Eye on the Economy - 05/06/2009 (Plain Text Version)

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First-Quarter GDP Hammered by Temporary Collapse of Business Spending

Real gross domestic product (GDP) contracted at an annual rate of 6.1% in the first quarter of this year, according to the “advance” estimate released by the Commerce Department on April 29. This was a deeper decline than the prevailing consensus estimate — NAHB expected a 5.2% contraction — and was nearly as deep as the 6.3% decline in the final quarter of 2008.

Indeed, this two-quarter contraction represents one of the worst performances in the entire post-war period.

While the overall GDP growth rates were quite similar for the past two quarters, the composition of economic activity was quite different.

A major reduction in consumer spending was a huge negative in the fourth quarter of last year, subtracting 3 percentage points from GDP growth, but this component swung into the black in the first quarter of this year and delivered a solid positive growth contribution of 1.5 percentage points.

A virtual collapse of business spending was the major factor behind the sharp decline in GDP for the first quarter.

Spending on capital equipment and software contracted at a 34% annual rate, nonresidential construction fell at a 44% rate and residential investment plunged at a 38% rate.

These three components, making up private fixed investment in the GDP accounts, knocked 6 percentage points off the economic growth rate, and a major rundown in business inventories chopped off another 2.8 percentage points.

The good news is that we are not likely to see another contraction in business spending similar to the first-quarter collapse and we expect consumer spending to be reasonably solid going forward — buoyed by the fiscal stimulus package enacted earlier this year.

We expect some further decline in GDP during the second quarter, but at a much slower pace than during the past two quarters.

Swine Flu ‘Pandemic’ Is Not a Major Economic Event

For a while, it looked like the outbreak of swine flu could have major negative implications for the U.S. and global economies, particularly when the authorities declared that the geographic scope of the disease had reached “pandemic” proportions. After all, a serious and uncontrollable flu would take a major toll on the labor force, working hours and productivity, as well as on certain industries here and abroad — including travel and hospitality services.

Fortunately, swine flu is not living up to its earlier billing. The Center for Disease Control now says it’s more like a mild seasonal flu and local jurisdictions are calling off things like school closings.

While there is some concern that a more serious wave could arrive in the fall, our forecasts do not incorporate any flu-related economic weakness. [return to top]

FOMC Holds Steady at April 29 Meeting

As expected, the Federal Reserve held monetary policy steady at the April 29 Federal Open Market Committee (FOMC) meeting.

The FOMC upgraded its assessment of the economy to some degree, maintained the 0.0%-0.25% target range for the federal funds rate and committed to that position for an extended period — a strategy intended to put some downward pressure on longer-term interest rates.

The FOMC statement once again committed the Fed to “employ all available tools to promote economic growth and to preserve price stability,” including the unconventional “balance sheet” policies employed while traditional policy has effectively maxed-out.

The statement reaffirmed previously announced targets for purchases of agency debt and agency mortgage-backed securities — up to $1.45 trillion for 2009 — as well as the commitment to buy up to $300 billion of Treasury securities by autumn.

Financial markets apparently were disappointed by the FOMC’s failure to raise the target for purchases of Treasury securities, and long-term Treasury rates have been subject to some upward pressure since the April 29 meeting.

The FOMC statement did stress ongoing reevaluation of the size and composition of its balance sheet “in light of financial and economic developments,” and the Fed could very well step in if longer-term Treasury rates move much higher. [return to top]

Supply-Demand Balance Is Improving in New-Home Market

The massive cutbacks in single-family starts since early 2006, particularly in the for-sale component of the market, have resulted in substantial reductions in the overhang of new homes for sale from the highs of 2006 to 2007. The months’ supply is still on the high side — 10.7 in March — but that number is subject to substantial decline as sales move up from the record low posted at the beginning of this year.

There are fairly convincing signs that sales of both new and existing single-family homes hit bottom in the first quarter of this year and NAHB’s surveys of builders suggest that the beginnings of recovery in housing demand are underway.

Key surveys of consumers point in the same direction.

Our proprietary survey of large public and private builders shows recent stabilization of gross sales and modest improvement in net sales (seasonally-adjusted data through March), while our broad-based single-family Housing Market Index showed significant improvement in April.

The new $8,000 tax credit for first-time home buyers undoubtedly is stimulating home buying to some degree and a number of states, including California, have enacted their own stimulative measures.

The new-home market obviously is still struggling with stiff competition from the existing home market, including near-record numbers of vacant units for sale as well as the upswing in foreclosures that’s feeding the vacant stock. Weakness in the economy also is a negative at this time, although the worst apparently is behind us and measures of consumer confidence and sentiment have shown recent improvement.

Consumers’ assessments of home buying conditions also have been on the rise — driven by widespread price declines and falling mortgage rates that recently have elevated standard measures of affordability to record levels.

It’s still quite early in the recovery game, but it appears that the supply-demand balance has stabilized and is beginning to improve.

That’s the foundation for NAHB’s forecast that shows gradual improvement in home sales beginning in the current quarter and even more gradual improvement in single-family starts beginning in the third quarter of this year. [return to top]

Fed Chairman Expects Improvements in Housing and the Economy

Testifying before Congress’ Joint Economic Committee on May 5, Federal Reserve Chairman Ben Bernanke said recent data suggest that the pace of contraction in economic activity “may be slowing” and noted that the housing market “has shown some signs of bottoming.”

Looking forward, he said the Fed expects economic activity to bottom out before long and turn upward later this year.

Key elements of his forecast are judgments that the housing market is beginning to stabilize, the sharp liquidation of business inventories will slow down and fiscal and monetary stimulus already in train will support final demand.

Bernanke stressed that his forecast assumes continuing gradual repair of the financial system, a process that’s still got a long way to run.

In this regard, he noted that mortgage markets have responded favorably to the Fed’s purchases of agency debt and mortgage-backed securities. However, he stressed that the supply of mortgage credit is still relatively tight and that the mortgage market remains heavily dependent on the support of government programs like FHA and the government-sponsored enterprises, Fannie Mae and Freddie Mac.

Bernanke noted that the early stages of the projected economic recovery are likely to display below-trend GDP growth that will involve further deterioration of the labor market and keep downward pressure on inflation for some time.

These features also are part-and-parcel of NAHB’s current economic outlook. [return to top]

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