Tuesday, December 23, 2014

Review: Ten Economic Questions for 2014

by Bill McBride on 12/23/2014 04:02:00 PM

At the end of each year, I post ten questions for the upcoming year. Here are the Ten Economic Questions for 2014. I follow up with a brief post on each question, and the goal is to provide an overview of what I expect for the coming year (I don't have a crystal ball, but I think it helps to outline what I think will happen - and then try to understand why I was wrong).

I've been lucky in the years with turning points (calling the recession in 2007 or the bottom for house price in early 2012 are two examples).

Here is a 2014 review. I've linked to my posts from the beginning of the year, with a brief excerpt and a few comments:

10) Question #10 for 2014: Downside Risks

Happily, looking forward, it seems the downside risks have diminished significantly. China remains a key risk ... There are always potential geopolitical risks (war with Iran, North Korea, or turmoil in some oil producing country).  Right now those risks appear small, although it is always hard to tell. ...

When I look around, I see few obvious downside risks for the U.S. economy in 2014. No need to borrow trouble - diminished downside risks are a reason for cheer. 
There are international risks - China remains a downside risk.  Russia too.  Europe (and the Euro) are still a mess, and the situations in the Ukraine and Iraq are serious, but overall it appears that downside risks to the U.S. economy were less in 2014 than in 2013.

9) Question #9 for 2014: How much will housing inventory increase in 2014?
Right now my guess is active inventory will increase 10% to 15% in 2014 (inventory will decline seasonally in December and January, but I expect to see inventory up 10% to 15% year-over-year toward the end of 2014).  This will put active inventory close to 6 months supply this summer.   If correct, this will slow house price increases in 2014.
The NAR reported inventory was up 2.0% year-over-year in November.  However Zillow is showing inventory up 12% year-over-year.  Note: I used to follow "Housing Tracker" weekly, but the site had some data problems and they discontinued the series. The "10% to 15%" increase this year was too high based on the NAR reports.

8) Question #8 for 2014: Housing Credit: Will we see easier mortgage lending in 2014?
Bottom line: I expect lending standards to loosen a bit in 2014 from the tight level of the last few years.   It will be difficult to measure, but I'll be watching what Mel Watt says, what private lenders say, comments from mortgage brokers, and MEW.
I think we are seeing a little loosening with Fannie and Freddie clarifying Reps and Warrants, and in some circumstances, lower downpayment requirements.  Mortgage equity withdrawal is still net negative (but a smaller negative).

7) Question #7 for 2014: What will happen with house prices in 2014?
In 2014, inventories will probably remain low, but I expect inventories to continue to increase on a year-over-year basis. This suggests more house price increases in 2014, but probably at a slow pace.

As Khater noted, some of the "bounce back" in certain areas is probably over, also suggesting slower price increases going forward.  And investor buying appears to have slowed.  A positive for the market will probably be a little looser mortgage credit.

All of these factors suggest further prices increases in 2014, but at a slower rate than in 2013.   There tends to be some momentum for house prices, and I expect we will see prices up mid-to-high single digits (percentage) in 2014 as measured by Case-Shiller.
We only have Case-Shiller data through September, and price increases have slowed as expected. Zillow expects the October Case-Shiller National index to show a 4.8% year-over-year gain.  My prediction was based on the Composite 20 which would be a little higher (Case-Shiller started releasing the national index monthly this year).  My prediction was pretty close, and if anything, house prices slowed more than I expected.

6) Question #6 for 2014: How much will Residential Investment increase?
New home sales will still be competing with distressed sales (short sales and foreclosures) in some judicial foreclosure states in 2014. However, unlike last year when I reported that some builders were land constrained (not enough finished lots in the pipeline), land should be less of an issue this year. Even with the foreclosures, I expect another solid year of growth for new home sales.

... I expect growth for new home sales and housing starts in the 20% range in 2014 compared to 2013. That would still make 2014 the tenth weakest year on record for housing starts (behind 2008 through 2012 and few other recession lows).
Through November, new home sales were flat compared to 2013, and housing starts were only up 7.8%  year-over-year.  Clearly I was too optimistic this year. There were a number of factors that kept RI down, but I still think fundamentals support a higher level of starts.  An optimistic view is that the sluggish growth this year means more growth over the next several years!

5) Question #5 for 2014: Monetary Policy: Will the Fed end QE3 in 2014?
[E]ven though the Fed is data-dependent, I currently expect the Fed to reduce their asset purchases by $10 billion per month (or so) at each meeting this year and conclude QE3 at the end of the 2014.
QE3 ended in October.

4) Question #4 for 2014: Will too much inflation be a concern in 2014?
[C]urrently I think inflation (year-over-year) will increase a little in 2014 as growth picks up, but too much inflation will not be a concern in 2014.
Core measures of inflation did increase a little this year, and too much inflation was not a concern in 2014.

3) Question #3 for 2014: What will the unemployment rate be in December 2014?
My guess is the participation rate will stabilize or only decline slightly in 2014 (less than in 2012 and 2013) ... it appears the unemployment rate will decline to the low-to-mid 6% range by December 2014.
The participation rate did stabilize - in December 2013, the participation rate was 62.8%, and in November 2014, the participation rate was ... 62.8%.  However the unemployment rate was 5.8% in November and I was too pessimistic on unemployment.

2) Question #2 for 2014: How many payroll jobs will be added in 2014?
Both state and local government and construction hiring should improve further in 2014.  Federal layoffs will be a negative, but most sectors should be solid.  So my forecast is somewhat above the previous three years, and I expect gains of about 200,000 to 225,000 payroll jobs per month in 2014.
...
It is possible that 2014 will be the best year since 1999 for both total nonfarm and private sector employment.
Through November 2014, the economy has added 2,650,000 jobs, or 240,000 per month - above my projection - and the best year since 1999!

1) Question #1 for 2014: How much will the economy grow in 2014?
I expect PCE to pick up again into the 3% to 4% range, and this will give a boost to GDP.   This increase in consumer spending should provide an incentive for business investment.  Add in the ongoing housing recovery, some increase in state and local government spending, and 2014 should be the best year of the recovery with GDP growth at or above 3%
PCE was sluggish at 1.2% in Q1 (due to the bad weather), picked up in Q2 to 2.5%, and in Q3 to 3.2%.  Right now, based on the November Personal Income data, it looks like PCE will be around 4.3% in Q4.  Not quite what I expected, because of Q1 weakness, but a clear acceleration.   GDP will be probably be around 2.4% (or higher) - pretty amazing because of the contraction in Q1.  Growth clearly picked up this year, and 2014 will be close to the best year of the recovery.

Overall 2014 unfolded about as expected - I anticipated the pickup in employment and economic growth, was correct on inflation and Fed policy - however I was too optimistic on housing.