Eye on the Economy for May 13, 2010

Output and Job Growth Precede Housing Recovery

Employment in April increased by 290,000 jobs at a seasonally adjusted rate. On top of an upward revision for March of almost 70,000, this marked the fourth month of job growth and the largest increase since March 2006.

The added jobs in April included 80,000 in professional and business services, 45,000 in leisure and hospitality and 44,000 in manufacturing as well as the Census Bureau’s addition of 66,000 temporary decennial census workers in April and 48,000 in March.

As is typical at the beginning of a recovery, the gains on the employment front were not registered in the unemployment rate, which increased to 9.9% as news of hiring brought discouraged job seekers back into the market.

NAHB is forecasting that employment will continue to move to higher ground throughout 2010 and 2011, though not necessarily at April’s torrid pace. The unemployment rate is nearing a peak and by year’s end is expected to be around 9.3%.

Employment stability and job growth are keys to a housing recovery, alleviating the fears of existing workers that they will lose their paycheck and significantly improving the financial wherewithal of re-hires — both of which will boost the confidence of households that it is now safe to consider buying a home.

Gradual improvement in the employment picture provides the final ingredient needed to spur demand and launch a full-scale housing recovery as relatively low mortgage interest rates and house prices keep affordability at attractive levels.

Construction employment, in the meantime, has been turning in a mixed performance, with 10,900 residential construction jobs lost in April, up from 10,100 job losses in March, but a 15,400 increase in April’s non-residential construction jobs. The overall unemployment rate for construction climbed 1% to 20.3% in April.

The Economy Continues to Advance

Real gross domestic product (GDP) grew at a healthy 3.2% pace in the first quarter, the third consecutive quarter in which the U.S. economy was on the mend. Personal consumption expenditures, investment — primarily in rebuilding inventories and in equipment and software — and exports were the major drivers of growth.

Residential construction, which provided a lift to GDP growth in the third and fourth quarters of 2009, was a minor drag in this year’s first quarter, reducing growth by 0.3%. Though down from the fourth quarter’s 5.6% growth rate, the economy is still expanding at a strong enough pace to create jobs faster than population growth is adding to the labor force, a trend that is expected to continue.

The employment situation will also improve as companies see the opportunity to increase output. In the early phase of a recovery, productivity growth is customarily high as businesses meet rising demand by getting more work out of their current employees, such as retail clerks who were previously waiting on an average of two customers an hour are waiting on five as business picks up.

Companies can also bring back on line or speed up idle or underutilized machinery. However, as the recovery continues, these opportunities become harder to find and firms must then hire more workers in order to increase output, reducing productivity growth.

What is occurring now is following this familiar pattern. Productivity growth in this year’s first quarter fell to a rate of 3.6%, down from 6.3% in last year’s fourth quarter, which was down from 7.8% in the third quarter. Nonetheless, first quarter growth still exceeded the post-World War II average of 2.3% leading into this recession and the 2.8% for the 10-year period prior to its start.

Residential Construction Story Is Still Mixed

The slow but steady improvement in construction activity is showing up in the data for the value of construction put in place, including the seasonally adjusted annual rate of single-family construction rising 1.6% in March from February and 17.2% from a year earlier.

In sharp contrast, multifamily construction continued its dramatic slowdown in March with a 6.3% decline from February and a precipitous 58.1% drop from a year earlier.

Though down 3% from February, remodeling expenditures for improvements in March were up 8.1% in the first quarter from a year earlier.

The combination of a growing economy, slow improvement in single-family home building, stabilization of multifamily construction and continued expansion of the remodeling market will enable residential construction to once again emerge as a net contributor to the economy.

Rays of Hope for Real Estate Financing?

A pivotal question remains: Are lenders beginning to consider lending to real estate a good proposition once again?

The Federal Reserve’s Senior Loan Officer Opinion Survey on Bank Lending Practices at Selected Large Banks released in April suggests that there is light at the end of the tunnel. The latest survey showed that only 2% of the banks were tightening on prime mortgage lending, down from a peak of 74% in the July 2008 survey, and 5% were tightening on non-traditional (Alt-A) mortgages, compared to a peak of 90% in the Octover 2008 survey.

At the same time, net tightening for commercial real estate loans fell from a peak of 87% in the October 2008 survey to 13% in the current survey.

Interest rates for conventional 30-year fixed rate mortgages continue to hover in the 5% range, where they have been for most of the year. Most recently, mortgage rates have been benefiting from the flight to U.S. debt instruments resulting from concerns over Greece and other countries in the Euro currency union. Further, even with the Federal Reserve no longer purchasing mortgage-backed securities, investor demand for mortgages continues to be strong, keeping rates low.

A Break in Lumber Prices?

After eight weeks straight of price increases for framing lumber in which the Random Lengths composite price rose from $303 per 1,000 board feet in early March to $367 in late April, a 21% increase, prices fell in the first week of May to $358. This may be the first indication that lumber supply is beginning to increase to meet the rise in demand and to take advantage of higher prices.

Reports indicate that logs are flowing out of southern forests once again and that some sawmills have increased production. Also, several fingerjoint moulding and panel plants in Chile that had been damaged by the February earthquake have resumed production and shipments to the U.S., while others are slated to come back online over the next several weeks.

The lumber market in May is also seeing a reduction in export fees and higher quotas for Canadian lumber exports to the U.S. as a direct result of higher prices in March and April, under the Softwood Lumber Agreement (SLA). Based on continued high prices in April and May, all quotas and export fees on Canadian lumber will be eliminated for the month of June, with the exception of an extra export fee imposed on some provinces for a previous violation of the agreement.

The one remaining impediment to a greater supply of lumber and lower prices is a shortage of trucks to transport the material. Beyond that, lumber prices still could be on a roller coaster as export fees and quotas are adjusted each month according to the SLA formula based on previous weeks’ prices.