ODU Economic Forecasting Team Predicts Modest Growth for Region, Nation in 2014

Gary Wagner presents the national economic forecast. Vinod Agarwal discusses the regional economic forecast. Photos by John Baker

Modest growth, both regionally and nationally, is predicted for 2014 by Old Dominion University's Economic Forecasting Project team.

ODU economists Vinod Agarwal and Gary Wagner delivered the regional and national economic forecasts at the 2014 Economic Outlook Conference on Wednesday, Feb. 5.

Regionally, the economy is forecast to grow by 2.2 percent for the Hampton Roads metropolitan statistical area (MSA). That is a higher rate than the region experienced in 2013, but slower growth than the region's historical annual average of 3.1 percent and slower than that of the nation as a whole.

Agarwal, director of ODU's Economic Forecasting Project and professor of economics, presented the regional forecast.

Nationally, real gross domestic product growth is forecast to be 2.84 percent, slightly above the 30-year average of 2.7 percent. Wagner, professor of economics, presented the national forecast.

ODU's Economic Forecasting Project forecasts are widely respected as an accurate harbinger of the year ahead for the region. Details of the regional and national economic forecasts, as provided by the Economic Forecasting Project team, are below.

ANNUAL 2014 ECONOMIC FORECAST AND ANALYSIS FOR THE HAMPTON ROADS MSA

The Hampton Roads MSA (formerly the Virginia Beach-Norfolk-Newport News MSA) includes Currituck County, Gloucester County, Isle of Wight County, James City County, Mathews County, York County, Chesapeake, Hampton, Newport News, Norfolk, Poquoson, Portsmouth, Surry County, Suffolk, Virginia Beach and Williamsburg.

Real Gross Regional Product (up 2.20%)

The Hampton Roads economy is expected to grow at a higher rate in 2014 than the region experienced in 2013. However, we anticipate that regional growth in 2014 will be slower than our historical annual average of 3.1 percent and slower than that of the nation.

During 2013, we continued to face uncertainty in the national and the local economy due mainly to four factors: (1) across the board spending cuts required by the sequester; (2) the continuing resolutions that funding the Federal Government through March 27 at the same level as 2012; (3) the debt-ceiling crisis; and, (4) the Government shut down.

However, Congress and the executive branch reduced the impact of sequestration on defense spending when they granted Department of Defense flexibility in spending so that it could prioritize its cuts. These actions were quite beneficial to our region.

The region's economy, as measured by Gross Regional Product, expanded at a rate of 1.73 percent in 2013. While Department of Defense spending has continued to provide stability to overall growth in Hampton Roads during the last decade, military spending within the region declined by an estimated $330 million or by 1.71 percent in 2013.

As we begin 2014, there is good news. Congress finally passed the Fiscal Year 2014 budget and appropriations in January 2014, thereby reducing fiscal uncertainty, and providing clarity on federal expenditures at least for the remainder of this year.

The Bipartisan Budget Act of 2013 provides $63 billion in sequestration relief in FY 2014 and FY 2015, split evenly among defense and Non-defense discretionary accounts. Specifically, the Act increases Defense Discretionary Spending from $498.1 billion to $520.5 billion for FY 2014 and from $512.0 billion to $521.3 billion in FY 2015. In addition, Non- Defense Discretionary Spending increases from $469.4 billion to $491.8 billion for FY 2014 and from $483.1 billion to $492.4 billion in FY 2015.

Further, the Act provides an additional $85 billion to Defense Department for its Overseas Contingency Operations. These funds also include $6 billion in procurement funds spread across the Department of Defense. In addition, Military personnel and Federal Civilian Workers will receive a 1 percent salary increase in FY 2014. We expect that above actions will result in an overall increase in defense expenditures in Hampton Roads during 2014.

Increased defense spending in Hampton Roads and a growing national economy will be major factors affecting regional growth in 2014. Other important changes in 2014 likely to raise regional income in Hampton Roads include growth in port activity, growth of the health care industry, and increases in tourism spending.

Employment: Non-Agricultural Civilian Employment, +1.5%, and the Unemployment Rate for the Civilian Labor Force will be 5.3%

Annual civilian employment is expected to increase by about 11,400 jobs during 2014. Employment growth is likely to be concentrated in firms providing professional and business services, construction, leisure and hospitality, and health care services.

The Hampton Roads economy created about 45,000 net new jobs during the period from 2001 to 2007, or about 7,500 net new jobs annually. Unfortunately, from 2007 to 2010, the recession and its aftermath were responsible for the loss of an estimated total of 40,000 civilian jobs in Hampton Roads. The regional economy has been able to recover only 23,500 jobs since 2010. Even with the expected gain in jobs in 2014, annual civilian employment in Hampton Roads will still be below the peak level of employment observed in 2007.

