Robert W. Gilmer

Robin S. Chhabra

English

Research Papers in Economics

Houston Business
A Perspective on the Houston Economy
The dollar exchange
rate can affect Houston
in three ways, all
operating in the same
direction.…Together,
these factors make the
dollar a powerful
influence on local
economic conditions.
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The Dollar Exchange Rate
And the Houston Economy
T he dollar exchange rate is a key determinant
of the U.S. business cycle. As the dollar strength-
ens against other currencies, imports become
cheaper relative to domestic goods and services,
and products purchased abroad displace domestic
output and slow the U.S. economy. The opposite
is true as the dollar weakens, pushing up the 
dollar price of imports and stimulating domestic
production as purchases are made at home rather
than abroad. The Houston economy is subject to
exactly the same principles, of course, but there
are several reasons for Houston to be more sensi-
tive to the U.S. dollar exchange rate than other
U.S. metropolitan areas.
In the last issue of Houston Business, we
explained the recent strength of the Houston
economy by focusing on oil markets and the
national business cycle; we did not discuss the
dollar exchange rate. This article corrects that
oversight by taking a close look at the role of 
the dollar in Houston. The dollar exchange rate
can affect Houston in three ways, all operating 
in the same direction. A strong dollar works to
slow Houston’s economy, while a weak dollar
works to stimulate it. Together, these factors make
the dollar a powerful influence on local economic
conditions.
THE DOLLAR IN HOUSTON
In several past publications, we have statis-
tically highlighted the role of three influences on
employment growth in Houston since 1975: real
oil prices, the national business cycle and the real
dollar exchange rate.
1 Table 1 shows estimates of
the percentage change in employment in Hous-
ton’s goods-producing sectors that result from a 1percent increase in each factor. These results
are updated to early 1997, and they have
proved highly stable as the length of the data
series has grown.
For this article, the main lesson from Table
1 is that the role of the dollar is large and con-
sistent across these goods sectors, and that the
dollar is a powerful influence on the local
economy. Why so large? First, the estimated
effects on employment are not immediate, but
cumulative over 12 to 18 months. Second, the
coefficients shown here respond to a relatively
stable index of the dollar that moves less than
exchange rates of individual currencies. Our
measure of the real exchange rate, a product of
the Federal Reserve Bank of Dallas, is a trade-
weighted index of the dollar based on U.S.
trade with over 100 partners. Because of the
averaging that occurs across so many coun-
tries, this measure tends to be more stable than
individual country exchange rates or other
trade-weighted measures that include fewer
countries. Also, our measure of the exchange
rate is a real measure, adjusted for inflation
trends between currencies, and in recent years
these real measures have become more stable
as global inflation has slowed. For example,
monthly changes in the Dallas real-dollar index
since 1976 have a standard deviation relative 
to the mean of only 1 percent, and nominal
changes have a standard error of 1.4 percent.
Further, the Board of Governors’ well-known
measure of the nominal trade-weighted value
of the dollar, based on only 10 countries, has 
a standard deviation relative to the mean of 
2.3 percent. Over the same period, nominal
monthly changes are 2.8 percent for the Ger-
man mark and 2.9 percent for the Japanese yen.
Finally, the effect of the exchange rate on
Houston is large because it affects the Houston
economy in three ways, all in the same direc-
tion. A stronger dollar slows the local export
sector; a stronger dollar slows the U.S. econ-
omy and, indirectly, slows Houston; and, be-
cause world oil prices are denominated in
dollars, a stronger dollar pushes up world oil
prices measured in local currencies—even if
the dollar price is unchanged. Higher oil prices
discourage oil consumption, weaken world oil
markets and slow the Houston economy.
2 In
contrast, a weaker dollar stimulates the Hous-
ton economy through exactly the same chan-
nels. Because of the “other things equal”
nature of the statistical estimates of employ-
ment changes in Table 1, the influence of the
dollar—as it works through all three paths—
winds up combined in the coefficient for the
exchange rate.
HOUSTON’S EXPORT SECTOR
The U.S. Department of Commerce Inter-
national Trade Administration provides data on
sales of merchandise for export by metropoli-
tan area. As Figure 1 indicates, Houston’s 1995
export sales of $16.2 billion were large enough
to rank number seven among U.S. metropoli-
tan areas. Other large Southern or Southwest-
ern cities that are commercial competitors with
Houston fall behind in this ranking: Miami
($10.2 billion), Dallas ($6.9 billion), Phoenix
