Casualties of the stalemate in the Middle East now include the U.S. economy, which appears to be sinking rapidly into a recession, with housing, as usual, on its leading edge, economists said at the National Association of Home Builders' recent 41st semi-annual construction forecast conference.
Analysts speaking at the conference sponsored by NAHB's Economics and Housing Policy Department and the National Council of the Housing Industry confided that they were in a quandary: nobody knows how the conflict with Iraq will be resolved, making it difficult to predict how high a toll will be exacted by oil prices, a decisive factor in today's incipient downturn. And they reminded their audience of a consensus only six months ago that the domestic economy would narrowly avoid a slump by easing instead into a "soft landing."
With Saudi Arabia and Venezuela picking up most of the slack now that oil fields in Iraq and Kuwait have gone fallow, Michael Canes, vice president of statistics, analysis and information services for the American Petroleum Institute, was optimistic that prices would moderate. However, he also warned that refineries were running at near capacity, fueling speculation over prices.
Closer to home, the credit crunch for acquisition, development and construction (AD&C) loans continues to devastate many of the nation's builders. But speakers at the forecast conference tended to discount builders' financing troubles as the most important cause of reduced housing production at a time when consumers, faced with spiraling energy costs at the gasoline pump and rising unemployment rates, are glum and markets for housing and other big-ticket items are consequently soft.
However, as the economy begins to pick up steam again, probably toward the end of next year, and if the AD&C crisis remains unresolved, there could be a shortage of developed lots, performance in the housing sector could be less robust, and the home buying public may start getting a taste of the bitter medicine that banking regulators have been inflicting upon home builders since early last spring.
Adding further to consumer reluctance in the housing market, analysts said, have been media reports of an imminent collapse in housing prices. Those forewarnings have been soundly debunked by the Harvard Joint Center for Housing Studies and other authorities in the field, and conference panelists reported a healthy long-term outlook for home prices despite some short-term price adjustments in over-heated markets.
Economists also looked warily upon the Herculean task of putting the nation's savings and loan and banking systems back in order, suggesting that unforeseen developments in that area could exacerbate the economic downturn.
For the most part, conference participants agreed that the deficit accord reached last month by the Congress and the Bush Administration would take some fuel out of the economy in the near term. Although no one disputed that the deficit package was based on faulty economic assumptions and was therefore likely to take a significantly smaller bite from the deficit than its face value of $500 billion, the plan was generally expected to lead to a better mix of fiscal and monetary policies.
Panelists agreed that the Federal Reserve Board would set easier monetary policies as economic growth slackens and the unemployment rate pushes away from its current level of about 6 percent and heads toward the 7 percent mark. The Fed's policies were expected to produce some noticeably lower short-term interest rates but very modest declines in long-term rates, leaving fixed-rate mortgages not too far below their current 10 percent level next year.
"The anatomy of this recession is quite unusual," said David Seiders, chief economist of NAHB and senior staff vice president of economics, mortgage finance and housing policy. Inventories in the business sector have been low and will account for no more than one-fourth of the decline in output compared to two-thirds in a more typical recession. A weak dollar has bolstered the export sector. And the consumer sector, which normally "rides on through with slower, positive growth, will be a net negative."
Seiders described housing as "the weakest part of the economy," with the multi-family housing industry already in a bona fide and deep recession and single-family starts on the verge of dipping to recessionary levels that will not be as low as in earlier cycles.
NAHB has forecast that production will bottom out in the first quarter of next year at an annual rate of 1 million units and improve gradually thereafter, reaching a rate of 1.269 million units in the final quarter.
From Donald Straszheim, chief economist, Merrill Lynch Capital Markets, came the consoling view that "there is not much more down side to go on housing...the damage has been done."
Straszheim noted that there is "a very high variance in the forecast because we don't know how banking problems are going to work their way through the economy."
Especially troublesome for banks are outstanding commercial real estate loans in markets such as Boston, where vacancies are at record levels and projects under construction will add yet more unneeded space. He said that problems would get far worse in the Northeast but he had positive things to say about Florida and Texas.
Straszheim forecast that the cost of oil would average $27 a barrel in the first quarter of 1991 and $23 in the second quarter, but conceded that the actual cost "could be $16 or $66."
"We're having our Houston on Wall Street," he added, because of too much capacity in the financial services industry.
The most optimistic forecast presented during the conference, was made by Larry Kimbell, group senior vice president for the WEFA Group. Kimbell called for a downturn lasting only two quarters and "half as deep as the mildest recession on record." He said that plunging oil prices would add to consumers' purchasing power by the middle of next year.
"The outlook for interest rates should be for improvement," said Mike Moran, chief economist for Daiwa Securities America, Inc. But he added that the foreign sector could pose a "serious challenge" to attaining those lower rates as Japan and others shift their investments out of U.S. debt securities to follow more attractive opportunities in countries like Germany. Counterbalancing that trend, U.S. commercial banks have reduced their lending in foreign countries, he said.
If long-term interest rates do fall, it will be because the nation's credit demands in recession are low, despite ballooning federal deficits, Moran said. Because of slow revenue growth and an increase in unemployment outlays, the deficit will reach $250 billion during the current fiscal year, up from $220 billion last year and $150 billion in the three preceding years.
With short-term interest rates expected to fall more significantly than long-term rates, Robert Van Order, chief economist for Freddie Mac, predicted that Adjustable Rate Mortgages (ARMs) could start heading from their current 30 percent share of the mortgage market towards 40 percent. Interest rates charged on ARMs are tied to short-term rates. The spread between fixed-rate mortgages and ARMs recently has been roughly 2 percent.
On the one issue that has caused the greatest pain to builders, the impact of FIRREA legislation on the availability of funds for AD&C financing, Barbara Alexander, managing director, Salomon Brothers, said that she had expected the credit crunch to be the "key" incipient culprit holding down housing activity," but that she hadn't counted on "the missionary zeal of the regulators" in trying to force banks to curb their real estate lending.
During the 1984 to 1989 period, Alexander said, real estate-related loans grew from 24 percent to 37 percent of bank portfolios, accounting for two-thirds of the banking system's entire lending growth. Regulators would like to see a 30 percent of assets levels, she said.
The clampdown has not been entirely unwarranted she added: during the first eight months of this year, there has been a 31 percent increase in non-performing real estate loans at the 35 banks Salomon Brothers monitors on a regular basis.
"This (housing) industry is getting a pounding from the crimes and misdemeanors of others," Alexander said. "And it's hard to see how it won't get worse before it gets better."
With AD&C funds scarce, Alexander warned that once the existing housing inventory is sold off, probably by sometime late in 1991, "then supply constraints will kick in for real and they will be very constraining."
Alexander also cautioned that banks may be getting ready to quietly tighten up on home equity loans for major remodeling jobs. She predicted that housing production would be under 1 million units in 1991.
"We are aware of the credit crunch problem," said John C. Weicher, assistant secretary for policy development and research for the Department of Housing and Urban Development, "and we are trying to strike a balance between financial soundness and public needs."