National, Regional Economic Forecasts Presented by ODU Economists
January 27, 2016
Vinod Agarwal delivers the Economic Forecasting Project regional forecast for 2016
An audience of more than 300 community and business leaders at Old Dominion University's Economic Outlook Conference, in Norfolk, were told to expect a "rollercoaster" in 2016.
During the Jan. 27 event at the Norfolk Marriott Waterside, Chip Filer, associate professor of economics in Old Dominion's Strome College of Business, suggested the national economy would be volatile in 2016 - shaped by uncertainly in oil prices, a sudden slowdown in industrial activity in the last quarter of 2015 and unexpected events such as last week's giant East Coast snowstorm.
"There are going to be parts through the year where we're going to want to bash our heads through the wall," Filer said. However, he added that forecast job and wage growth will allow the economy to weather those difficulties, and predicted annual growth of just over 2 percent.
Vinod Agarwal, director of ODU's Economic Forecasting Project, which has produced the respected annual forecast for more than 20 years, said national economic effects are bound to be felt in Hampton Roads.
"We might have a rocky start as a nation, and if we do, it will filter into the local economy," he said.
In his luncheon presentation, Agarwal said the Hampton Roads economy is still feeling the effects of sequestration, with reductions in defense spending keeping the local economy from recovering all the jobs lost in the recession and its aftermath, from 2007 to 2010.
"We need to figure out a way of diversifying our economy. We have to somehow reduce our dependency on defense spending and the government sector," Agarwal said. The Economic Forecasting team is projecting the regional economy to grow by 1.59 percent in 2016, trailing national growth.
The economic outlook conference, sponsored by ODU's Economics Club of Hampton Roads, is respected for its objective, data-driven analysis of the regional and national economy. It is a reliable decision-making guide for policymakers and business leaders throughout the year.
The annual Economic Forecast, along with the annual State of the Region Report and new-in-2015 State of the Commonwealth Report, comprise the major elements of Old Dominion's new Center for Economic Analysis and Policy that undertakes a wide range of economic, demographic, transportation and defense-oriented studies.
Below are the regional and national forecasts released by Old Dominion University's Economic Forecasting team. The forecasts, along with the presentations by Agarwal and Filer, are available on the Economic Forecasting Project website.
ANNUAL 2016 ECONOMIC FORECAST AND ANALYSIS FOR THE HAMPTON ROADS METROPOLITAN STATISTICAL AREA (MSA)
The Hampton Roads MSA (formally the Virginia Beach-Norfolk-Newport News MSA) includes Currituck County NC, Gates County NC, Gloucester County, Isle of Wight County, James City County, Mathews County, York County, Chesapeake, Hampton, Newport News, Norfolk, Poquoson, Portsmouth, Suffolk, Virginia Beach and Williamsburg.
Real Gross Regional Product (up 1.59 percent in 2016)
The Hampton Roads economy is expected to grow at a slightly higher rate (1.59 percent) in 2016 than in 2015 (1.14 percent). But regional growth in 2016 will continue to be slower than our historical annual average of 3.1 percent and slower than that of the nation. Whereas the real U.S. GDP grew by a total of 8 percent from 2010 to 2014, Hampton Roads' real GRP grew by only 1.6 percent during the same period.
The region's economy, as measured by Real Gross Regional Product, expanded at an estimated 1.14 percent in 2015, and we experienced negative growth of 0.14 percent in 2014. The primary reason that economic growth has been sluggish in Hampton Roads during the past few years is the slowdown in Department of Defense (DOD) spending. Between 2000 and 2012, DOD spending in the region increased annually at a rate of 5.65 percent, compounded. However, DOD expenditures in 2016 are anticipated to be 2.8 percent lower than the peak observed in 2012.
The two-year budget that Congress passed for fiscal year 2016 (Oct. 1, 2015 through Sept. 30, 2016) and fiscal year 2017 did reduce the economic uncertainty that has plagued defense spending, and therefore our region. However, unless this budget agreement is extended, we will return to the edge of the economic cliff in fiscal year 2018.