($6.8 billion), Atlanta ($5.8 billion) and New
Orleans ($3 billion).
The Department of Commerce warns that
its sales estimates may not be the same as local
production, since the data cannot separate pro-
duction and marketing of exports. However,
the industries that provide the bulk of Hous-
ton’s exports suggest a substantial overlap
between these sales figures and local produc-
tion. In 1995, Houston’s largest export sector
was industrial machinery, with $5.8 billion in
sales, or 35.6 percent of the total, followed by
chemicals (29.6 percent), refined products
(11.3 percent), electric and electronic equip-
ment (4 percent) and various nonmanufactured
goods (3.6 percent). If we count only sales of
industrial machinery, chemicals and refined
products—all mainstays of Houston’s produc-
tive capacity—it is enough to keep Houston as
the South’s dominant exporter.
Houston’s export customers are widely
distributed: the list of regions that buy between
Table 1
Percentage Response of Houston Goods Employment 
To a One Percent Increase in Three Factors
U.S. Real-dollar
unemploy- Real oil exchange
ment rate prices rate
Goods sectors –.0690* .3587* –.9263*
Upstream
oil sectors –.0477 .5197* –.9613*
Mining .1838* .4163* –.6193
Machinery –.4676* .7403* –1.8170*
Downstream
oil sectors .0563 .0963* –.7956*
Refining .2990* .1041* –.8269*
Chemicals .1049* .0998* –.7518*
Other manufacturing –.1965* .2417* –1.1140*
* Indicates that the variable is statistically significant at a high level.15 and 20 percent of local exports includes the
other NAFTA countries, Europe, East Asia and
South America. Countries making the largest
purchases are Canada, Mexico, the United King-
dom, Singapore, Korea, Japan, Taiwan and
Brazil. The fastest growth in Houston’s trade
from 1993 to 1995 was with South America,
East Asia, China and India. Trade with Europe,
Mexico and Japan experienced below-average
growth during this period.
THE DOLLAR AND HOUSTON TODAY
In the last issue of Houston Business, we
discussed how a strong national economy and
strong oil markets have pushed the perfor-
mance of the Houston economy to high levels
over the past year. Given this is true, oil and
the U.S. economy have been able to overcome
the effects of a stronger dollar. Using the Fed-
eral Reserve Bank of Dallas real-dollar index,
the dollar rose 4.1 percent from December
1995 to July 1997; the nominal increase in the
index was 8.8 percent. Real increases in the
value of several key currencies during this
period were 7.4 percent for the yen, 22.5 per-
cent for the mark, 20.8 percent for the franc
and 8.1 percent for the pound.
Despite the strong dollar, the U.S. econ-
omy has continued to export at high levels in
recent quarters. This has suggested to some
observers that the investments made by Ameri-
can companies in new plants and new tech-
nologies, along with a smaller and streamlined
workforce, have begun to pay off with greater
productivity and improved international com-
petitiveness. In other words, the relationship
between the exchange rate and the growth of
the national economy may have changed. This
may well be true, but when we conducted 
specific tests to see if the relationship between
the real-dollar exchange rate and Houston
employment had changed in recent years, we
could find no such evidence.
Some of the most important dollar appre-
ciation in recent months has occurred among
large OECD countries such as Japan, Germany,
France and the United Kingdom. These coun-
tries also top the list of the world’s large oil
consumers, and as the dollar price of oil has
climbed over the past two years, it has risen
even more in terms of their local currencies.
Since December 1995, for example, the real-
dollar prices paid by U.S. refiners for imported
oil rose from about $17 to $20, or about 17.6
percent. To find the local price equivalent for
other currencies, however, we must add the
real appreciation in the value of the dollar.
Thus, over the same period, German real oil
prices rose 40.1 percent, French prices 38.4
percent and Japanese prices 25 percent. The
higher prices paid by major developed coun-
tries work to cut oil consumption, put oil back
onto world markets, soften oil prices and slow
the Houston economy.
Houston, of course, has not slowed in step
with the dollar’s appreciation over the past six
to 18 months. This circumstance reinforces the
conclusion drawn in the last issue of Houston
Business: that the current good times in Hous-
ton are the result of both a strong U.S. econ-
omy and a healthy energy sector, but that
Houston’s recent move to a high level of per-
formance has occurred largely with the help of
oil and natural gas.
— Robert W. Gilmer
Robin S. Chhabra
3
1 For further details, see R. W. Gilmer, “Oil Prices and Man-
ufacturing Growth: Their Contribution to Houston’s
Economy,” Federal Reserve Bank of Dallas Economic
Review, March 1990, pp. 13–20, or R. W. Gilmer, “Hous-
ton and the National Business Cycle,” Houston Business,
July 1993.
2 For further discussion and statistical evidence that
