Eye on the Economy - 09/03/2008 (Plain Text Version)

By David F. Seiders, NAHB Chief Economist

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Recent Economic Growth Surge Is Unsustainable

The Commerce Department’s preliminary estimate of growth in real gross domestic product (GDP) for the second quarter came to a heady 3.3% annual rate, up from the 1.9% “advance” estimate and the strongest pace since the third quarter of last year. The large upward revision primarily reflected much stronger net exports — exports were revised up and imports were revised down — and much less inventory liquidation in the nonfarm business sector.

The housing production component of GDP (residential fixed investment) was revised very little and still shows nearly 16% contraction (annual rate) in the second quarter. That was enough to knock off 0.62 percentage point from overall GDP growth, following much larger negatives in the previous three quarters.

The surprisingly strong GDP report for the second quarter may very well overstate the economy’s true strength and most likely will be revised downward sometime in the future.

For one thing, there’s a major discrepancy between GDP and gross domestic income (GDI), two concepts that are identical in principle, as GDI has shown a much weaker pattern during the past year.

Furthermore, other key data systems, including the monthly employment reports, strongly suggest that the economy was not doing all that well in the second quarter, despite sizeable support to consumer spending from the income tax rebates that were enacted into law early this year.

The Economy Is Bound to Weaken in the Second Half

Major sectors of the economy are bound to lose strength in the second half of this year and possibly in the early part of 2009 as well, despite recent declines in global oil prices.

Consumer spending, which accounts for about 70% of GDP, actually started to weaken seriously in July and surely will continue to give way as the support from the income tax rebates first evaporates and then converts to a negative “payback” effect.

Net exports, which contributed an immense 3.1 percentage points to the second-quarter GDP growth rate, simply will not be able to repeat that performance in coming quarters.

The dollar has been regaining some ground, inevitably weighing on net exports, and the economies of some of our key export markets ― including Japan, the Euro area and the United Kingdom ― have been weakening lately. While our foreign trade deficit is likely to show some further improvement in coming quarters, the kick to GDP growth will be nothing like the extraordinary support provided in the second quarter of this year.

Everything considered, the overall economy is bound to weaken in the third quarter and could slip into a negative growth mode by the final quarter of the year, keeping alive the possibility of an official recession “call” by the Business Cycle Dating Committee at the National Bureau of Economic Research. [return to top]

More Consumers Say It’s a Good Time to Buy Homes

The University of Michigan’s monthly survey of consumer sentiment asks households to rate buying conditions for homes.

The proportion giving a “good” rating started to give way in 2004, as house prices were climbing to unaffordable levels in many areas, and bottomed out in the summer of 2006 as house prices finally topped out at the national level. But the “good” proportion has been on the rise for about two years now, getting up to 71% in August — back to the mid-2005 level.

Consumers’ ratings of home buying conditions have been driven largely by house price movements. In August, 65% of consumers cited “low prices” as the key reason for viewing home buying conditions as “good,” compared with only 10% at the end of 2005.

Interest rates also can have a major impact on home buying conditions, of course, but rate shifts have had a relatively minor influence on consumers’ ratings during the past two years.

Improving consumer views of home buying conditions obviously do not quickly translate into stronger home sales. But the systematic improvements in recent times are laying groundwork for better sales volume a bit further down the line. [return to top]

House Price Declines Are Moderating

The downswing in national average house prices started around mid-2006 and gathered downward momentum through the first quarter of this year. However, the rate of decline has slowed down recently, suggesting that the massive imbalance between demand and supply in the single-family housing market is being corrected to some degree.

The S&P/Case-Shiller U.S. National Home Price Index for the second quarter of this year was down by 18% from the peak reached two years earlier. The seasonally adjusted annual rate of decline in the second quarter (from the first quarter) came to 11.5%, certainly a large rate of decline but much slower than the record 23.3% contraction registered in the first quarter of this year.

