000 jobs in 1996, or 2.9 percent, up from a 2.1 percent increase in 1995. The Region's manufacturing employment boom is tightening labor markets in some states, and contrasts sharply with the slight contraction nationally, as can be seen in Chart 2.
Washington's 6.5 percent increase in manufacturing employment, boosted by the surge in commercial aircraft production, added almost 22,000 jobs to that state's payrolls. High-technology exports and manufacturing also played a key role in the Region, boosting durable goods production, especially for computers and electronic equipment, in California, Oregon, Idaho, Arizona, Utah and Nevada. Nondurable production was helped by a modest expansion in food products in California and Idaho. In addition, California reported robust growth in the apparel industry.
Implications: The strong, and generally broad-based growth, in the seven fast-growing states in the Region typically is reflected in the health of the banking industry in those states. While the robust manufacturing growth compared to the nation in 1996 is positive, it has been unusual for the Region to sustain such rapid growth relative to the rest of the nation for much longer than one year. In fact, only once since the 1960s has the Region exceeded the national average by such a wide margin for more than one year in a row.
Improved Real Estate Conditions Spur Construction Growth
Real estate markets in the Region have been picking up. Residential and, in some cases, multifamily housing markets have tightened in Seattle, Portland, Las Vegas, Phoenix and the San Francisco Bay Area. Conditions in commercial real estate also have improved. Metropolitan office vacancy rates are now below or well below the national average in most parts of the Region, except for some parts of Southern California and Honolulu. Underscoring the revival of commercial real estate in the Region, Marketscore's Fall 1996 issue rated several cities in the Region as having excellent real estate investment potential, including San Francisco (office, retail and apartments), San Jose (retail and apartments), Seattle (office), Portland (office and retail), Salt Lake City (office), Phoenix (suburban office), Sacramento (retail), Oakland-East Bay (apartments) and Las Vegas (retail).
Improved real estate market conditions in the San Francisco Region are reflected in both increased real estate lending and construction employment in the Region. Construction jobs expanded at a 6.4 percent rate in 1996, down slightly from 6.8 percent in 1995, but just above the growth rate nationally. For the Region as a whole, housing permits, an indicator of future activity, also rose at a comparable rate to construction employment. Construction was an important factor in adding jobs in Nevada and Oregon, two of the seven fast-growing states that have experienced rapid population inflows.
Implications: Notwithstanding the generally favorable real estate market statistics reported above, there also are signs of potential concern on the horizon. For example, the Beige Book recently reported slower sales for middle-market housing in the fast-growing intermountain states. This slowdown may be evidence of lower population inflows that could affect the building industry in these states. Furthermore, recent increases in long-term interest rates also could dampen the demand for housing. Finally, increased construction and commercial real estate lending in the Region appear to be concentrated at regional and community banks, institutions that in some cases already have a relatively high concentration of such loans in their portfolios (see Current Regional Banking Conditions).
Hawaiian Recession Continues
Despite the strong overall performance of the Region in 1996, four states ranked in the lower half nationally in economic growth; and three, Wyoming, Alaska and Hawaii, ranked in the bottom five. Hawaii ranked fiftieth in the nation in both employment and personal income growth rates. The evidence for 1996 indicates that the state still did not turn the corner on its long-lasting recession. For example:
Tourism has been estimated to account for around 20 percent of Hawaiian economic activity, but that industry has suffered from the prolonged weakness in the Japanese economy. Still, there has been some improvement. Both visitor counts and visitor days increased in 1996, and employment in the lodging industry rose by 3.4 percent in 1996 after declining in 1995. Business services jobs increased over the year at a strong pace; however the large trade sector actually shed jobs in both retail and wholesale employment.
Hawaii's depressed real estate market conditions remain an area of concern for both the state and its financial institutions. Construction employment fell almost 10 percent in 1996, its fourth consecutive annual decline. Vacancy rates for office space in Honolulu rose slightly in 1996 and remain high compared to the nation. Residential property values also are weak. Housing permits fell by more than 40 percent between 1995 and 1996, portending ongoing softness in the construction sector and raising concerns about banks' real estate loan quality.
Implications: Analysts do not expect a reversal of Hawaii's poor economic performance in the near term. Tourism and investment spending still appear to be the most likely sources of strength for a rebound in Hawaii given the state's weak employment situation and minimal personal income growth in 1996. However, spending by Japanese visitors and real estate investors both could be slowed by the fall in the value of the yen relative to the dollar. Rising net charge-off and problem loan ratios in 1996, the latter shown in Chart 3, suggest that the state's lengthy recession is having an adverse impact on asset quality at the state's financial institutions.
