California Policy Review

Transcription

1 California Policy Review W I N T E R Forecast Highlights The six county Sacramento region (including Sacramento, Placer, El Dorado, Yolo, Sutter, and Yuba Counties) continued to add jobs through October With both the government and manufacturing sectors showing signs of improvement, and the construction sector remaining relatively strong, our forecast calls for continued job growth in the region through the middle of 2007 (the end of our forecast period). We expect the region to add jobs at a rate of about 2 to 2.5 percent through the end of 2006, with job growth decelerating somewhat during the first half of continued inside...

2 2Regional Economic Outlook Regional Economic Outlook for the Sacramento Region This report presents the results of our forecasts for employment growth, new and existing home sales, and new and existing home prices in the six county Sacramento region. Matthew Newman is a Research Associate at the SPHERE Institute and the editor of the California Policy Review Regional Economic Outlook series. Mr.Newman has significant public and private sector experience in researching and analyzing public policies and conducting economic forecasts. continued from the cover Sales of both new and existing homes have slowed somewhat in recent months, leading to increased concern about the strength of the housing sector, a pillar of the local economy in recent years. In spite of the slowing sales, prices have continued to rise overall, although price declines have been observed in a handful of sub-markets. Total sales for new homes likely will finish the year at levels slightly ahead of the brisk pace set in Sales of existing homes are expected to decline somewhat relative to 2004 s pace. We expect sales for both new and existing homes to decline modestly in 2006 and Price appreciation will slow significantly from the unsustainable double digit-levels of recent years, but should remain positive throughout the forecast period. In recent months, as the pace of home sales has slowed, so too has the rate at which new building permits have been issued. This trend comes at a time of increasing employment, which has lead to a positive turn in the jobshousing balance or the ratio of newly created jobs to new housing units. As a consequence, any downward pressure on

3 3Regional Economic Outlook Winter 2005 prices stemming from the relative oversupply of houses relative to jobs has been mitigated. In addition, a substantial price differential between the Sacramento region and the San Francisco Bay Area persists, which also acts to support current price levels. We anticipate that these factors will offset the downward pressure on prices from increasing interest rates during the forecast period. Overall, the region s housing sector appears headed for a period characterized by stable prices, with sales declining slightly relative to the pace observed during the recent past. State and National Outlook California s economy continued to add jobs in the fall, with total nonfarm employment in October coming in 1.3 percent higher than the same period last year. California s budget deficit has grown smaller in the face of stronger than anticipated revenue growth, according to the state s legislative analyst. Nationally, the economy also continued to add jobs in October, posting a 1.4 percent gain over the October 2004 employment level. Other positive economic signs include strong US GDP growth of better than 4 percent for the third quarter of Oil prices appear to have stopped their meteoric rise, and long term interest rates remain low, although they have been rising modestly in recent months. After several months of declines stemming from uncertainty about the Iraq war, hurricane Katrina, rising energy prices, and other factors, consumer sentiment once again began to rise in November. Many early projections for consumer spending on holiday-related purchases call for an increase in spending when compared with the 2004 season. Nevertheless, consumer confidence and resulting spending are a critical pillar of the national economy. Without a return to a more positive consumer outlook, future economic growth will inevitably be dampened. In spite of relatively strong economic indicators, both in California and nationally, there are signs on the horizon that growth may begin to slow during our forecast period. Inflation has continued a several month s long increase, in large part due to high energy costs. The nation s trade and budget deficits also are a source of concern.

4 4Regional Economic Outlook Another significant risk to both the state and national economies stems from a cooling off of the housing market. Even if home prices do not come down in nominal terms, the rates of appreciation that have been characteristic of the last several years are not likely to continue. With reduced price appreciation, many home owners may feel less wealthy or may have less in the way of home equity financing to spend on home improvements or consumer goods. This reduction in spending could lead to a national economic slowdown, or, at a minimum, result in growth rates that are slower than they might otherwise be. Additionally, a slowing in construction activity stemming from a reduction in new home building also will act to cool the economy as fewer new construction jobs are created. Sacramento Region Employment Outlook Overall job growth in the Sacramento region maintained a modest pace through most of 2005, with October job totals coming in 1.7 percent ahead of the October 2004

5 5Regional Economic Outlook levels. And while overall job growth was modest, all of the major employment sectors continued to add jobs. The decline in government employment that characterized the sector during 2004 and the early part of 2005 now appears to be over, with the government sector adding jobs at a nearly 2 percent rate. The state s ongoing budget deficits have eased considerably in recent months as a result of strong revenue growth. We expect the overall level of state spending to increase for the fiscal year, resulting in increasing government employment and expenditures for goods and services in the Sacramento region. The manufacturing sector, which shed thousands of jobs over the past several years, has returned to sustained job growth in 2005, adding jobs at a rate of 2.6 percent in October. Construction employment also continues to increase, with any declines in residential construction employment more than offset by gains in commercial construction. In October, construction employment in the region was 4.2 percent ahead of the October 2004 level. As noted, residential permit

