Breaking Down Our Economy
June 18, 2010 As I am writing this, Mother’s Day weekend has come to a close and we are in the midst of a strong lawn and gardening spring season. Indications across the country have pointed to robust sales, albeit some regions have experienced stronger sales than others. I would anticipate with the weather patterns evidenced this year, summer may even surprise us. Of course, fall is our next biggest time of the year and as long as weather cooperates, the other major influencing factor is the economy.
The good news is the economy continues to show signs of recovery. Real GDP grew at a 3.2 percent annual rate in the first quarter this year, as strong growth in consumer spending and inventory rebuilding contributed to the bulk of the improvement during the quarter. Business investment was supported by equipment and software spending, but investment in structures continues to lag. Government outlays were a mixed picture, with federal expenditures expanding but not enough to balance the decline in state and local spending. International trade contributed positively with exports up 5.8 percent at an annual rate. Inflation remained relatively tame during the quarter, with the GDP deflator climbing just 1.4 percent on a year-over-year basis.
The strong first quarter GDP numbers reflect rebounding production. During the recession, manufacturers cut output much more than demand faltered (as they typically do). The net result was a protracted decline in inventories. Output has come back strong more recently and the early data for the second quarter are encouraging. Regional manufacturing surveys from the Federal Reserve Bank all report sharp increases in activity during the last part of spring.
While manufacturing activity and overall GDP have bounced back solidly in recent months, the sustainability of recent gains remains in question. Ultimately, once inventories are brought back into line with historical norms, production will have to move back in line with the more modest gains in final demand. This means that some of the more upbeat numbers on production may roll over in the next few months, as increases in production begin to taper off. While the second quarter numbers have not been released at the time I am writing this column, I would expect real GDP to continue expanding at around a 3 percent annual rate. Growth is expected to cool off a bit during the second half of the year, however, as some of the boost from various stimulus programs diminishes.
Housing Market’s Effect
Housing is one area where we will soon see what happens when the stimulus ends. The advantage of tax credits for first-time home buyers and some trade-up buyers ended in May. As a result, new home sales, which surged 27 percent in March, should either add or hold on to that gain in April, before sliding back a bit in May and June. Existing home sales, which are booked at closing, will likely ramp up over the next few months and then slide back a bit over the summer.
The bottom line is we still have too many housing units. Population growth would normally solve this problem, but the recession has triggered a lower ratio of households to people. In other words, people elected to live together more often. Couples delayed divorce. Adult children elected to stay at home and many came back home during the recession. In addition to these factors, a number of immigrant workers have returned to their home countries, preferring to be unemployed at home rather than unemployed in the United States.
With the current housing oversupply, there isn’t much reason to build. Oh, there are certain neighborhoods where certain types of housing at certain price points are still in demand. New construction is not falling to absolute zero. But there is little hope for a healthy housing market until the oversupply goes away. What will lead to the end of housing oversupply? First, job growth will get those kids out of their parents’ homes. Second, general population growth will help, including some foreign workers returning to this country. But don’t look at your 2010 calendar to find the date that the oversupply will be worked off – you need a calendar that runs into 2011 at least.
The end of the first-time homebuyers’ tax credit raises some questions as to what will happen to home prices. The latest S&P/Case-Shiller home price data were a little less upbeat. The 10-city composite price index rose less than 0.1 percent, while the 20-city composite index fell 0.1 percent. Home prices are likely being supported by various government and private sector programs to reduce foreclosures. Most real estate gurus expect home prices to decline later this year and ultimately expect the S&P/Case-Shiller 10-city composite index, which is currently down 30 percent from its peak level, to decline another 6 to 8 percent. The roller coaster continues.
More Work Ahead
Looking beyond the recovery, restoring the financial sector to full health and addressing the gaps in regulation highlighted by the crisis will be essential for stable medium-term growth. A consensus is building around reforms that would strengthen supervision and regulation, including through an expanded perimeter, improving the resolution mechanism for systemically important non-bank financial institutions to provide options other than bankruptcy and bailout; and shoring up the infrastructure for financial markets.
Reforms would also provide an opportunity to address the “too-big-to-fail” problem by creating incentives to reduce size and complexity. This would help streamline the U.S. regulatory structure, avoid gaps and inconsistencies and support renewed (but safer) securitization activity. In turn, a more sustainable foundation for U.S. growth will facilitate the rebalancing of global demand. This is a complicated issue that extends well beyond my pay grade, but it will be important for all of us to stay informed on the issue.
The key to putting economic growth of our country and our industry on a more sustainable economic footing is repairing both private and public balance sheets – and, in particular, savings. Consumers have shown remarkable resilience during the recovery to date, but big-ticket purchases (landscape and otherwise) remain secondary in their minds. The task still remains ahead of us to convince them flowers are necessities in their lives rather than mere luxuries.
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