exchange rates influence oil consumption, see Stephen 
P. A. Brown and Keith R. Phillips, “The Effects of Oil
Prices and Exchange Rates on World Oil Consumption,”
Federal Reserve Bank of Dallas Economic Review, July
1984.
3 Robin Chhabra is an economics student at the Massa-
chusetts Institute of Technology.
Figure 1
Metropolitan Merchandise Exports
(Top 10 U.S. Metro Areas, 1995)
SOURCE: U.S. Department of Commerce.
0 1 02 03 0
Portland
Miami
Minneapolis
Houston
Seattle
Chicago
Los Angeles
San Jose
New York
Detroit
Billions of dollars
27.3
27.1
26.8
24.7
21.1
17.8
16.2
11.1
10.2
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For more information, contact Bill Gilmer at (713) 652-1546 or bill.gilmer@dal.frb.org.
For a copy of this publication, write to Bill Gilmer, Houston Branch, 
Federal Reserve Bank of Dallas, P.O. Box 2578, Houston, Texas 77252.
This publication is available on the Internet at www.dallasfed.org.
The views expressed are those of the authors and do not necessarily reflect the positions
of the Federal Reserve Bank of Dallas or the Federal Reserve System.
T he Houston economy continues to show
robust health in retailing, energy, construction,
real estate and manufacturing. The Houston
purchasing managers index jumped from 58.2
in July to 64.3 in August, surging to levels
higher than the national index, as local fac-
tories saw big gains in sales, production and
hiring. Local purchasing managers also indi-
cated more price increases and longer lead
times from suppliers.
RETAILING AND AUTO SALES
Retailers and auto dealers both continue to
report solid demand. Houston retailers con-
tinue to operate in a rapidly changing and
highly competitive environment, but say that
demand is strong and the current high levels of
consumer confidence are a big plus. A worri-
some upward trend in consumer bankruptcies
is the only negative note. Auto dealers report
very good sales and spot shortages of some of
the hottest selling vehicles.
PETROCHEMICALS
The loss of Shell’s Deer Park ethylene
capacity has kept that market unexpectedly
tight and prices up. This will change in the
fourth quarter, however, as at least two new
large plants will come on line and push prices
down. Some discounting of current polyethyl-
ene prices was noted by respondents, and
posted prices of polyvinyl chloride slipped by
2 cents per pound in August. Other plastics
prices have been flat throughout the summer.
Demand for most products remains very
strong.
ENERGY PRICES AND UPSTREAM ACTIVITY
Strong demand is the order of the day in
oil and natural gas markets. World oil markets
shrugged off another round of Iraqi crude oil
sales for humanitarian aid, focusing instead on
high levels of demand for oil. Crude prices
held steady over the past six weeks near $20
per barrel. Natural gas prices rose from $2.50
to near $2.75 with a heat wave on the East
Coast and in the Midwest, and they have
stayed up as the heating season approaches.
Storage injections passed the two-thirds mark
in August and are on track to match the stor-
age levels of last year if the heating season
arrives on schedule.
The story remains unchanged for oil ser-
vice and machinery companies. The domestic
rig count surpassed 1,000 in August, and Cana-
dian drilling is moving toward record levels.
Shortages of oil-related skills and equipment
have become chronic. Industry profits are
excellent, with significant price increases
adding to revenue.
REFINING AND OIL PRODUCTS
Most of the excitement in energy markets
in recent weeks came from record demand 
for gasoline late in the summer. The driving
season began slowly this year, but wholesale
gasoline prices began to rise sharply in late
June, moving from 55 cents to 70 cents per 
gallon in July and August. The domestic re-
finery system set several records for capacity
utilization, and gasoline prices spiked with any
outages in the refinery system. There were also
some shortages of oxygenates to produce
clean-burning summer fuels. The Labor Day
weekend traditionally marks the end of the
summer driving season, and gasoline prices
should fall as winter approaches. Refinery 
margins improved along with gasoline prices,
providing refiners with some of the best 
profits in the last two years.
REAL ESTATE
The number of existing home sales in July
set an all-time record in Houston, as did the
median price of the homes sold. New home
sales were up 16 percent over last July, and
housing starts jumped 21 percent as builders
took advantage of dry weather. The industrial
market in Houston remains the strongest com-
mercial real estate sector, with 1.7 million
square feet to be completed by year-end.
About half of industrial new construction is
going into northwest Houston, and much of
the rest is going to the far north and far west-
ern suburbs. This marks the highest level of
industrial construction since the mid-1980s.

The dollar exchange rate and the Houston economy

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The dollar exchange rate and the Houston economy

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