The two-year budget passed by Congress provided $50 billion in sequestration spending relief in FY 2016 and $30 billion in FY 2017, split evenly among the defense and non-defense discretionary accounts. As a result, the discretionary defense spending cap for the nation increased from $521.3 billion in FY 2015 to $548.1 billion in FY 2016, an increase of 5.14 percent. Unless Congress takes further action on sequestration, the discretionary spending cap will increase by only $3 billion during FY 2017.
At the regional level, we expect defense spending to increase slightly during 2016. Sequester relief for FY 2016 will lead to increases in total military and civilian compensation and in procurement contracts. The economic effects of the latter are more likely to be seen in 2017 and beyond. However, the pattern of sequester relief provided by Congress every two years, in the recent past, may have created a new business cycle for firms and companies that have DOD contracts. Especially at local shipyards, we are likely to see periodic announcements of layoffs and rehiring of laid off employees. Layoffs at shipyards such as BAE are also driven by a drop in the number of surface-combatant ships - destroyers, cruisers and amphibious assault ships - that port in Hampton Roads, as well as a delay in their modernization programs.
The Hampton Roads economy has been and continues to be heavily dependent on DOD spending. Its dependence decreased from 48.8 percent to 33.5 percent during the 1990s, and currently is 39.2 percent, after peaking more recently at 44.4 percent in 2011. This is a movie we have seen before and it involves often painful economic readjustments as resources and people move from one activity to another. The difference this time is that the private sector in our regional economy has not taken up the slack as it did during the 1990s defense spending drawdown. Currently, the total number of private sector jobs in Hampton Roads is about 15,000 below the peak we enjoyed in 2007.
Even the slight increases in defense spending in Hampton Roads we anticipate over the next two years will help regional economic growth. However, other important changes in 2016 likely to raise regional income in Hampton Roads include growth in activity at the Port of Virginia, an expanding health care industry, continued lower gasoline prices and increases in tourism spending.
Employment: Non-Agricultural Civilian Employment (+0.94 percent in 2016) and the Unemployment Rate for the Civilian Labor Force (4.30 percent in 2016)
Annual civilian employment in our region is expected to increase by about 7,100 jobs during 2016. Employment growth is likely to be concentrated in firms providing professional and business services, construction, leisure and hospitality and health care services.
Between 2001 and 2007, approximately 45,000 net new jobs were created in Hampton Roads, an average of 7,500 annually. Between 2007 and 2010, the recession and its aftermath were responsible for the loss of an estimated 40,000 civilian jobs in Hampton Roads. The regional economy has been able to recover only 25,000 of those jobs since 2010. Even with expected gain in jobs in 2016, annual civilian employment in Hampton Roads will still be significantly below the peak level of employment observed in 2007.
Further, it appears that many of the jobs lost due to the recession were in occupations that paid relatively higher wages. Jobs created or gained since then frequently have been relatively lower paying. Thus, the changing mixture of jobs in our region has not been favorable and is a phenomenon that decision-makers should not ignore.
Examination of the annual data on jobs through 2015 show that while we continue to struggle in creating jobs, metro areas just south of us in North Carolina have continued to add significant numbers of jobs. Northern Virginia and Richmond are the only major metro areas in Virginia that have created large numbers of jobs.
We expect the region's unemployment rate to fall from 5.07 percent in 2015 to 4.30 percent in 2016. Our region's unemployment rate has declined since 2010. Unfortunately, we also have seen declines in labor force participation. This means that many individuals have dropped out of the labor force and therefore are not counted as being unemployed. The reasons for this are not yet clear, but perhaps can be attributed to discouraged workers, changing demographics, a more generous social safety net and rising worker disability claims.
