Eye on the Economy - 06/20/2007 (Plain Text Version)

By David F. Seiders, NAHB Chief Economist

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The U.S. Economy Is Performing Well Despite the Ongoing Housing Downswing

Growth of real GDP has been revised downward to an annual rate of 0.6% for the first quarter of this year, the slowest pace in more than four years. But economic growth is firming up nicely in the second quarter and recession remains unlikely (a 25% probability) during the balance of the of the 2007-2008 forecast horizon.

We’re expecting near-trend GDP growth during this time period.

The U.S. labor market still is performing quite well, despite the abrupt downshift in GDP growth during the early part of 2007. The overall unemployment rate held at 4.5% in May, remaining in the low and narrow range that’s prevailed since last fall, and nonfarm payroll employment increased by 157,000 — a highly respectable gain at this stage of the game. Average hourly earnings also continued to rise briskly.

Core inflation (excluding food and direct energy) has been receding recently, due in part to the slowdown in economic growth since early last year. The core price index for Personal Consumption Expenditures dipped to 2.0% (year-on-year) in April, kissing the upward bound of the Federal Reserve’s apparent comfort zone for this key inflation measure. Also, the core Consumer Price Index receded nicely in May — in line with our forecast.

The Fed Is on Hold and Long-Term Rates Have Firmed Up to Some Degree

The minutes of the May 9 Federal Open Market Committee (FOMC) meeting show ongoing preoccupation with potential upward pressures on core inflation among Federal Reserve policymakers — primarily because of persistently tight labor market conditions and rising unit labor costs — and recent statements by Fed Chairman Ben Bernanke and other FOMC members have reinforced those concerns.

The Fed almost certainly will hold policy steady at the next FOMC meeting on June 27-28, and NAHB’s forecast no longer anticipates a quarter-point cut at the Aug. 7 meeting.

Indeed, the futures market for fed funds now shows low projected probabilities of rate cuts at any time during 2007.

Long-term interest rates have moved up considerably during the past month, despite good news on core inflation as well as benign inflation expectations in the private sector. The Treasury yield curve now has a convincing upward slope across its entire range.

Long rates have risen as U.S. and global economies have strengthened, as the prospects for easing of monetary policy by the Federal Reserve and foreign central banks have been marked down, and as lengthening of expected durations of mortgage securities have prompted sales of Treasury bonds by portfolio managers. [return to top]

Recent Housing Indicators Show Ongoing Deterioration in the Single-Family Market

The recent upshift in prime mortgage interest rates poses yet another financing challenge to the struggling housing market — on top of the tightening of mortgage lending standards that has been provoked by the subprime-related turmoil in mortgage market since early this year.

Single-family starts and permits both continued to trend downward in May and NAHB’s Housing Market Index continued to slip in June, falling to the lowest level since February 1991.

Large home builders, as a group, are experiencing even sharper reductions in home sales and even higher cancellation rates than the rest of the housing industry, primarily because of their relatively heavy geographic concentration in previously hot markets that now are experiencing relatively sharp reversals.

NAHB’s proprietary survey of 30 large companies shows net sales for May (seasonally adjusted) at the lowest level since late 2001 as well as cancellation rates that have moved back toward recent highs. [return to top]

The Housing Downswing Still Has Some Distance to Run

Incoming housing data and the recent jump in mortgage interest rates have prompted another downward adjustment to NAHB’s housing forecasts for 2007 and 2008. We’re now projecting 1.40 million total housing starts for 2007, compared with 1.42 million in last month’s forecast and 1.56 million in our January forecast — an outlook that was prepared prior to the subprime debacle.

We’re currently projecting 1.45 million housing starts in 2008, down from 1.48 million in last month’s forecast and 1.71 million in our January forecast.

The 15% downward revision since January reflects an expectation that the tightening of mortgage lending standards will exert a persistent drag on effective demand and that a rising tide of mortgage foreclosures will contribute to the inventory overhang in 2008. [return to top]

The Longer-Term State of the Nation’s Housing Looks Excellent

The 2007 State of the Nation’s Housing report, released by Harvard’s Joint Center for Housing Studies on June 11, pegs the average annual demand for new housing units (including manufactured homes) at 1.95 million for the 2005-2014 period — close to NAHB’s most recent long-term forecast and well above the average for the previous 10-year period.

That means we’re looking for a major recovery process beyond the projected trough late this year. But the climb back to trend figures to be a multi-year march, within the broad economic and financial market environment that’s in the cards for the period ahead. [return to top]

Want to Know the Housing Forecast for the Top 100 Metros?

Find out in HousingEconomic.com’s 2007-2008 Metro Forecast (free preview). Get the metro forecast with in-depth analysis, overviews and downloadable Excel tables.

To learn more, visit www.HousingEconomics.com. [return to top]