FORECAST : THE CHAPMAN COLLEGE ECONOMIC REPORT : Economists See ’88 as a Lackluster Year

Economists at Chapman College handed Orange County a Christmas present it probably would prefer not to have: a forecast for a flat local economy in 1988.

For businesses, consumers and wage earners, that means purchasing power will erode during the coming year, while the pace at which new jobs are created slows dramatically and housing costs rise.

The bright spot in the otherwise-dim outlook is that, as slow as the county’s economy will move next year, it will not slump into a recession.

And county residents and businesses can take some heart in the prediction that no matter how grim the scene appears locally, it looks even worse everywhere else. For the 10th consecutive year, the private college’s Center for Economic Research is forecasting that the county’s economy will outperform the national average.

But that performance and the avoidance of a recession is primarily dependant on federal monetary policy, rather than any real health in the private sector, said James Doti, dean of the college’s school of business and progenitor of the annual economic forecast.

Doti, who worked with graduate students and faculty members to design a complex computer program using 211 separate bits of economic data to produce a forecast of national and local economic conditions, said all signs were pointing toward a recession by mid-1988 until the Federal Reserve Board changed policy and decided to increase the nation’s basic monetary supply in reaction to the Oct. 19 stock market crash.

And even with that infusion of cash into the economy--a 15% increase in the money supply in the two weeks following the crash--the nation and the county will still end 1988 poised to plunge into a recession, Doti said in an interview before releasing the forecast Thursday at a seminar attended by about 1,000 area banking, real estate and business executives.

Doti, whose 1988 predictions are slightly more pessimistic than those of other economists, said he expects the gross national product--the total value of all goods and services produced in the year--to post an inflation-adjusted increase of just 1.6% in 1988, to $4.7 billion from $4.5 billion this year.

Most of that growth, he said, will come from increased consumer spending. And that, in turn, will be spurred by the escalation in the money supply and by a slight boost in disposable income that comes from the lower personal income tax rates taking effect under the Tax Reform Act of 1986.

Employment nationally will grow by only about 1%, according to the Chapman forecast, while inflation is expected to remain relatively low at 4% or slightly less.

Chapman’s look at the national economy also predicted a significant improvement in the balance of trade, largely because the weak U.S. dollar will increase exports and foreign investment here.

For the county, the year ahead holds only a slightly upbeat replay of the national scene.

The Chapman forecast said the rate of employment growth, the single most important factor in the county economy, will fall to 2.5%, or 27,500 new jobs, from 3.6% estimated for this year.

While this is a significant decline in performance, Doti said, it does not herald a local recession, because most of the drop is expected to occur in the first quarter, after which things will level out. Chapman’s economic theorists maintained that two quarterly year-to-year declines in employment are necessary before a local recession can be declared.

The forecast also called for increased consumer spending locally in 1988, with taxable sales up 6.4%, to $24.9 billion from $23.4 billion.

However, tourism-related spending is projected to decline slowly all year, despite the influx of foreign visitors that the weak dollar is expected to bring to the county.

On the job front, service-related employment is expected to grow 3.9%, but goods-related employment should shrink 0.7%, continuing a longstanding movement in the county away from a manufacturing-based economy.

But the double impact of a 4% inflation rate, and a mere 2.5% increase in new jobs will flatten out most hikes in income and spending, Doti said, turning the nominal increases shown in the forecast into “real” zeroes, or even into negative numbers.

For instance, the forecast says personal income in the county will rise 6.6%, to $44.7 billion from $42 billion. But inflation and the job situation--fewer new jobs depress income and spending--reduces that to a real increase of only about 0.1%.

And median family income, which the Chapman forecast said will increase just 4.8% for the year, to $45,176 from $43,112, actually rolls back nearly 2% in real dollars and buying power.

Similarly, the projected 6.4% increase in gross county product--to $53.2 billion from $50 billion this year--becomes a decline of 0.1% when inflation and jobs are factored in.