Retail Sales (Taxable Sales, +3.60 percent in 2016)
Taxable sales include all retail sales except new automobile sales and gasoline sales. Compared to their 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 slowly in 2011 and in 2014 retail sales were 1.8 percent higher than their 2007 peak level. It took our economy eight years to recover the loss in retail sales we experienced after the Great Recession. Retail sales did increase at a decent pace (an estimated 3.5 percent) in 2015.
Retail sales in the region are expected to grow by 3.6 percent in 2016. Continued lower gasoline prices, 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, +4.20 percent in 2016)
During 2015, hotel revenues increased by 6.5 percent and finally recovered completely from the great recession. Hampton Roads hotel revenue in 2015 was 4.6 percent above the peak observed in 2007. Factors contributing to higher tourism revenue during 2015 were moderate increases in federal travel; lower gasoline prices; lower heating oil prices in the Northeast; positive growth in the national economy, particularly in the Hampton Roads' main tourist market areas; and a continued slowdown in additional supply of hotel rooms. However, in "real," price adjusted terms, hotel revenues at the end of 2015 still were about 10 percent below those in January 2007.
Last year was also good for the hotel industry in Hampton Roads, compared to its lackluster performance from 2007 to 2013. The industry in Hampton Roads saw its growth in Revenue per Available Room (REVPAR) match or exceed the performance of the industry in the Commonwealth and nation.
Within Hampton Roads, during 2015, Williamsburg was the submarket that saw the largest positive growth, regardless of the hotel performance measure used - hotel revenue, occupancy rate, or revenue per available room. Williamsburg finally gained some market share as well; its regional hotel market share increased from 17.6 percent in 2014 to 19.4 percent in 2015. By contrast, Virginia Beach saw an unusual decrease in its market share from 41.3 percent in 2014 to 39.6 percent in 2015.
Factors contributing to higher tourism revenue during 2016 will continue to be the same as those observed during 2015. We expect to see moderate increases in federal travel; historically low gasoline prices; lower heating oil prices in the Northeast; positive growth in the national economy, particularly in the Hampton Roads' main tourist market areas; and a continued slowdown in number of additional hotel rooms in Hampton Roads.
Port (General Cargo Tonnage, (+2.70 percent in 2016); TEUs, (+4.80 percent in 2016)
As part of the downturn in international trade that occurred during the great recession, the Port of Hampton Roads experienced a decline in general cargo tonnage of 16.4 percent in 2009. Twenty-foot equivalent container units (TEUs) declined by almost the same percentage. This decline was not a result of structural problems with the port, but rather due to the global economic downturn. The port saw a modest increase in both general cargo tonnage and TEUs during 2010 and 2011, and a substantial rebound in 2012, 2013, and 2014.
General cargo tonnage and TEUs continued to increase in 2015; by 4.8 percent and 6.5 percent, respectively. However, excluding the movement of empty containers, loaded TEUs increased by only 1.2 percent. Reasons for the slower growth in loaded TEUs include a loss of some business due to congestion issues at the port, expiration of contracts with incentives, creation of the M2 pact between Maersk and Mediterranean Shipping that diverted some Maersk traffic to Baltimore, no diversion of cargo from other ports because of labor problems in 2015 and a decline in grain exports due to restrictions on dry distillers grains (DDGs) imposed by Chinese government.
Nevertheless, the port continues to set record volumes in TEUs as well as in tonnage. Tonnage and TEUs handled at the port in 2015 are 12.7 percent and 19.8 percent higher than their pre-recession peak levels. During 2015, all segments of the port's business - truck, barge and rail - increased significantly. Average TEUs per container vessel call continue to grow and increased by 21.8 percent from 2011 to 2015.
The port has gone through a transition as it has attempted to improve its relative competitiveness, especially with respect to other East Coast ports. At the same time, the port has also focused on improving its operating efficiency. Consequently, it has reduced its losses significantly and recorded an operating profit of $13.6 million during its fiscal year 2015, ending June 30, compared to a loss of $16.9 million in fiscal year 2014. Further, during the first nine months of 2015, the port generated an operating profit of $12.4 million compared to a loss of $1.7 million during the same time period in 2014.
