Part 3 of UCLA Anderson Forecast: Job Loss and Recession

[powayseller]

Part 3: Job Loss and Recession

The UCLA Anderson Forecast goes back to prior housing cycles to learn what happened, what was different, what was the same, to forecast what might happen today. They decided that the 1990’s bubble was a good comparison. So they start our story with a chart which shows sales and housing prices in SD from the late 1980’s for 10 years.

The chart shows that San Diego housing prices did not drop, but stayed flat for many years. I don’t know where they got their data. Curiously, no source is listed in their graph or text. Both the OFHEO and Case-Shiller index show 10-20% price declines in San Diego over that period. Thus, they are building their forecast on suspicious data.

What else is wrong in their 1990’s choice as a baseline for today? Thornberg ignored the following factors that did not exist in the 1990’s bubble: high rate of exotic lending (adjustable mortgages, neg-am, interest only, 0% down, stated income), high inventory (higher than the peak of the 1990’s bust), overbuilding, a period of RISING interest rates instead of steady or falling rates, this bubble dwarfs the prior bubbles, greater dependence on real estate and mortgage equity withdrawal than in the country’s history, high percentage of debt is in form of adjustable credit card and mortgages which are now rising, almost 50% of mortgages are interest-only and adjustable rate (FDIC), foreclosures rising, people are already upside down on their mortgage, rising commodity and oil prices, weaker dollar, dependence on China to fund our deficit, record trade deficit and consumer debt levels.

Thornberg acknowledged the negative savings rate and outmigration, but failed to link them to housing. He did not make the connection that 44K people leaving SD every year would drastically reduce demand for housing, and cause inventory to pile up even more. He failed to connect high inventory with price reductions, overbuilding with builder discounts.

So if he wants to compare the current housing bubble to that of the 1990’s, he must make adjustments for the factors which are different this time.

Thornberg is aware of the MEW withdrawal problem, and that its reduction will slow the economy. From the report: “because the home has been used as the consumer’s piggy bank of choice, we suspect that consumption growth will begin to slow and the savings rate to once again turn positive. The era of the increase in consumer expenditures exceeding income growth is about to end.” But how will the consumer start saving? They are reliant on ever-increasing home values to keep their lifestyle going. Just a flattening of home prices will collapse this economy.

Part 4: Job Losses in the Recession of 2006-2007

Ryan Ratcliff’s Real-Estate Finance and the California Economy (February 2006) looks at potential job losses in this sector. Half of new jobs in CA in the last few years are in construction and lending. LA and Orange Counties are the most vulnerable: 42% of total lending employment in CA is located in those two counties, and most of that lending is real estate credit. At current interest rates, this would imply a loss of up to 20,000 real estate lending jobs in CA, a large number but only .13% of non-farm payrolls. His conclusion: “the size of the predicted job loss in this industry is not large enough to tip the economy into a recession”.

That may be so, Ryan, but what about all the job losses in real-estate affiliated businesses: realtor offices, title and escrow firms, termite and home inspectors? Did you consider the effect of slowing mortgage equity withdrawal on the profits of home improvement stores, furniture retailers, tile and granite suppliers, specialty contractors, applicance stores, landscapers and nurseries, restaurants, clothing and jewelry stores, auto dealers, travel agencies, golf courses? Well, I did.

It took me a long time to analyze the employment data, because it is so hard to get. I used the same data that Ryan Ratcliff and Chris Thornberg used: the Excel spreadsheet from labor analyst Cheryl Mason, at the Labor Market Information Service. That data is from the employer payroll survey, and excludes independent contractors, a group which makes up 10% of CA employment and is where you find all the realtors, loan officers, and cosmetologists.

The UCLA Forecast is optimistic about future SD employment, based on a recent uptick in the sector PBS (Professional and Business Services). This sector includes the real-estate dependent jobs of architect, civil engineer, interior designer, travel agency, as well as scientific jobs in R&D, consulting, waste treatment and disposal, remediation, legal, accounting, and stock-market-boom types of jobs in managment of companies and enterprises.

Thornberg did not say which sectors in PBS caused the 2% increase in jobs, and he did not present a story for new employment growth. I remember we used to hear that biotech or computers or wireless were new booming sectors in SD. The UCLA Forecast does not mention any one industry or occupation as leading a turnaround!

I asked Cheryl Mason if she had heard of any such sector. She had not. Although there had been talk of new jobs added as a result of Homeland Security funding and port operations. The former, we know, has reduced funding for SD. The latter is dependent on infrastructure spending.

For all I know, the 2% increase in PBS is due to RE-related booms in architects and interior designers.

I verified Ratcliff’s numbers, that more than 60% of employment growth in 2005 was in high-wage sectors, indicating a robust employment picture. The numbers are correct: 60% are high-wage,but the conclusion is not. The types of jobs he calls “high wage” are again RE-related. Let’s have a look.

In 2005, 21,500 new jobs were created in SD. This is the breakdown of the 60% he calls high wage,the promise of future growth:
Construction 3700
Info (wireless) 900
Financial and RE 1300
PBS 5300
(breakdown of PBS:
Archi/Eng 2000, R&D 800,
Other 2200,
Svs to buildings 900- Homeland Security?)
Education/Health 1100
Mfg electronic eq. 1100
Mfg, aerospace 400

The low wage jobs are:
Leisure and Hosp 4500
Education 1100
Gvernment 900
Retail 3800

When I see those same figures he saw, I come to the conclusion that we are as dependent on RE as ever, and there is no new sector of job growth to take over for the expected losses in real estate. That’s the facts, folks.