We expect the region's unemployment rate to fall from 5.9 percent in 2013 to 5.3 percent in 2014.

Retail Sales (Taxable Sales, 3.6%)

Taxable sales include all retail sales except new automobile registrations and gasoline sales. Compared to the pre-recession peak in 2007, retail sales in Hampton Roads fell by 8.6 percent in 2009 and continued to decline slightly, -0.2 percent, during 2010.

However, retail sales began to recover in January 2011. Nevertheless, despite the growth in retail sales observed since 2010 - an average growth 3 percent for each of these years - retail sales are still about 0.6 percent below their peak in 2007.

Retail sales in the region are expected to grow by 3.6 percent in 2014 over the levels observed in 2013. Growth in regional economic activity, rising incomes, consumer confidence, fiscal stability, and the increase in wealth of households are all expected to result in positive growth in taxable sales.

Tourism (Hotel Room Revenue, 2.4%)

Sequestration, budget uncertainty and the resulting substantial decreases in travel by Federal employees, especially military personnel and defense contractors, have had a negative effect on the performance of the hotel industry. As a result, during 2013 hotel revenues decreased by 1.3 percent. The hotel industry has not yet been able to recover from the great recession. Hampton Roads Hotel revenue in 2013 is still 6.8 percent below the peak observed in 2007.

Within Hampton Roads, the Williamsburg market was the only sub-market in Hampton Roads that saw a small positive growth in its revenue. Williamsburg also happens to be the market that relies least on travel by federal employees. It appears that marketing efforts of Williamsburg lodging industry have begun to pay off.

Moderate increases in federal travel, increases in per diem rates for Hampton roads, positive growth in the national economy - particularly in Hampton Roads' main tourist market states - a continued slowdown in additional supply of hotel rooms, and appreciation of the Canadian dollar will contribute to higher tourism revenue.

Port (General Cargo Tonnage, +4.8%)

As part of the down cycle in international trade created by the great recession, the Port of Hampton Roads experienced a decline in general cargo tonnage of 16.4 percent in 2009, compared to 2008. Twenty-foot equivalent container Units (TEUs) declined by almost the same percentage. This decline was likely not a result of structural problems with the port, but rather that the economic downturn was spread globally. The port saw a modest increase in both general cargo tonnage and TEUs during 2010 and 2011, and a substantial growth in 2012. General cargo tonnage and TEUs during 2012 increased by 12.2 percent and by 9.8 percent, respectively.

General cargo tonnage and TEUs have continued to increase in 2013 by 7.5 percent and 5.6 percent, respectively. Tonnages as well as TEUs handled at the port have increased above their peaks observed in 2008 and 2007. In addition, the port's share of TEUs handled on the east coast ports has been increasing since 2011; its share in 2013 exceeded its peak in 2007.

The port has gone through a transition as it prepares itself to improve its relative competitiveness, especially with other east coast ports. Norfolk Southern's Heartland Corridor, its service to Greensboro, and CSX Corporation's on-Dock rail services at the Portsmouth APM terminal have contributed to its growth in 2014. Other major factors that contributed to its growth were larger ships calling at the port, our access to round-the-clock deep water, and additional business generated by the region's economic development efforts, both in terms of business expansions and new firms. These factors will spark the growth of the port in the coming year.

Housing (Value of Single Family Housing Permits, +7.9%)

The residential construction industry in Hampton Roads is expected to continue to grow in 2014. Several factors, most significantly a relatively small inventory of existing homes in the market, but also a small inventory of new construction homes, and lower new home prices, should help prompt this growth. For example, the median price observed for newly constructed homes in 2013 was $273,950, or 21.7 percent lower relative to its peak in 2006. Likewise, by 2010, the number of newly constructed homes declined from its peak of 4,969 homes sold in 2002 to 2,265 homes sold in 2010, a 54.4 percent reduction.

Despite the fact that sales of newly constructed homes have been rising since 2010 (sales volumes have increased by 27.1 percent from 2010 to 2013), current sales levels are still about 42 percent lower than those in 2002. Relatively low mortgage rates and smaller homes, along with continued moderate prices, should have a positive effect on the new homes market.

Hampton Roads' existing residential housing market has been improving since April 2012. All indicators point to a continued improvement in this market for 2014. These include: a rising volume of sales, a smaller inventory of homes in the market, a decrease in number of days on the market, and low mortgage rates. Measures of supply and demand indicate that it would take approximately 5.3 months to clear the existing inventory based on the current absorption rate. This is below its historic average of 5.6 months. Likewise, supply of new construction homes currently is at 6.7 months, its historic average since 1996.