Factors that could contribute to port growth include larger ships calling at the port, its access to round-the-clock deep water and additional business generated by the Commonwealth's economic recovery. Against this, slower growth in Europe and China, and instability in the Middle East, will constitute a drag on the port's growth. Another factor that could help cargo growth at the port will be the opening of an expanded and refurbished Panama Canal capable of handling larger ships. It is at present scheduled to open in May 2016, though this date is hardly firm. In any case, the impact of this development on east coast ports is expected to be gradual.
The port is the process of making major investments in its infrastructure, including expansions at its NIT North Gate, the Virginia International Gateway along Route 164, and the renovation of NIT South. The goal is smoother cargo flow, more rapid turnaround times, and reduced congestion at port terminals. If successful, these will spur growth.
Housing (Value of Single Family Housing Permits (+3.40 percent in 2016)
The residential construction industry in Hampton Roads is expected to grow moderately in 2016. The sale of newly constructed homes, with the exception of 2014, has been rising each year since 2010. The relatively small inventory of existing homes in the market, low mortgage rates, and continued moderate prices should help stimulate this growth.
The market for existing residential homes in Hampton Roads has been steadily improving since 2011. All indicators point to a continued improvement in this market for 2016. Why? A rising volume of sales activity, a smaller inventory of homes in the market, a decrease in the number of days on the market, and historically low mortgage interest rates. Measures of supply and demand indicate that it would take approximately five months to clear the existing inventory based on the current absorption rate. This is below the Hampton Roads' historic average of 5.6 months.
Even so, we continue to be concerned with the volume of distressed (short sales and bank-owned) homes in the local residential market. Distressed homes, whether measured in distressed sales as a proportion of all existing homes sold or in listings as a proportion of existing homes currently on the market, continue to represent a significant proportion (nearly a sixth) of residential market activity. The problem is that bank-owned homes, for example, often sell at prices barely more than one-half of non-distressed properties.
Although mortgage interest rates are at relatively low levels and household income in our region is recovering, the persistent large proportion of the distressed market activity likely will mean only a modest recovery in sales prices of homes in Hampton Roads in 2016.
2016 ANNUAL NATIONAL ECONOMIC FORECAST
Real GDP (2.03%)
Real Gross Domestic Product (GDP) is forecast to grow at an annual rate of 2.03 percent in 2016. This number has been revised downward recently as the economic recovery took a significant step back in the ending months of 2015. After growing at 3.92 percent and 1.98 percent in the second and third quarters, respectively, Q4 growth in 2015 is expected to be below 1 percent (the BEA will release data for 2015 Q4 on January 29th, 2016).
Nearly all of the important monthly measures of economic activity slowed in the months of October-December. We anticipate that this weakness will continue into the first quarter of 2016 causing GDP growth in the first quarter to lag below 2 percent. GDP will grow above or near 2 percent in the subsequent quarters of 2016.
The expected slowdown in Europe and China coupled with a strengthening dollar will hamper US exports. Expect net exports to continue being a drag switch from being a contributor to GDP in 2014 to being a drag in 2015.
Finally, the government sector, led primarily by federal government consumption and investment, is also expected to boost real GDP growth in 2015. The recently passed FY 2015 federal budget provides sequester relief that should give a minor lift to growth. However, there are several major budget battles looming in early 2015 that could introduce some political brinksmanship and create uncertainty for markets. The most important long-term issue in Washington centers around the end of this fiscal year budget as it also means the end of the Bipartisan Budget Act of 2013. The Act, which provided some sequester relief for the last two years, expires on October 1. The tone of the rhetoric leading up to October 1 could surely influence markets in the third quarter of this year.