Other price measures also show recent slowing in the rate of national house price decline, including the seasonally adjusted purchase-only version of the House Price Index produced by the Office of Federal Housing Enterprise Oversight (OFHEO).

This OFHEO measure, based on home sales financed by mortgages held or securitized by Fannie Mae and Freddie Mac, contracted at an annualized rate of 5.4% in the second quarter, compared with a record 6.7% in the first quarter of the year.

None of the available data systems capture the whole truth about house price movements in the U.S., but all the major national measures show recent moderation in the pace of decline, reflecting slower declines in some places and absolute price increases in others ― such as Boston, Denver and Dallas.

This pattern should continue to develop in coming quarters, and we expect to see outright stabilization of national price measures during 2009.

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Home Sales Appear to Be Stabilizing

Sales of new and existing single-family homes have fallen dramatically since the peaks in 2005, but recent data suggest that the long downslide is nearing an end.

Improvements in affordability, due to price declines in many areas coupled with persistent growth of household income, appear to be the main supportive factor so far, and the new $7,500 tax credit for first-time home buyers is sure to support sales over the balance of this year and the early part of 2009 (i.e., during the window of opportunity).

Existing-home sales rose by 3.1% in July and sales volume actually has been rattling around a fairly flat trend since late last year. A rising number of foreclosure sales certainly has been supporting overall sales volume in the existing-home market. Even so, recent sales data provide some reassuring signals on the demand side of the single-family housing market.

New-home sales moved up by 2.4% in July and the cyclical low may very well have been reached in June.

NAHB’s current short-term forecast shows stabilization of new-home sales during the second half of the year, not far below recent levels, followed by a systematic recovery process in 2009 and 2010. [return to top]

Housing Production Will Decline Somewhat Further

Builders continue to cut back on new housing production, responding to weak demand and heavy supply in many parts of the country.

Both total housing starts and the single-family component hit new lows for this cycle in July, dropping to the lowest levels since early 1991, and residential construction put-in-place naturally took another big step downward in July.

The production cutbacks have been most pronounced in the condo component of multifamily starts and in the for-sale component of single-family starts (excluding homes built on owners’ lots). The cutback in starts of for-sale units, to levels below new-home sales, has systematically reduced the inventory overhang in the new-home market during the past year (by nearly 25%).

However, the months’ supply still is running high (10.1) and the overhang of vacant units for sale (including those in the existing-home market) continued to run at a historically high level as of midyear. The supply overhang should delay the stabilization of housing production for at least a few quarters beyond the bottom for sales.

NAHB’s current forecast shows a bottom for single-family housing starts in the first quarter of 2009, completing a peak-to-trough decline of about 68% — the largest contraction of the post-World War II period. [return to top]

The Growth Potential for Housing Is Tremendous

The depth of the current housing contraction is creating tremendous growth potential that will be realized as the next housing expansion takes us back up toward sustainable trend levels of production.

In this regard, we expect the rate of new housing production (including manufactured homes) to slip below 900,000 units at the trough early next year, and we’re estimating sustainable trend production at nearly 2 million units per year — based primarily on projections of household formations, housing replacement needs and growth of the second-home market.

The exact shape of the ensuing housing expansion will depend on many factors, including conditions in financial markets and possible shifts in national housing policy under the next Administration, but the upward thrust is bound to be strong.

Our current long-term forecast shows attainment of trend levels of production by the latter part of 2012, following nearly four years of solid growth. [return to top]

Attend the NAHB Construction Forecast Conference on Oct. 22

Don't miss NAHB's 2008 Fall Construction Forecast Conference and Webcast for the latest economic news about the housing industry.

Join NAHB on Oct. 22 in Washington, D.C., where the country’s leading economists and finance experts will provide insight into the uncertainties of the housing market.

To register for the conference or Webcast, and to see the full conference agenda, visit www.nahb.org/cfc. [return to top]

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

Find out in HousingEconomic.com’s 2008 to 2009 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]