2011 MARKET FORECAST

The Arizona Outlook

NAR Research Department Compares State, National Trends for the Coming Year

By Jed Smith, Managing Director - Quantitative Research, National Association of REALTORS®

Arizona REALTOR® Magazine - January 2011

Introduction

The national economic outlook for 2011 is subject to a variety of unknown risks and changing government policies.  Future federal economic, tax, monetary, job creation and fiscal policies have been subject to substantial change and are becoming increasingly unpredictable; however, they can have a major impact on the economy.  Given the size of the federal deficit coupled with significant consumer and business losses in the Great Recession, economic forecasts are uncertain.  Increasingly projections need to be based on best guesses of future federal actions.  The forthcoming year is highly unpredictable—there are a large number of unknown-unknowns (sometimes called Black Swans) in the economic environment. 

Based on best available information, we are projecting levels of 1.9% economic growth, a 1.1% increase in nonfarm payrolls, and a 10-year government bond rate of 3.3%.  Improvement in the economy appears likely to be slow, somewhat disappointing, but positive.  The graph shows that the Arizona economy tends to follow the same direction as the U.S. economy.  Given that the Great Recession had a particularly heavy impact on Arizona’s economy—particularly in real estate as well as other areas—the Arizona recovery may be somewhat slower than the overall U.S. experience. 

Key Real Estate Variables:  The Economic Drivers

The lingering effects of the Great Recession coupled with a slow economic recovery appear to be the major factors causing a slow recovery in the real estate markets.  

• GDP:  After a decline of 2.6% in 2009, GDP growth has been disappointing relative to expectations.
• Employment:  Unemployment has been well above 9% for some time, and job growth has been anemic. 
• Banks:  Low interest rates are irrelevant if loans are not available.  Increased risk aversion and weakened balance sheets appear to have decreased loan availability for both residential and commercial properties.   
• Distressed Real Estate:  At the national level, with somewhat over 33% of existing home sales as foreclosures or short sales, and with possibly 25% of homeowners in a negative equity position, the residential market continues to have major problems.  Unfortunately, Arizona’s recent experience has been somewhat worse.  Commercial real estate has experienced sales, rental and liquidity problems.

Credit availability and employment are the two most important drivers of the real estate markets.  Financial institutions appear to have raised mortgage credit requirements for both residential and commercial property to excessive levels, reflecting a strong increase in risk aversion coupled with weakened bank balance sheets. 

Recent Experience:  Arizona and the U.S.

Nationally, median single-family home prices and existing home sales were down respectively by 25% and 42% as of third quarter 2010 in comparison to third quarter 2005.  Arizona median single-family home prices and existing home sales were down respectively by 48% (Phoenix), 39% (Tucson) and 46% (sales, statewide as of third quarter 2010 in comparison to third quarter 2005). 

New residential construction has also declined substantially.  Nationally, annual building permits for privately owned housing units dropped to 582,000 in 2009 from a previous high of 2.15 million in 2005; the corresponding Arizona numbers were 14,500 authorized in 2009, down from 91,000 in 2005. 

The underlying fundamentals for Arizona are somewhat weaker than is the case nationally, measured in terms of unemployment, distressed property, homeowner equity and commercial space availability. 

The Arizona economy enjoyed a number of years of robust economic and employment growth, but recently Arizona employment has declined in a manner similar to the overall U.S. experience.

The Federal Reserve Bank of Philadelphia reports on leading economic indicators:  the leading indicators for Arizona trend together with the overall U.S. economy, so one would expect Arizona’s outlook to coincide roughly with the overall U.S. outlook, although probably with a lag.

The commercial sector is highly dependent on job creation.  Warehouse and retail space demand depend on consumer expenditures, and people spend much less when the job situation is bleak.  Workers with jobs create the demand for office building space.  Accordingly, given that the current economic outlook is for modest job creation, we are projecting a similarly modest recovery in the commercial real estate sector.  Arizona has experienced a decline in commercial sales similar to the national experience.  Rental rates in both the Phoenix and Tucson area have also declined. 

The Outlook:  U.S. and Arizona

The U.S. economic outlook is for slow growth in GDP, employment and prices over the next year, coupled with continued reasonable interest rates.  The outlook for residential markets appears to be sideways:  projected nationally at 5.1 million existing home sales in 2011, up from 4.8 million in 2010 and down from 5.2 million sales in 2009.  Commercial real estate should also experience a modest recovery, largely dependent on job growth.  The outlook for Arizona is similar, but probably somewhat delayed due to stronger housing declines. 

Conclusions

Residential and commercial real estate recoveries are projected for 2011—both for the U.S. and Arizona.  However, the current outlook is for a weak recovery, for while the economy is no longer in a recession, the economy has had poor job-creation performance.  Accordingly, the good news is that we don’t see economic declines ahead—assuming that we don’t get hit by some of the Black Swans (unknown unknowns) that have flown through the economic skies in the past few years.  The bad news is that the recovery appears to be weak and protracted.

The outlook is based on the expectation of the continuation of federal tax, fiscal and monetary policies as evident in December 2010.  Given that federal policies appear to be central to the future course of the economy at this time, any major policy changes could have a corresponding economic impact. 

 
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