At the 49th Annual Economic Forecast Luncheon, co-sponsored by the W. P. Carey School of Business Department of Economics and JPMorgan Chase, two experts offered their insights into Arizona’s economy in 2013. The message, from Professor Lee McPheters, director of the JPMorgan Chase Economic Outlook Center at the W. P. Carey School of Business and Elliott D. Pollack, CEO of the economic and real estate consulting firm Elliott D. Pollack and Company was: Arizona’s economy is getting better. Slowly.
McPheters’ prescription is patience and a positive attitude. “Every year Arizona’s economy is improving. Every year consumers and businesses are in a better position. The prospect of recession in 2013 is pretty low right now. Essentially, the outlook is for more slow growth,” he explains. “As I said last year, the year ahead will be marginally better than this one. All indicators are looking better for 2013, but in terms of a normal Arizona economy, we’re still a long way from that. It will still be 2-3 years until get back all of the jobs that have been lost. (And in the hardest-hit sectors it will take even longer to recover.)”
Pollack comes to basically the same conclusion about Arizona’s real estate markets: Like 2012, 2013 will be an improvement over the year before, but improvement will continue to be slow. “While we are not home yet, we have made substantial progress in the single family market. In the absence of a fiscal cliff, the housing market should continue to improve over the next several years and by 2015, the market should be normalized. As I like to tell people, we are only one decent population flow a year away from the whole issue being resolved.”
Job growth continues to improve, slowly
The problem has been that population growth remains far slower than in previous recoveries. And that is in part because job growth has been so slow. Arizona lost 314,000 jobs from late 2007 to the trough in September of 2010, McPheters says. By the end of 2012, 94,000 jobs will be restored -- about 30 percent -- with 220,000 jobs still to regain. At the 2012 pace of job gains (48,100), it will take three more years to return to pre-recession levels of employment.”
Job growth of 2.5 percent a year and population growth of 1.5 percent is not a “new normal” McPheters says. Rather, it is part of a 2-3 year transition that is moving more slowly than in past recoveries. “The numbers confirm that we’re in a transition -- every year is a little better than the one before.”
Unlike states with extensive oil and gas resources, growth in Arizona has historically benefitted from business relocations and population inflows during periods of expansion. “When the national economy expands, Arizona’s share of that growth tends to be larger than its share of the national population. Next we should get about 3 percent of national job creation. But because national job creation is weak, we’re getting 3 percent of a pretty small number,” McPheters explains.
Therein lays a key reason why Arizona’s economic performance in 2013 expected to be weaker than in past cycles. McPheters explains, “The typical pattern of national economic recovery is absent this time. After the usual downturn, interest rates are low and this stimulates construction, which emerges as a key driver of growth. In Arizona, such construction booms have been accompanied by population inflows, resulting in gains in employment and income much stronger than the national average. Construction has now started to improve, nationally and in Arizona. Population growth, however, is expected to be well below average in Arizona, so an important ingredient of growth is lacking. Population is projected to increase by 1.5 percent in 2013, bringing some 100,000 new residents to the state. This is less than the 190,000 added in the peak year 2006, but an improvement over the 63,000 low of 2009.”
Before people will resume moving into Arizona in much greater numbers, McPheters says, the state needs to increase the rate at which new jobs are created. Arizona has only recovered about 30 percent of the jobs lost in the recession; 70 percent still haven’t come back. “We saw improved job growth numbers in 2012 – for example construction is up over 7,000 jobs, and that seems like a lot compared to 2011 where there was no growth at all. But we lost over 100,000 construction jobs. We need several years of much better growth in every industry to get back to where we were. Until that happens, a lot of Arizonans will remain unemployed, and some people will even be leaving the state.”
The Arizona unemployment rate averaged 8.4 percent through the first three quarters of 2012, somewhat higher than the national rate (8.2 percent) for the same period. In September, Arizona ranked 31st among all states, with an unemployment rate of 8.1 percent. The Arizona rate is expected to end the year remaining above 8.0 percent in December of 2012, but well down from the high of 10.8 percent for this cycle recorded at the end of 2009. By the end of 2013, the rate is projected to fall below 8.0 percent, to 7.6 percent as of December.
