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Speaking of the Economy
Andy Bauer
Speaking of the Economy
Aug. 24, 2022

What’s Happening in Our Region’s Economy? A Focus on Maryland, D.C. and West Virginia

Audiences: Business Leaders, Economists, Educators, General Public

Andy Bauer reviews economic conditions in Maryland, the District of Columbia and West Virginia, based on recent conversations with local contacts and analysis of the data. Bauer is a vice president and regional executive at the Richmond Fed, with responsibility for business and community engagement in these parts of the Fifth Federal Reserve District.



Tim Sablik: Hello, and welcome to Speaking of the Economy. I'm your host, Tim Sablik, a senior economics writer at the Richmond Fed.

My guest today is Andy Bauer. Andy is a vice president and the regional executive for the Baltimore branch of the Richmond Fed. Welcome back to the show.

Andy Bauer: Thanks for having me, Tim.

Sablik: Today's conversation is part of a series of interviews that I've been doing with the Richmond Fed's regional executives on the state of our regional economy. Our regional executives communicate with business owners and community leaders to collect on-the-ground information about what is happening in the economy, often before it shows up in the national data.

Andy, you cover Maryland, the Washington, D.C. area and West Virginia. What are the biggest concerns that you're hearing from your contacts right now?

Bauer: Over the past year, concerns generally fell into one of three buckets: labor, supply chain, and cost pressures or higher prices. There's a good deal of uniformity across sectors, although there were a few exceptions.

What's interesting at the moment is that there is a greater diversity of comments as we're seeing conditions vary to a greater degree across the economy. Some sectors remain quite strong — manufacturing for autos, trucks and heavy vehicles, industrial equipment, consumer electronics, for example. Consumer construction remains very strong, too. In the service sector, restaurant and hospitality in some areas are also strong.

In these sectors, I continue to hear about those challenges I just described: finding labor, supply chain issues, and rising costs and prices. However, and this is relatively recent, I'm hearing from a number of businesses that demand has softened but remains at solid levels that are still above 2019 levels — that is, above pre-pandemic levels.

For many, but not all of these businesses, labor supply issues have improved through a combination of improved worker availability — they're able to find more people and receiving more applicants — as well as labor demand easing — there's less work coming in through the door. Having said all that, I still often hear that wage pressures remain an issue despite these improvements.

Supply chain issues have improved for these businesses as well. Sometimes you hear still of "whack-a-mole" situations — you get improvements here but then something else comes up. But overall, it's improved. While costs are still a concern, there has been an improvement for some of these businesses such that they're seeing an easing in price pressures.

More recently, I've been hearing about a slowdown in some interest-sensitive sectors. This has been most notable in the residential sector. According to a number of different metrics, activity drastically slowed in recent months as mortgage rates rose. I talked with a homebuilder who told me that sales and foot traffic for his business dropped off sharply in May and June. He is quite concerned about the residential sector contracting in coming quarters as opposed to a softer slowdown. I've heard from others — even those with strong business at the moment – that they're also concerned about a slowdown later this year or early 2023. It's something that you hear more about in the news.

Sablik: Picking up on those fears of a potential slowdown, have you heard of any businesses already adjusting their operations based on those concerns? Or are they still kind of taking a wait and see approach?

Bauer: You know, it's interesting. Businesses, if you talk to them, tell you that they've been continually adjusting since the pandemic hit. It's been a challenging two-plus years. It's not uncommon for a CEO or business owner to say something like, "I've never seen anything like this in my 20, 30 or 40 years of doing business." It's just an ongoing process.

We continue to hear from firms that are investing to becoming more efficient to overcome this really tight labor market and to alter their supply chain strategy by doing a number of different things, like adding vendors, changing the product mix as well as maintaining high levels of inventories. But for those firms that are more focused on the slowdown in activity that you're hearing about more often, they're responding to that or they might be concerned about a greater slowdown later this year or early next year.

What I would say is that they're starting to look more closely at their inventory levels as well as thinking about how they would make adjustments to labor. As I mentioned, a number of firms, due to concerns or uncertainty about supply chains, are maintaining high levels of inventory. I've heard from a couple of businesses that perhaps it's time to think a little bit more critically about their inventory position. A few have told me that they've slowed hiring and they're less quick to fill vacancies.

