Construction Economic Notes – October, 2012

10/12/2012 by Bernard M. Markstein

Executive Summary

Major developments for commercial construction and the U.S. economy include:

Some Additional Detail on Economic Developments

The United States economy advanced 1.3% (SAAR) in the second quarter, revised down from 1.7%, based on the Bureau of Economic Analysis (BEA) third estimate of real (inflation-adjusted) gross domestic product (GDP) growth. The effects of the drought on the economy and downward revision of nonresidential construction spending contributed significantly to the reduced growth estimate.

The September employment report provided a welcome shot of good news after several dismal reports. Nonfarm payroll employment increased a respectable 114,000 for the month. Also, the July increase was revised up from 141,000 to 181,000, and the August increase was revised up from 96,000 to 142,000. Meanwhile, the unemployment rate fell from 8.1% to in 7.8%. Unlike the most recent drops in the unemployment rate, this time both the number of employed and the size of the labor force increased.

This report is certainly good news and an indication that the economy did not stall in recent months. At the same time, the report must be kept in perspective. The average increase in nonfarm payroll employment for the July-September period was 145,700 per month. This number is decent, but is only in the upper range of the 100,000 to 150,000 increase necessary to absorb new entrants into the workforce and keep the unemployment rate from rising. The economy should be adding at least 200,000 jobs per month and preferably 300,000 to 400,000 on a consistent basis to reduce the large pool of unemployed workers.

Given the good, but still minimal, employment gain, why did the unemployment rate fall? Nonfarm payroll employment and the unemployment rate come from two different surveys. Nonfarm payroll employment is based on a survey of employers: the Current Employment Statistics (CES). Nonfarm payroll employment is an estimate of the number of jobs, based on reports from a large number of private and public employers. The unemployment rate is based on a survey of households: the Current Population Survey (CPS). Over time, the CES and CPS tend to agree, but may diverge in the short-run for a number of reasons:

The benchmark adjustment this year included an upward revision of private employment that was 453,000 (+0.4%) higher, while government employment was revised down 67,000 (-0.3%). Construction employment was revised up 85,000 (+1.6%), but manufacturing employment was revised down 25,000 (-0.2%).

Putting the two surveys together suggests that the employment situation is improving, but we still have a long way to go. Nonfarm payroll employment has increased 4.3 million since the trough in employment in February 2010. At the same time, employment is still 4.5 million below its peak in January 2008. Meanwhile, according to the CPS, since January 2008 the labor force has increased by just under one million. That number would likely be even greater if employment prospects were better.

Given the volatility of the CPS, the drop in the unemployment rate in September to 7.8% could easily be reversed with the October survey.

Nonetheless, positive news beats negative news. The upward revision of both the recent payroll employment numbers and the preliminary benchmark revision—386,000 higher (+0.3%) for March 2012—is an indication of an improving economy. Historically, when the economy is improving, data revisions tend to be positive. Similarly, when the economic growth is falling, data revisions tend to be negative. September’s employment gain may turn out to be even higher than first reported.

Construction spending fell in August. However, the three component groups—nonresidential building, heavy engineering, and residential construction—were up on a year-to-date basis from the same period in 2011. Most of the major subcategories that make up these groups also were up on a year-to-date basis. Heavy engineering is struggling the most, due to reductions in government funding at all levels for maintenance and repair of infrastructure, as well as new projects.

New residential construction continues to be a positive. Both new single-family and multifamily construction spending have generally been increasing for over a year. Single-family construction spending rose 14.5% while multifamily spending was up 16.6% in August on a year-to-date basis.

In August, single-family housing starts jumped 5.5% to 535,000 (SAAR) from July’s 507,000. This marks the fifth month in a row that single-family starts exceeded 500,000. Although single-family housing permits did not change from July, they were 20.3% higher than a year ago on a year-to-date (NSA) basis.

For the sixth consecutive month, the 10-city and 20-city July S&P/Case-Shiller® Home Price indexes were up, both 0.4% (SA) higher than in June. Meanwhile, the 10-city index rose 0.6%, and the 20-city index increased 1.2% on a year-over-year (NSA) basis. Higher home prices improve confidence among prospective home buyers and raise the willingness of lenders to issue mortgages and to extend loans to builders.

August new single-family home sales declined 0.3% to 373,000 (SAAR) following a 3.6% surge to 374,000 the previous month, while increasing 22.5% on a year-to-date (NSA) basis for the same period in 2011. Meanwhile, the inventory of new single-family homes for sale remained at July’s record low 141,000. Given the low level of inventories, builders will have to respond to higher demand with new construction.

Multifamily housing starts dropped 4.9% in August to 215,000 (SAAR) after jumping 4.1% to 226,000 the month before. The 3-month moving average, which smoothes out the sharp monthly fluctuations and provides a better picture of the underlying trend, advanced 3.5% to 219,000. Multifamily starts increased 36.8% on a year-over-year (NSA) basis. The 3-month moving average for multifamily building permits in August decreased 0.3% to 287,000 from July’s 288,000. Year-to-date (NSA), permits were up 41.6%.

The United States economy and commercial construction continue to face significant risks, which include:

  1. Sovereign debt default by a Euro Zone country. The European Central Bank (ECB) has reduced this risk by indicating a willingness to buy member countries’ short-term government debt when reasonable open-market rates are unavailable
  2. Falling off the fiscal cliff(the Bush era tax cuts expire as of January 1, 2013) unless Congress addresses the issue
  3. Federal debt approaching the debt ceiling in early 2013, with no moves to date by Congress to raise the ceiling
  4. A huge spike (50% or more) in oil prices for a prolonged period