Professor Lee McPheters' slides
The housing market has clearly turned -- not recovered, but recovering
Job growth that has been recovering much slower than in past economic cycles has also dampened the recovery in the housing market. Nevertheless, says Pollack, “It’s hard not to be optimistic about the housing market at this point in time. Major strides have been made to clear the excess supply. Demand, especially for new housing, has been picking up. For existing housing, the supply of active listings in MLS is back under control. For example, from over 57,000 units in October 2007, the supply of active listings has declined to approximately 22,400 units in October 2012. This is the lowest level of listings since 2005. In terms of month’s supply, the market is back to normal. As of October, there was a three month supply of single family homes in MLS, down from almost a 15 month supply in October 2007.”
The second part of the feel good story, Pollack says, is multifamily housing. “Apartment vacancy rates continue to decline and given the lead time between planning a project, going through the title process, and actually building, vacancy rates are likely to decline further. According to Hendricks and Partners, absorption continues to be strong and far exceeds the number of completions.”
Commercial markets recovering too, but more slowly
Commercial real estate markets in Arizona are recovering, too, but less robustly than the single- and multi-family housing market. In the market for large box industrial space (100,000 square feet or more), vacancy rates are down to about 13 percent, from a peak of over 16 percent, Pollack says. The location of a number of large distributors in Arizona has absorbed a lot of that space. But in smaller industrial space, the market is still weak.
The office market continues to improve very slowly. “The reason,” Pollack explains, “is that there is a long lead time between when someone plans an office building and it actually becomes available. So all the office space that was planned from 2005 on probably didn’t become available until after the recession hit. So the demand for all that space that became available in 2007, ‘08, ‘09 has essentially disappeared. On top of that, Phoenix lost hundreds of thousands of jobs. If you have hundreds of thousands of jobs fewer you certainly need a lot less office space. So office vacancies went to historic highs, and are still at about 25 percent. For those vacancy rates to decline, there has to be more demand. Yes there’s new demand being created by employment. But businesses are being very cautious and we’re still way under peak employment of 2007. We’ve still got a way to go.”
The story is largely the same for retail space, Pollack says. “You had a lot of building in anticipation of rooftops that never were built. Now, will there be demand for that retail space? Sure, at some point, but not right now. On top of that you have three years of quite significant negative absorption in retail -- a lot of space that used to be occupied was empty simply because the recession was so bad people spent less. So there’s a lot of excess space. Given the rate of growth and anticipated employment and population, it will be a while before office and retail get back to normal.”
Elliott D. Pollack's slides
If the economy goes over the fiscal cliff, all bets are off
Both McPheters and Pollack caution that if policymakers in Washington, D.C. fail to come to an agreement to avert the fiscal cliff, the forecast for 2013 is likely far gloomier. “The fiscal cliff could add two years to the recovery period,” Pollack says. “If you have the tax cuts and the cuts in defense spending, two major studies say that Arizona will lose a minimum of 50,000 jobs. And that doesn’t take into account the reduction in spending because of taxes, only the reduction in spending due to cuts in defense and other spending. It would be draconian.”
“Arizona receives about 9 percent of total national defense spending,” McPheters said, “even though we’re only 2 percent of the population. So defense cuts would have a bigger effect in Arizona than in the average state.”
- According to Elliott D. Pollack, CEO of the economic and real estate consulting firm Elliott D. Pollack and Company, the housing market has clearly turned toward recovery. In the absence of a fiscal cliff, 2013 should be better than 2012, 2014 should be better than 2013, and by 2015 we should be back to normal in housing. We ought to have made a lot of progress in commercial markets, though we won’t be completely normal in office or retail by that time. Professor Lee McPheters, director of the JPMorgan Chase Economic Outlook Center at the W. P. Carey School of Business, doesn’t anticipate a contraction in the Arizona economy; the outlook is for growth, but slow growth in 2013. All indicators are looking better for 2013 but in terms of a normal Arizona economy, we’re still a long way from that. It will still be 2-3 years until we get back jobs that have been lost during the recession.