Having talked with a number of businesses about how they're thinking about labor, many have said that they would be reluctant to be quick to let people go should conditions weaken greater than are currently expected, which makes a lot of sense. Over the last two years, firms have been working really hard to get staffing up to the point where they want it. Going forward, they're expecting to maintain higher staffing levels.

Sablik: As you mentioned, the big story until very recently was the challenge that many businesses were having when it came to finding workers. Now there's some growing concern that if we are headed into a recession that unemployment could go up. At least for now, the labor market data still look pretty strong. But, obviously, those kind of national figures often operate at a lag. I'm wondering if you've been hearing anything about firms that might be already contemplating layoffs.

Bauer: As I just mentioned, some firms are looking more closely at their staffing levels. After two years of working extremely hard to hire workers, it's an odd place for them to find themselves in.

I did talk with one firm that felt the need to increase wages right now in order to keep the people they have, but at the same time was evaluating where they would need to make cuts should business activity drop. I've heard similarly that from other firms that they're not looking at cutting. What they're more likely to do is, should a position come open, they're going to be slower to fill that position in anticipation for what may come. Again, I would say firms that are actively doing that now are in the small minority at the moment.

As I mentioned earlier, in many sectors activity is very strong. Those firms are still struggling to find the labor they need in this very tight labor market. Other firms where conditions have slowed, you would think that's not good for business. In many cases, the level activity is still very solid and [the slowdown] allows them to catch their breath because they've been working staff greater than 40 hours in some cases. Now they can get back to production at a more sustainable level.

At this point, I haven't heard from anybody that's really thinking about making cuts. Despite all the talk we're hearing about recession, in many places in the economy activity is still very strong.

Sablik: Another big question that's been floating around since the pandemic started was how the shift to teleworking might impact commercial real estate, particularly in urban centers. You cover a number of major metro areas in our district, including Baltimore and the Washington, D.C., area. Have you seen commercial real estate start to rebound with workers returning to the office?

Bauer: That topic of conversation continues to be ongoing. We were actually just discussing that today at lunch about some of the things people were hearing about, Washington D.C. in particular. There continues to be a lot of conversation regarding the future of the office. I don't think we'll fully know what that looks like for some time.

At the moment, firms have found it challenging to move back fully to the office. Many firms that are able to have adopted a hybrid approach. They're back either two or three days a week or, in some cases, even less. In a tight labor market with workers pushing for greater flexibility and remote options, firms have responded to what workers have been asking for.

This challenge has been greater for cities, for the District of Columbia in particular. There's a number of issues. One big issue is transportation. With continued health concerns regarding COVID, understandably workers feel less comfortable taking mass transit, which is key for commuting in and out of cities like Washington, D.C. You see that in the ridership data. At the same time, higher gasoline prices greatly increase the cost of commuting by car.

So, for many who have been accustomed to not commuting and avoiding that commuting cost because they're working from home, now they face a significant sticker shock for going back to the office between the parking as well as cost of fuel. If you add in the costs for the lost time for commuting – which is greater for cities because, again, depending on the length of the commute that can be a significant chunk of time — and the lost convenience and flexibilities that workers have shown that they enjoy, I think it will be a while before we figure out how to be back in the office in a substantial way.

There have been some that have written off offices in central business districts. From a number of the contacts that I've talked to, that view, in my opinion, seems somewhat premature. If you look at leasing activity, some firms have downsized. But some other firms have responded by increasing their square footage. On net, it seems that a lot of firms are kind of hedging their bets, thinking that at the end of the day, when everything settles, there'll be back in the office in a significant way.

You're still seeing that vacancy rates in places like Washington D.C, are still well below where they were prior to the pandemic. That impacts a lot of the area businesses. One of my business contacts, prior to the pandemic, serviced a lot of the restaurants and delicatessens in the D.C. area. Recently, he told me that that lunch crowd is still gone.

Having said that, restaurant activity in Washington, D.C., is exceptionally strong. At the moment, that business and other businesses picked up as such that he's having a hard time just meeting orders for what he has right now. He's trying to think about, well, at some point offices will come back and there will be a lunch demand from restaurants and delis in the D.C. area. One of his concerns is, "How am I going to meet that demand given that I'm already at overcapacity?"

Sablik: Turning to the policy side of things, what issues are local policymakers focusing on in your area?

