Hawaii Outlook: Moderate Recession Underway

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Dale Miller
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1 Outlook: Moderate Recession Underway Carl Bonham and Byron Gangnes University of Hawai'i Economic Research Organization 1 November 1, 1 The attacks of September 11 on the World Trade Center and Pentagon will have far-reaching adverse effects on the US, World, and economies. will be more adversely affected than many other states because of our reliance on air transportation and tourism. At this point, there is still much that is not known, but we now have sufficient evidence to form preliminary estimates of the current and prospective impact on s economy. 's tourism industry has been thrown into a severe downturn. Effects on the broader economy will be less severe, partly because the economy was performing relatively well before the attacks, and partly because expansionary monetary and fiscal policy in the U.S. will begin to provide stimulus in coming months. The Initial Costs to were Significant Visitor arrivals to were completely interrupted for two days following the attacks. Since then, domestic passenger numbers have improved to about 11% below last year s levels. There has been no discernable improvement in international passenger counts, still nearly 6% lower than last year. The effect of the September losses alone caused third quarter domestic arrivals to fall by 7%, 17% for international arrivals. The sharp falloff in visitors to has led to immediate and dramatic declines in s tourism business. According to a recent survey by Smith Travel Research and Hospitality Advisors LLC, revenue at Hawai i hotels has fallen an estimated $143 million compared with SEP Passenger Arrivals by Market 16 3 Domestic Flights 3 7 OCT a year ago, and revenue per available room is 18% lower than in the period before September 11. Occupancy rates, though improving, are still down about percentage points International Flights 1 This document is an excerpt from a UHERO report to the State of Department of Business, Economic Development and Tourism, and is used with permission. We gratefully acknowledged helpful input from the following people: Paul Brewbaker, Bank of ; Chris Grandy, University of Public Administration; Pearl Imada Iboshi, State of Department of Business, Economic Development and Tourism; Michael Sklarz, ISDI, Inc. Thanks to Ari Van Assche and Allison Ting Zhou for excellent research assistance.

2 Tourism businesses have responded to the downturn with a rapid pace of layoffs and reductions in their workers hours. Between September 11 and October 13, there were nearly 17, new initial claims for unemployment insurance benefits; we estimate that about 11, are attributable to the attack. About half of these claims occurred in the hotel industry, where more than 5, new claims for compensation were filed. Most of the rest of the claims occurred in other sectors closely related to tourism: transportation, eating and drinking establishments, and other retail businesses. The actual number of jobs has fallen by less than this, since the unemployment figures include persons claiming partial compensation because of reduced hours. Job losses have not extended significantly beyond the tourism and related industries so far. But there are already some indications of general economic fallout from the tourism slump. Personal bankruptcy filings in increased by 6% in the three weeks following the attacks, an increase that led the nation. As the tourism downturn continues, weakness will spill over more substantially to the broader economy. The Struggle Ahead Over the next two years, s prospects will depend on economic developments in the U.S. and Japan, but also on the military and security situation, which is much harder to predict. The latter is key to a potential recovery of consumer confidence in air travel and a willingness to vacation in. The U.S. economy had been on a slowing trend since the middle of last year. The immediate impact of the September attacks caused a contraction of.4% in U.S. gross domestic product for the third quarter, with continuing weakness expected to push the economy into official recession by the end of the year. However, residual strength in consumer Forecast assumptions Our economic forecasts necessarily depend on assumptions about developments in the external environment and in government policy. We assume a continued gradual improvement in the military/security environment that permits a continuation of the current domestic visitor recovery trend. Because of the lack of visible improvement in Japanese travel, we expect a more moderate recovery path for international arrivals in coming months. For the U.S., we assume continued monetary support by the Federal Reserve, with at least one additional 5 basis point cut in short-term interest rates and maintenance of low rates well into. We expect one or more additional fiscal support packages from the U.S. Congress, totaling between $6 billion and $1 billion dollars this year. Japan s ability to use fiscal stimulus and hesitance to provide monetary support will bar further substantial efforts there. Our forecast incorporates anticipated effects of the limited fiscal measures adopted during the October legislative special session, and also assumes government budget cutbacks that limit public sector jobs to existing levels over the forecast horizon. spending and housing investment, combined with significant government stimulus, will make this a short and shallow recession by historical standards. Moderate growth should resume in the first quarter of next year. By, the considerable current and anticipated fiscal and monetary expansion will power a surge in growth, at rates above what we expected prior to the September 11 attacks. For Japan, the terrorism crisis and the downturn in the all-important U.S. market have pushed the economy deeply into recession. We estimate that output declined at a 3.4% annual rate in the third quarter and will fall at a similar rate this quarter before a modest recovery starts by the middle of next year.