6 6Regional Economic Outlook activity has slowed somewhat in recent months, but nevertheless remains brisk. Commercial activity has been increasing, indicating that construction employment likely will remain at high levels over the coming months. Of all the major employment sectors, only the information sector reported (modest) job losses in October, shedding 1000 jobs when compared with the same period in In sum, the region s economy remains relatively strong, and our forecast calls for accelerating job growth in In spite of concerns about the housing sector (see below) and the corresponding potential for slowing employment growth in related sectors, including financial services and construction, solid performances by the government and manufacturing sectors bode well for the region s economic future. off in the sector, demand for housing remains relatively strong. During 2005, the region has continued to add jobs, which has stimulated additional demand for housing. Additionally, a continuing price differential relative to the San Francisco Bay Area has acted to stimulate demand and support current price levels (which still look like a bargain to many Bay Area buyers). And while prices have risen dramatically over the past several years, low long term interest rates and the increasing use of interest-only and adjustable rate mortgages have helped to keep monthly payments down when compared with traditional 30 year fixed rate financing. These factors have encouraged existing home owners to move to more valuable homes and have brought new buyers into the market. Builders have responded to changing market conditions with lower production levels at a time of moderate job growth and a slowing in the rate of price appreciation. Consequently, supply and demand have come into closer balance. Nevertheless, should national economic growth slow or interest rates rise substantially, both sales and prices likely will be affected as demand falls in Housing Sector Outlook Our forecast calls for a leveling-off in prices for both new and existing homes, with sales of new and existing homes declining somewhat from the (near record) levels observed during In spite of concern about a cooling

7 7Regional Economic Outlook response to higher mortgage payments and slower job growth. New Homes We expect demand for new homes to remain relatively strong through the first half of For 2005, the number of new (single and multifamily) homes sold will increase slightly relatively to 2004 to approximately 17,500 units. We predict that 2006 should see about the same number of new home sales, though sales likely will begin to decline during the first half of 2007, as economic activity and job growth begin to slow. Strong price appreciation for new homes continued through the first half of 2005, but has leveled off during the second half of the year. Nevertheless, we expect double digit year-over-year increases in prices in many areas. For all of 2005, the median price of a new home is expected to increase by 20 percent (relative to the 2004 median price) to more than $450,000. For 2006 we expect the median to increase by less than 5 percent to about $470,000.

8 8Regional Economic Outlook Existing Homes In the face of escalating prices and moderate job growth, existing (single family) home sales will decrease slightly relative to 2004, and will level off at approximately 41,300 units in both 2005 and 2006, a decline of about five percent relative to the 2004 sales number. Prices for existing homes will mirror new home prices. We expect prices to increase very modestly throughout the forecast period. For all of 2005, the median price for existing homes is projected to increase by about 20 percent relative to last year. We expect the median price of an existing home sold in 2005 to be more than $370,000. For 2006, we expect the median price for an existing home to increase modestly relative to 2005 to about $400,000. Jobs and Population Employment growth is an important factor in determining housing demand, yet employment growth and housing growth are rarely matched at any given point in time. It is frequently suggested by both builders and analysts that the ideal ratio of new jobs to new housing units is 1.3 to 1. This means that for every 1.3 new jobs created in the region, one new housing unit should be built to keep demand and supply in balance. The housing market in the Sacramento region has cycled through periods of excess housing growth and a deficiency in housing growth relative to job growth. In the early 1990s the number of workers declined but the supply of houses did not. In fact, new houses continued to be built in large numbers. This resulted in a surplus of housing and a drop in home prices. In contrast, between 1995 and 2002, the Sacramento region created well in excess of 1.3 new jobs for each new housing unit (see graph above). At first, this increased demand simply acted to counter the earlier over-supply of housing units. By the late 1990s, however, this employment-driven housing demand resulted in record levels of home sales and ultimately a supply shortage that produced double digit price increases.