Bauer: At the local level, there are a number of issues policymakers are focused on. Many of them are longer term in nature, having surfaced due to COVID. Jurisdictions everywhere are looking closely at workforce and housing.

Local officials saw and heard from businesses about the difficulty finding workers with the right skill set. This has been consistent over the last two-plus years. That tight labor market has really focused policymakers on what it is that they need to do in order to try and provide a better workforce for area businesses. Some are responding by working with local community colleges and other education institutions to provide skills training and programs most needed by businesses. So, that's one thing that you hear a lot about in many areas.

However, in order to build a pipeline of workers, affordable housing is key. In Maryland, West Virginia and Washington, D.C., affordable housing is an issue. The issue looks different across these areas. For example, land availability may be constrained in some areas by utility capacity. In other areas, local regulations are more of a factor. Or it can be typography — this is a big issue in West Virginia. Then there's also financial capacity as well. Some towns are better positioned in order to make the outlays necessary to promote housing, while other areas are more of a challenge. So, this has been a longer term issue that became more apparent during COVID, just because the demand for housing surged [and] home prices surged.

There's also a lot of attention by local policymakers regarding the federal funding that has been made available to state and local governments and how best to use those funds. Cities, towns and counties have applied for funding and will be receiving an amount that could be instrumental in advancing local economic development for their areas.

What kind of programs are we talking about? It could be a public utility expansion, which would allow for a greater footprint that would facilitate greater housing and commercial developments. Or it could be other key infrastructure such as broadband. So, how local jurisdictions are going to spend these federal funds is something very much on their mind. For us, it's something that we're going to be watching very closely.

Sablik: Speaking of watching things closely, I think in these uncertain economic times, everybody's trying to figure out what they should be paying attention to [and] what data points to look at. I'm curious to hear what issues you will be keeping an eye on over the next weeks and months as we close out this year.

Bauer: Well, at the moment — I say at the moment because things seem to change fairly quickly these days — what I think are going to be the three most relevant stories for the second half of the year that I'll be focused on are the following.

With the rise in interest rates, I'll be looking closely at interest-sensitive sectors such as housing, consumer durable goods and business investment. With respect to business investment, there remain very strong backlogs in manufacturing in some sectors as producers have not been able to deliver on orders over the last two-plus years. They've got a significant backlog.

The question I have is the pace of new orders going to hold up? Are you going to still see businesses making new orders because they have additional investment opportunities? Are they going to act on those investment opportunities? And, is the backlog of orders that manufacturers currently have, are they going to hold up or will some of these orders be cancelled? The other part of it is do you continue to see new orders hold up? Are businesses continuing to invest?

I'll also be watching to see to what extent housing will slump. Again, talking with the builder, he's quite concerned that there will be a more significant slowdown in the housing sector than is currently expected. Home prices went up by varying degrees but, overall, nationally close to 20 percent. Expectations are for that to slow down but to not see a significant pullback in terms of home prices. Of course, that'll vary by region. So I'll be watching housing very closely to see how that sector handles rising mortgage rates.

I will also be focused on consumer spending on durable goods, such as furniture and autos, and see how that holds up with a higher rate environment. I'll be following just overall consumer spending closely to see how consumers hold up in an environment where you've got higher inflation and rising rates. Consumer spending is two thirds of the economy. So, if consumers are able to weather higher inflation and rising rates, that would put the economy on very solid footing for the remainder of this year and into next year.

As the economy slows, I will be listening for changes in pricing dynamics. We spend a lot of time speaking with CEOs and business owners to get their perspective on what's going on in the economy and how they're going to react in response, not only the decisions they're making now but what they anticipate on doing in the future.

I've talked to a few firms that have felt pressure to lower prices. In both cases [for] the key input for the particular item, the material costs fell and they're expecting the manufacturer to give back a little bit on price. In both cases, prices came down a little bit. Then, there's a couple other cases where firms want to pass along a price increase and their customer said, "No, we're not taking any more price increases." So, I'll be very focused on whether or not that will continue [and] to what extent it will broaden to other sectors. This will form our view of what to expect in terms of overall inflation for the remainder of the year.

Sablik: Right. There's definitely no shortage of things to watch and keep track of in this fast moving and unpredictable economy.

Andy, thanks very much for taking the time to talk with me today and share what you've been hearing from your contacts and also share your insights on what's happening in the economy.

Bauer: Thanks, Tim. I really appreciate being on the show.

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