3 Economic weakness in key markets and lingering concerns about air travel will delay recovery of tourism. Westbound visitor arrivals are expected to fall 9.% in the fourth quarter compared with the fourth quarter of last year, after a 4.4% year-on-year decline in the quarter just ended. That will bring westbound arrivals for the year 3.9% below their level. Continuing gradual recovery in mainland- travel will bring westbound visitors close to our pre-attack forecasts by the end of. The eastbound outlook is considerably worse, with arrivals fully 41% below last year in the fourth quarter, after a 14% decline in quarter 3. Recovery is very slow, so that eastbound arrivals remain far below pre-attack expectations for the entire forecast horizon, and in fact fail to regain pre-attack levels. Overall visitor arrivals are expected to fall nearly 8% for 1 as a whole. They will rise % in and accelerate to 7.4% growth (from a low base) in as a strong mainland expansion and finally Japanese recovery drives 15 's Westbound Visitor Arrivals 15 a tourism revival. In, sectors closely related to tourism will bear the brunt of the visitor slowdown. The hotel industry is expected to lose 6,4 jobs by the first quarter of next year (roughly 16% of the hotel workforce). 3 Jobs will be added back slowly as the industry recovers, approaching pre-attack levels only at the very end of. Income in the hotel sector will show a similar path, falling nearly 14.3% below levels by the fourth quarter of the year, and recovering gradually thereafter. The transportation sector will shed about,7 jobs due to the attacks. This will pull real income for the broader transportation, communication and utilities sector down.1% in the fourth quarter compared with and 5.7% below last year s levels in Q1. Because of the general tourism slump and also a change in the visitor mix toward lowerspending mainland visitors, retail trade will suffer a pronounced setback. The industry will lose more than half of the jobs that it added over the past two years about 5, jobs 65 's Eastbound Visitor Arrivals Base Base Growth Rate Base 1 Base Growth Rate -6 For forecasting purposes, UHERO continues to use westbound and eastbound arrivals rather than the domestic and international categories now favored by DBEDT. The primary difference involved treatment of international Canadian visitors who are counted as westbound visitors in our calculations. 3 3 Because job surveys were conducted during the week of September 1, post-attack job losses will not show up in official employment statistics until the fourth quarter.

4 overall and see a decline in income of 3%. Mil $ 365 Real personal Income 's Base Nonagricultural Jobs 1 Base Growth Rate The aggregate impact on s economy will be less severe than in the tourism-related industries. Total non-agricultural employment will fall by only 14,1 payroll jobs (about.5%) because modest continuing growth in some sectors will offset losses in others. Jobs will return to pre-attack levels by the beginning of, but at these levels will be about 4% lower than we had forecast prior to attacks. Because survey employment will fall by less than payroll jobs, the unemployment rate will rise 1. percentage point to 5.6% by the second quarter of before falling back somewhat as economic recovery takes hold. Aggregate real income, the broadest measure of overall economic activity that we track, will shrink in the fourth quarter of 1 and first two quarters of, before resuming growth. By, the stimulus from rebounding visitor arrivals will create robust growth at about a 3.5% annual rate. A familiar silver lining in slack economic times in is falling price pressures. We expect to see that in this case as well, with consumer inflation declining to just below 1% in What We Don t Know 1 Real Personal Income Growth Rate There are always risks that unforeseen events will lead to outcomes that differ in important ways from forecasted values. In the present situation, the risks are considerably larger than normal because some of the primary factors likely to drive the economy are simply unknowable at this point. At the head of the list is the progress of the War on Terrorism: will hostilities in the Middle East be brought to a close fairly quickly, or will the scope of war in the region intensify? At home, how will the threat of new terrorism attacks unfold? Of greater importance for may be the evolving attitudes of consumers toward vacations and air travel. For mainland travelers, there appears to be continuing improvement in confidence and willingness to travel. The resilience of this renewed confidence is unclear, and there is no evidence yet of a turnaround in the Japanese market. There are also policy uncertainties. The quick response by the Federal Reserve will begin to be felt soon. The Federal government has also moved quickly to support airlines and New York rebuilding, with a promise of general economic stimulus in coming months. Japan faces real constraints as it tries to deal with this crisis on top of an already faltering economy, and the hesitance of authorities to provide

5 needed stimulus makes a quick recovery difficult to foresee. 6.5 Unemployment Rate The State s own policy response to the looming downturn has been distressingly cautious. October s special session yielded tax incentives and program support to address the social costs of the slowdown. Legislators called for budget cuts that could completely offset any stimulus. The legislature approved only limited new borrowing authority for capital improvement projects, the single area where the state government has the potential to substantially increase spending. has been aided by the relatively strong position of the economy going into the crisis, Inflation Rate Inflation Rate Unemployment Rate particularly a strong construction industry and rapid income growth for residents. The depth of the tourism shock makes it difficult to predict how other sectors like construction will weather the storm. If larger negative spillovers occur than we are anticipating the pace of recovery will be delayed. Finally, Dengue Fever is an unrelated threat to tourism that has recently appeared. While it looks like progress has been made in containing the disease outbreaks in and there is little anecdotal evidence that it is affecting tourism except in East Maui the problem could represent a severe threat to the tourism industry if the disease gets established in. ANNUAL SUMMARY TABLE CALENDAR YEAR FORECASTS FOR THE STATE OF HAWAII 1 Real Personal Income % Change Non Agriculture Jobs % Change Unemployment Rate (%) Inflation Rate, Honolulu MSA (%) TOURISM DETAILS ('s) Total Visitors % Change Eastbound Visitors % Change Westbound Visitors % Change

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Carl Bonham and Byron Gangnes University of Hawai'i Economic Research Organization April, 1999

Carl Bonham and Byron Gangnes University of Hawai'i Economic Research Organization April, 1999 1998 YEAR IN REVIEW Hawaii's ailing economy showed signs both of relapse and improvement in 1998. While preliminary