Alaskan Economy Slows Down
The Alaskan economy remained weak in 1996 after two years of lackluster growth. While the number of Alaskans employed rose by 1,400 over the year, the state ranked forty-eighth in personal income growth and forty-ninth in employment growth.
Alaska has been hurt by its heavy dependence on energy and natural resources and by depressed prices and strong international competition in seafood products. Employment in oil production, mining, lumber and wood products all declined in 1996. Oil price increases have not been sufficient to offset the downward trend in output. Increased demand for many wood products has not had a significant impact on output in the state either; supply is constrained since much of the remaining timber is located in federal forests. The announced closing of the Ketchikan Pulp Company's pulp mill, that area's largest employer, will result in the direct loss of over 500 jobs in Ketchikan.
Meanwhile, the state's largest employment sector, governmental services, remained soft as reductions in federal government employment in part offset increases at the local level. Slower energy production rates and falling revenues also are putting pressure on state government finances, since over 80 percent of state revenues come from energy-related sources.
Still, analysts note some signs for optimism. Transportation employment should benefit from the selection of Anchorage as an international air cargo transfer hub. Announcements of new oil field discoveries, a pick-up in hard rock mining operations and higher prices for lumber could bring about moderate improvement in 1997. As with Hawaii, tourism could be a key to the state's recovery. Visitors were drawn to Alaska in record numbers in 1996, and increased spending by tourists is credited with boosting both retail sales and lodging activity.
Implications: Alaska's anemic economic performance is likely to have an adverse impact on bank asset quality and the health of the banking industry. Chart 3 suggests that this is already occurring. Conditions in the state should be monitored carefully since the health of Alaskan banks are likely to follow the performance of the Alaskan economy more closely than the national economy.
Softening in Wyoming and Montana
Personal income growth for Wyoming and Montana of around 3 percent (annualized) over the first three quarters of 1996 barely kept pace with inflation and was well below the national increase of 5.7 percent. Employment growth for these two states, measured by year-end employment levels, also has dropped sharply since 1994. Despite the slowdown, both states still reported year-end unemployment rates that were well below the national average and both added jobs in 1996. Wyoming added 1,900 jobs (an increase of 0.9 percent) for the year even though employment peaked in the third quarter. Montana gained 6,400 jobs (an increase of 1.8 percent), although the state only added jobs in three of the last seven months of 1996.
Wyoming ranked last in service employment growth rates in 1996. Service jobs rose by only 0.4 percent despite strength in business services and a small increase in health care employment. In contrast, Montana recorded a healthy 3.9 percent growth in service employment that accounted for more than one-half of the state's 1996 job gain. Services in Montana were generally strong across the board, with a rapid increase in business service employment, as well as strong increases in social services, educational, personal and legal services.
Montana also outpaced Wyoming in the construction sector. Wyoming reported a 1.4 percent increase in construction jobs as the state's building boom subsided in 1996. Montana recorded a strong upturn in construction employment for the year, but the outlook for residential construction appears to have weakened as the number of housing permits issued in 1996 sagged well below 1995 levels.
Both Montana and Wyoming have been hurt by weakness in natural resources-based sectors. Like Alaska, the improved markets for these products nationally have not had a significant impact on overall employment in these states. Montana recorded increases in employment at its mines and sawmills, the latter helped boost the state's small manufacturing sector. In Wyoming rising oil prices have not offset declining production, while higher coal production has been mostly offset by soft prices.
Implications: Banks in both Wyoming and Montana recorded noticeable increases in problem loan ratios and net charge-offs in 1996. As can be seen from Chart 3, the deterioration in economic performance in these states already is having an effect on the banking industry.
If the disparate performance of the Region's state economies continues into 1997, it likely will become more evident in the performance of the Region's banking industry as well. Montana's economy has cooled off and is now recording below average growth. Conditions in Alaska and Wyoming have deteriorated significantly, and the economies of these states have fallen well behind the rest of the nation in economic growth. Along with Hawaii, where the recession continued in 1996, these states and their financial institutions should be monitored closely in 1997 for signs of improvement or deterioration.
Gary C. Zimmerman, Regional Economist
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