The UCLA Forecast expects major construction job losses. They predict 200,000 construction jobs lost in CA over the next 2 years. Looking over that Excel spreadsheet, this puts us at 2000Q1 employment for contractors, when we had 700,000 contractors. I think a good case can be made that we would need even fewer, since we are so overbuilt, but let’s be generous in our optimism.

I am going to take all RE-related jobs, and revert them back to their 2001 employment levels, the level we had before the mortgage equity withdrawal boom created so much fake stimulus.

This results in a job loss of 30,700 in construction, retail and wholesale trade, lending, architecture and engineering, leisure and hospitality categories of food/drinking and lodging. RE agents work in the informal sector, and NOBODY, not even Thornberg, has any idea how many there are. He writes that 20% of the informal CA employment sector is real estate agents and lenders, for a total of 320K. (Since they put 6K of the 200K lost CA construction jobs in San Diego, let’s use that same ratio and assume 7K of lost RE jobs in SD.) This puts the total RE-related job loss at 37,700.

Assuming a constant labor force of 1,505,200 and a civilian employment level reduced by 37.7K to 1,411,600 I get a 6.2% unemployment rate for 2008.

However, we must now take into account that people are already leaving at the rate of 50K/year, and those who lose their jobs will also go, so ultimately our unemployment level may creep up only slightly.

In any case, there is a recession just around the corner. Thornberg said we need job losses in 2 sectors to have a recession. Well, we have them: the first sector is construction, and the second is realtors, loan and title and escrow personel, termite inspectors, home inspectors, architects, interior designers, landscapers, retailers, restaurants, car dealers, and everyone who is benefitting from MEW.

Don’t think that higher wages will bail out those keeping their jobs. We will be lucky to have a job at all. Wages are not keeping up with the higher cost of living. The Economic Policy Institute says that inflation-adjusted hourly and weekly wages are less than they were in November 2001. Barry Ritholtz writes that the Labor Department says wages are up, but REAL wages are negative.

Mortgage equity borrowing is where we, as a nation, have obtained the funds we didn’t get in our paychecks. 1/2-1% of GDP is due to this MEW, and without it, GDP would be less than 1% (Calculated Risk).

As a nation, state, city, we are dependent on rising home values to sustain our spending. Even flat prices will end the gig. Falling prices will cause massive job losses, and a recession.

[PD]

Great information. I wonder if out migration will actually increase over the current numbers? It seems as though affordability is the driving factor behind the exodus and even if prices drop significantly, it will take years for affordability to improve.

Have you asked them where they got their graph for the housing data? Has anyone seen a similar graph for the period in question (80s-90s)?

[davelj]

As a housing bear, I agree with the vast majority of what you have to say here, but my guiding investment mantra since projecting other “obvious” future bearish scenarios and having them foiled (or perhaps I should say “deferred to a later date”) by the Fed’s dropping rates to (well below the rate of inflation at) 1% is:

“The best laid plans of mice and men are often trumped by Greenspan’s kin.”

Again, I’m a housing bear (and a stock market bear for that matter). But one thing you have to remember about being bearish is that over 90% of the world is aligned against you. The world, in aggregate, is WAAAAY long – investors, traders, governments, etc. And when these interests feel threatened, it’s amazing to what lengths they will go to prolong the “good” times. All I’m saying is to prepare yourself to be surprised at what the powers-that-be come up with to keep this crazy market from totally tanking. There’s an awful lot of entrenched interests that have a big stake in how it all turns out. They’re not just going to roll over and get stampeded without a fight.

[powayseller]

Price stability is more important to the government than a few million homeowners losing their jobs or homes. They must prevent inflation, and the problem is that the economy is slowing and inflation is rising. Ben must either kill housing or kill the dollar. Either way, housing is toast.

If you can have ever-lasting economic growth without a recession, send the formula to Ben Bernanke. There is no such thing.

[davelj]

“Price stability is more important to the government than a few million homeowners losing their jobs or homes. They must prevent inflation…”

You’re kidding, right? The APPEARANCE of price stability is important to the government, but ACTUAL price stability clearly is not a priority based on the evidence of the last decade. I agree with your conclusion that housing is toast. But there’s two issues: (1) How does one define “toast”? (In other words, what kind of decline qualifies as “toast”), and (2) What’s the timing of the toast? Two critical issues, I’d say.

My point is that the Fed/Government is prepared to pull all sorts of things out of its hat if it looks like things are really going south. Be prepared for bank regulatory agencies to change the stringency of their exams, a bailout of Fannie and/or Freddie, increased interest deductions for homeowners, you name it. I’m not saying it’s going to happen, I’m just saying to be prepared for the unexpected. Strange shit happens.

For example, as of 2003, in the 90 years the Fed had been in existence, it had NEVER lowered short-term rates below the rate of inflation (and for good reason). Consequently, using historical numbers, the odds of that eventuality were beyond a 3-sigma event – almost impossible. And yet it happened. Don’t be surprised if we see similar maneuvers. Ultimately, they won’t work – the fundamentals will eventually win out. But, such machinations can put a floor on the decline as well as deferring the pain out even further into the future than any reasonable person might expect.

[PD]

This is a great article:
http://www.freemarketnews.com/Analysis/224/5267/2006-06-12.asp?wid=224&nid=5267

[davelj]

Agreed – a great summary of the situation.

[powayseller]

Is everyone now convinced that the SD economy is dependent on real estate? There is no industry or occupation in San Diego that can contribute any employment growth, outside of real estate.

Any comments on the job loss and recession? Do you see how Thornberg missed the boat by not considering the losses in the secondary sectors?

I’d love some feeback from the RE bulls.

[lostkitty]

I dont think there are any RE bulls around here!

[Author]

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