9 9Regional Economic Outlook The influx of homebuyers from the Bay Area, which had the highest ratio of new jobs to new housing starts in the state during the 1990s (making it one of the most expensive housing markets in the nation) also contributed to the housing shortage in Sacramento. As builders responed to the housing shortage with near record production levels, the backlog of demand for new homes began to ease. By the beginning of 2005, the pent-up demand for new homes had largely been met, as production levels exceeded demand from new workers. As 2005 draws to a close, slowing construction and permit activity at a time of continued job growth has helped to push supply and demand into closer balance. Bay Area Housing Market The strength of the Sacramento region s economy and housing sector is closely tied to the performance of the Bay Area s economy. During the late 1990s, Sacramento gained jobs and experienced home price appreciation as businesses, unable to afford Bay Area rents or hire enough local workers, moved to the Sacramento region. Then, as the Bay Area economy faltered, Bay Area refugees continued to move to the area, seeking the region s relatively more abundant jobs and much lower housing prices. Today, the large differential between Bay Area home prices and prices in the Sacramento region continues to attract new buyers. Over the past several years the job market in the Bay Area has been steadily improving, resulting in increasing home sales and prices for that region. After a slump in 2001, housing prices have been steadily increaing in the Bay Area. The seasonally adjusted median price of an existing home in the Bay Area in October 2005 was more than $650,000, up 17 percent from October This substantial price difference on the order of $250,000 acts to stimulate demand in the Sacramento region and to support current price levels. Permit Activity Housing permit applications provide a good indicator of the future supply

10 of new homes. Permit applications reached a high in the middle of last year and have trended down somewhat during the past 12 months. This modest decline in residential permit activity indicates that the oversupply of housing characteristic of the early part of the last decade is not likely to be repeated during this cycle. As residential permits have declined, commercial permit activity has been steadily increasing. Since the beginning of 2004, the value of commercial permits has increased by more than 25%. The sustained pace of construction activity should act to spur the region s economy and fuel growth in construction jobs. Conclusions We expect job growth to remain in the 2 to 2.5 percent range through the end of 2005 and into Job growth rates will begin to moderate in 2007, falling below 2 percent during the first half of the year. Job growth will be driven by continued strength in the government sector, which has been steadily adding jobs through most of Improvements in the state s fiscal outlook indicate that the government sector likely will continue to add jobs and increase spending on goods and services in 2006 and The manufacturing sector has returned with positive levels of job growth, following a years-long period of job losses. Continued high levels of building permit activity and sustained construction employment 10 Regional Economic Outlook

11 growth, particularly in the commercial sector, suggest that the region s economy likely will continue to add construction jobs as well. Our forecast for the region s housing sector calls for significant moderation in price appreciation relative to the levels observed during the past several years. We also anticipate slight declines in sales relative to the pace observed during the recent past. Continued employment growth in the region will act to sustain demand even as price increases and interest rate worries push some buyers to the sidelines. The continued differential in home prices between the Sacramento region and the San Francisco Bay Area also will act to sustain the pace of both new and existing home sales. In spite of the generally positive outlook for the region s economy and housing sector, substantial risks to the outlook exist. These risks are primarily to the state and national economies, but could have significant impacts locally. Substantial trade and budget deficits at the national level pose a threat to continued low interest rates and sustained economic growth. Additionally, high oil prices have increased inflation. Finally, the looming decrease in rates of home price appreciation likely will act to reduce consumer spending, and with it economic growth nationally, statewide and in the Sacramento region. Forecast Notes The California Policy Review Regional Economic Outlook for the Sacramento Region was developed by Matthew Newman. The forecast contains the results of an econometric model of the six county Sacramento region s economy and housing sector (including the counties of El Dorado, Placer, Sacramento, Sutter, Yolo, and Yuba). 11 Support for the forecast was provided by the North State Building Industry Association. Assistance with model development and programming was provided by Shawn Blosser of Databasix. Tom MaCurdy, Director of the California Policy Program at the Stanford Institute for Economic Policy Research and Director of the SPHERE Institute, serves as a project advisor. For more information about the forecast, please contact Matthew Newman at or via at mnewman@sphereinstitute.org. Regional Economic Outlook

12 Stanford Institute for Economic Policy Research California Policy Progam Landau Economics Building 579 Serra Mall Stanford, CA NONPROFIT ORG U.S. POSTAGE PAID SAN FRANCISCO, CA PERMIT #224 California Policy Review I N T H I S I S S U E REGIONAL ECONOMIC OUTLOOK SACRAMENTO REGION California Policy Review The California Policy Review is published by the SPHERE Institute and the Stanford Institute for Economic Policy Research (SIEPR). Executive Editor: Thomas MaCurdy Series Editor, Regional Economic Outlook: Matthew Newman Production Editor: Gregory Rosston The California Policy Review examines topics relevant for the public policy community in California. Each issue addresses a single topic by exploring an emerging policy topic, distilling key research findings, or considering the tradeoffs among policy options. The California Policy Review is divided into three occasional series: Growth and Employment, Social Policy and Regional Economic Outlook. The Regional Economic Outlook for the Sacramento region is supported by the North State Building Industry Association.