How’s the Economy Doing and How is it Impacting Commercial Real Estate?
The performance of the economy has significant implications for the commercial real estate sector, particularly through its impact on job creation and interest rates.
Since we officially exited the recession, the economy has been growing at a snail’s pace. Year-over-year gross domestic product growth has been about 1.6 percent, well below the 40-year trend of 2.5 to 3 percent growth. This leaves us with a current GDP of just under $17 trillion, about $2.4 trillion dollars less than if that normal trend had continued. To give some perspective to this shortfall, $2.4 trillion equals the entire GDP of Brazil or the United Kingdom.
We would essentially need five years of GDP growth at 5 percent just to get us back to our long-term, trend-line level.
The influence of a sluggish economy on the jobs market is very clear. Jobs, more than anything else, affect the underlying fundamentals of real estate. During the Great Recession, the U.S. lost 8.7 million jobs. About 70 percent, or 6.1 million, have been regained. Therefore we remain about 2.6 million jobs below where we were before the recession. However, since 2008, our population has grown by about 15 million people. With a present participation rate of about 63 percent, to feel as good as we felt pre-recession, an additional 9.5 million jobs would have to be created. In total, we have a shortfall of about 12.1 million jobs.
Other economic metrics are currently mixed. Things like corporate profits are great (mainly because companies have cut expenses to the bone), and net exports are at record levels. However, real GDP per capita, real median home prices and durable and non-durable industrial output are stuck below the historic norms. So are consumer confidence and consumer spending. These factors are inducing the Fed to maintain its easy money policy, which is keeping interest rates low, benefitting the commercial real estate sales market significantly. These low interest rates are also helping the government significantly with its budgetary problems. For instance, over the past year, the U.S. added about $1 trillion in debt, but our interest payments, to service that debt, have been reduced by almost $50 billion a year. This is creating tremendous incentive for the government to do what it can to keep rates low.
Clearly, we need the economy to gain some traction, and a sensible fiscal policy would help get us there. We need a balanced approach from Washington and some real political leadership. Revenue as a percentage of GDP is near historic lows, and spending as a percentage of GDP is nearing historic highs. On the revenue side, it is clear that tax reform is needed, and taxes need to be increased. In 1980, 16 percent of Americans paid an effective federal income tax rate of zero percent. Today that percentage is nearing 50 percent. On the spending side, entitlements in the form of transfer payments have been soaring. Today 49 percent of Americans receive some sort of transfer payment. Thirty years ago, only 20 percent did. Since 1990, for example, the number of Americans receiving social security disability payments has tripled.
Unless a balanced approach is implemented, which will take some political courage, our trillion-dollar deficits and massive debt will catch up with us in a very significant way. It is remarkable to think that just four years ago, our Federal debt per household was approximately $40,000, while today it is approaching $100,000 per household. Low interest rates, which are being kept artificially low by the Fed, are currently bailing out the government by masking the severity of our budget crisis. When rates rise, we’ll truly feel the consequence of what has been going on for many years.
From a commercial real estate perspective, the questions we would love to know the answers to are: When do jobs come back in a meaningful way? How long do interest rates stay low? And can Washington get its act together to put our economy on a tangible track to recovery? These answers will likely shape our market for years to come.