ECONOMICOUTLOOK (continued from page 35)
It was the housing bubble that helped propel the economy in the early 2000s and it was the popping of that bubble that precipitated the painful recession. Residential construction spending peaked ahead of the recession and fell precipitously throughout the recession. Single-family construction spending peaked in first quarter 2006. Multifamily construction spending did not peak until fourth quarter 2006 as projects underway were completed and projects that had already secured their funding proceeded despite the deteriorating economic landscape. The main change for multifamily projects was reconfiguring condo projects to apartment projects. With the housing market now on the upswing, residential construction is finally taking on its traditional role as one of the forces that boosts the economy in the early stages of a recovery. The Reed forecast is for the economy to perform somewhat better in 2013. Reed forecasts real GDP to grow 2.3% in 2012 and advance 2.7% in 2013. Nonresidential building construction bottomed in first quarter 2011 as the improving economy increased demand, encouraging businesses to revive abandoned projects, refurbish and upgrade neglected buildings and production facilities, and invest in new projects. Since much of nonresidential construction is tied to developments in residential construction, the revival of the housing market and residential construction has given businesses additional incentive to invest in new plant and equipment, propelling nonresidential construction activity upward. Continued improvement in housing is one of the factors in our positive outlook for this sector. Heavy engineering construction continues to struggle with the challenge of reduced government funding. Some of the slack is being picked up by public/private partnerships. Also, businesses are involved in some heavy construction activity (e.g., connected to extraction of oil and natural gas through fracking). Total construction spending is projected to rise 8.3% in 2012 and 7.7% in 2013. The nonresidential construction spending part is forecast to increase 5.2% in 2012 and 4.2% in 2013. Heavy engineering construction spending is forecast to increase 7.2% in 2012 and 4.7% in 2013. It is residential construction that will show the biggest gains, though from a low base. New residential construction spending, which excludes improvements, is forecast to increase 18.4% in 2012 and 19.7% in 2013. Unfortunately, this forecast is not assured. The forecast faces some serious risks. These include the following. • A European debt default. A European debt default would ripple through the financial markets hurting banks around the world. A single default, such as by Greece, would likely put pressure on other weak countries, such as Spain or Italy. That could throw all of Europe into recession (several countries already are in recession) and pull the U.S. into recession as well. However, European policymakers are unlikely to allow a debt default to occur given the threat to their economies. A Greek debt default would prove most tolerable, but even that probably represents too great a risk as it could quickly spread, spinning out of control.
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• Dissolution of the euro. This is less of a threat to the U.S. or Europe, but would still hurt both economies. A total abandonment of the euro by Europe is unlikely. But one or more countries could abandon the euro or be pushed out by other countries, with Greece the most likely candidate in both cases. • The fiscal cliff (tax rates jumping on January 1 and drastic cuts to many federal programs, agencies, and departments). The rhetoric has been flying, with hopes rising and falling with each politician’s statement. Despite the rhetoric there does seem to be the possibility of a resolution since failing to successfully resolve the issue is a big risk for both political parties. Nonetheless, the possibility of no immediate resolution and going over the fiscal cliff for several weeks to a month or two remains. To date, the failure to work out an agreement has disquieted the financial markets and added unneeded uncertainty to business planning. • The debt ceiling. The federal debt continues to rise, pushing it towards the debt ceiling. Hitting the debt ceiling would be disruptive to federal government operations and cause turmoil in financial markets. On the positive side, there is talk of including a higher debt ceiling with legislation addressing the fiscal cliff. However, this is yet another chance for both political parties to play chicken with the threat of an unnecessary disruption to the functioning of the federal government and yet again injecting uncertainty into the business environment. • Higher energy prices. Oil prices have stabilized of late. Nevertheless, the perennial threat of a sharp increase in oil prices (50% or more) and staying there for several months remains. Such an increase in energy prices for a prolonged period would send the U.S. economy into recession. Many of these factors are already adversely affecting businesses, reducing their willingness to invest and slowing economic growth. Were one or more of the worst cases outlined to come to pass, then the U.S. economy would fall into recession. Reed Economics is reasonably confident that the worst case scenarios will not occur. However, the risk of recession from these events remains.