Even so, we continue to be concerned with the volume of distressed homes in the local residential market. Distressed homes, whether measured in sales as a proportion of all existing homes sold, or in listings as a proportion of listing of existing homes currently on the market, continue to represent a significant proportion (nearly a fourth) of the residential market activity.

Although mortgage interest rates are at relatively lower levels and household income in the region is recovering, relatively tight home loan requirements, and a large proportion of distressed market activity are likely to mean a modest recovery in the Hampton Roads residential real estate market during 2014.

Real GDP (2.84%)

Real Gross Domestic Product (GDP) is forecasted to grow at an annual rate of 2.84% in 2014, which is slightly above our 30-year average growth rate of 2.7%. Following the below-average growth we experienced in 2013, the production of goods and services in the coming year is projected to expand at its highest rate in nearly a decade.

While the recovery in labor markets has remained sluggish since the end of the 'Great Recession' in June 2009, access to credit and household balance sheets improved considerably in the past year. Nationwide, both the ratio of household debt-to-income and the ratio of all household financial obligations-to-income are near 30 year lows. Household debt levels also rose by 1.1% between the second and third quarters of 2013, which was the first substantial increase since households began deleveraging in 2008. The increase was widespread across major categories of household debt including mortgages, auto loans, credit cards, and student loans. Combined with an improved outlook for the future, we expect consumer spending to accelerate and to be one of the primary drivers of economic growth in the coming year.

Generally, firms remain on solid ground. Fueled by historically low interest rates, commercial and industrial loans recently surpassed their pre-recession levels of 2009 and have helped reinforce business spending over the past two years. Purchases of computer, industrial, and transportation equipment have been particularly strong in recent quarters. Residential construction has also rebounded sharply from the crisis with annual growth rates in excess of 10% in each of the past two years. Although business spending is expected to remain solid in 2014, it should moderate because of changes in Federal Reserve policy.

Little is expected to change in the area of US exports and imports in the coming year. Although China's and Japan's economies are projected to slow, the majority of our principal trading partners are expected to experience slight-to-moderate expansions in growth in 2014. In particular, the sovereign debt crisis appears to have stabilized and much of the European Union, including their four largest economies, is expected to emerge from the stagnation of the last few years.

Finally, the government sector, led primarily by state and local government consumption and investment, is also expected to boost real GDP growth in 2014. State and local government revenues finally surpassed pre-recessions levels in 2013, so this sector should contribute positively toward growth for the first time in years. The recently passed 2014 fiscal year Federal budget provides limited sequester relief that should also provide a minor lift to growth.

Payroll Employment (1.75%)

Employment growth nationally should continue at roughly the same pace we have experienced over the past 3 years. The 1.75% projected growth rate translates into a gain of more than 2.4 million payroll jobs in 2014. At the projected pace, the total number of payroll jobs in 2014 will surpass our pre-recession high of 138 million jobs set in January 2008.

Unemployment Rate (6.3%)

The unemployment rate is expected to decline throughout 2014, with the reductions occurring more rapidly early in the year and slowing in the second half of year. Long-term unemployment and the U6 unemployment rate, which measures individuals who have dropped out of the labor force over the past 12 months and individuals who are employed part-time due to the economy, both continued their improvement that began in late 2012. Long-term unemployment, which is the fraction of unemployed workers who have been unemployed for more than 26 weeks, remains stubbornly high at 37.7 percent. Labor force participation rates have also not rebounded since the end of the recession and continue to fall, indicating the underlying weakness in labor markets.

Consumer Price Index-U (1.64%)

Consumer Price Index Core (1.94%)

Inflation, measured by the Consumer Price Index (CPI) and CPI-Core (which excludes food and energy), is expected to remain at or slightly below the Federal Reserve's target of 2%. Despite the potential risks resulting from the unconventional monetary policy of the past few years, inflation expectations remain firmly grounded. Furthermore, excess capacity in the economy and the continued underutilization of labor will also keep inflation threats low in the coming year.

Three-Month Treasury Bill Rate (Year Avg. 0.15%)

Ten-Year Treasury Note Rate (Year Avg. 3.26%)

30-Year Conventional Mortgage Rate (Year Avg. 4.74%)

Improving economic conditions over the past year have led to the first major shift in Federal Reserve policy in recent years. Starting in January 2014, the Federal Reserve will begin "tapering" or reducing quantitative easing (QE) purchases of mortgage-backed securities and longer-term Treasury securities by $10 billion per month. This should lead to higher middle and longer term interest rates. Therefore, the 10-year Treasury bond rate and the 30-year conventional mortgage rate are expected to increase by 80 and 66 basis points respectively in 2014. Short term interest rates, such as the 3-month Treasury bill rate, should remain much closer to 2013 levels because the federal funds target range of 0 to 0.25% is likely to remain unchanged this year.