Payroll Employment (1.5 percent)
The recovery in the labor market remained strong in 2015, but there is some downside risk to employment for the near term. All told, the US economy added 2.9 million jobs in 2015. This represents the fourth straight year where the economy added 2 million or more employees to total nonfarm payrolls. We expect employment growth nationally will be slower than the pace of growth we have experienced over the past 3 years. The 1.5 percent projected growth rate translates into a gain of 2.1 million payroll jobs, well below the 2.6 and 2.9 million jobs added in 2014 and 2015 respectively.
Unemployment Rate (5.3 percent)
The unemployment rate fell from 5.6 percent to 5.3 percent during 2015. This improvement is substantially less than the improvement we saw in 2014 and it is expected that further improvements in the unemployment rate will become increasingly difficult as we approach full employment.
Therefore, we anticipate very little change to the unemployment rate in 2015 as the economy finds it increasingly difficult to squeeze out the remaining slack in the labor market. Depending on the dynamics of labor force participation in 2016, it is possible the U.S. could even see increases in the unemployment rate at times during the year. This could occur as those that have dropped out of the labor force, re-enter with the hope of finding employment in the improving economy, but remain unemployed for a period of time while job hunting.
We are confident that the unemployment rate will not end 2016 higher than 2015, but we also believe that it is unlikely we will see a significant decrease in the unemployment rate. As a result, we are forecasting the unemployment rate at the end of 2016 will fall to just 5.1%.
Consumer Price Index-Headline (1.34 percent)
Consumer Price Index Core (2.03 percent)
Inflation, measured by the Consumer Price Index-Headline (CPI) will remain very low as oil prices remain depressed for the majority of 2016. Forecasts for oil prices per barrel are only around $50 by the end of the year. Therefore, we are forecasting headline price inflation of 1.34 percent.
CPI-Core (which excludes food and energy), is expected to remain at or slightly below the Federal Reserve's target of 2 percent. With accommodative monetary policy ending and oil prices at decade-low levels, there is nothing to suggest that inflation would accelerate to above 2 percent in 2016, though a level above 2 percent at times during the year is not impossible. If economic activity slows substantially in 2016, then we expect core inflation will remain well below 2 percent during the year.
Three-Month Treasury Bill Rate (Year Avg. 1.25 percent)
Ten-Year Treasury Note Rate (Year Avg. 3.15 percent)
30-Year Conventional Mortgage Rate (Year Avg. 4.25 percent)
The 2016 year will be interesting for interest rates. The Federal Reserve has begun the process of normalizing interest rates. This change in policy, coupled with stronger economic conditions, should lead to higher interest rates at the short end of the yield curve. The largest rate increases are likely to occur in the three-month Treasury Bill rate as it is very closely tied to the Federal Funds Rate. Since we are anticipating FED action to increase the funds rate by 100 basis points to 1.25 percent-1.50 percent, which is also our forecast of the three-month yield.
However, we anticipate a very different dynamic at the long end of the yield curve. The upward pressure on long-term interest rates from Fed policy will be partially offset by inflows to longer-term treasuries by overseas investors ("flight to quality") and inflows to the bond market as a result of economic uncertainty ("flight to safety"). This may keep longer-term rates like the 10-year from increasing as rapidly as short-term rates and thus the spread between the 10-year and the three-month will shrink as it often does during times of economic uncertainty. While this spread currently sits at 200 basis points (2 percent), we expect it to however around 90 to 100 basis points for most of 2016. Therefore, we are forecasting 10-year rates to average 3.15 percent in 2016.
Housing market dynamics will be as important to the path of 30-year conventional mortgage rate as Federal Reserve policy decisions during 2016. We are forecasting mortgage rate to increase to an average of 4.25 percent during 2016 from an average of 3.85 percent during 2015. However, this only represents a 110 basis point premium above the 10-year Treasury bond. Historically, this spread is 160-180 basis points, but market uncertainty will keep the housing market growing at slow pace and narrow this spread.