Further, the Center for Economic Research forecast said, residential construction activity in the county will decline slightly, although the value of those residential units will stay about level. And the value of new non-residential construction will drop 11.7%, from $1.46 billion this year to $1.29 billion. This will cause total construction valuation to drop, to $3.29 billion from $3.48 billion this year.

Because of the dip in real personal income and the appreciation of housing prices brought about by the decline in supply, Doti said, far fewer county residents will be able to afford to buy homes here in 1988 than were able to do so this year.

Chapman’s housing affordability index--the ratio of median family income to the actual income required by lenders to qualify for the median-priced home--will drop a steep 12%, with the new median income just 85.6% of the minimum needed to buy the median-priced home.

On local issues, the Chapman forecast at first glance is considerably at odds with a regional outlook published by First Interstate Bank, whose economists are anticipating 3.7% employment growth in the county in 1988, along with a 9.7% increase in personal income and a 10.1% increase in taxable sales.

But the Los Angeles-based bank also predicted a 5.6% inflation rate for the county, which trims several of its projections back to levels that are more compatible with Chapman’s.

And First Interstate and Chapman are marching almost in lockstep on their construction predictions: Chapman projecting a 7.2% decline in new single-family residential permits, the bank putting the drop at 7%, and Chapman predicting a 5.7% decline in the total value of permits for new non-residential construction, while First Interstate pegs the dip at 5.5%.

On the national level, a forecast by the University of Chicago Graduate School of Business--where Doti trained as an economist under monetarist Milton Friedman--compared closely to Chapman’s.

The Chicago forecasters, two economics professors and a business economist, predicted increases in real GNP ranging from 2.6% to 1%, while Chapman projects a 1.6% increase, and the three Chicago economists’ expectations for inflation all agreed with Chapman’s prediction of a rate of 4% or less.

Also in general agreement with Chapman’s national outlook is Robert D. Milne, president and chief executive of Duff & Phelps Investment Management Co.

“As a result of the stock market decline, most economists have reduced their projections for real GNP growth in 1988 from the 3% area to the 2% area. . . . A slower economy usually results in a lower level of borrowing and a higher rate of savings, thus encouraging interest rates to move lower,” he said in a recent investment newsletter.

And Security Pacific National Bank, in its annual California economic outlook, said it anticipates a 5% statewide inflation rate; a 2.8% real increase in the gross state product, and a 3% increase in employment for 1988.

A major difference between the Chapman forecast and Security Pacific’s is that while the bank is projecting a 1% increase in manufacturing employment statewide, Chapman is suggesting that manufacturing will lose jobs in the county, continuing a longstanding trend of service industry growth while the production of goods dwindles.

An item-by-item examination of Chapman’s 1988 forecast for the county:

EMPLOYMENT

Wage and salary employment in the county is expected to increase by only 2.5% next year, the lowest annual growth rate since recessionary 1982. Then, a building industry crunch and a sizable decline in manufacturing employment caused the total number of jobs in the county to drop 1.8% from the prior year.

The new Chapman forecast anticipated that 27,500 new jobs will be created next year, bringing the total to 1.1 million.

Service-related industries will take the lead in new job formation, Doti said, increasing by 3.9% to a total of 799,139 jobs, or 71.7% of all employment in the county.

Goods-related employment, which accounts for the remaining 28.3% of all jobs, or an estimated 314,933 positions next year, will be down 0.7% from this year, Doti and his team project.

And within the goods-producing sector, manufacturers dependent in whole or part on defense contracts and subcontracts are expected to be hardest hit. Aerospace industry employment, for example, is expected to dip 1.5% to about 92,900 jobs--the lowest level in three years.

The Chapman forecast, which supports longstanding predictions by a spate of economic and social sages that county is losing its manufacturing base and becoming the service industry center center of Southern California, said goods-related employment will tumble largely because of these factors:

- The labor force available to manufacturing industries is drying up, both because the Immigration Reform Act of 1986 is reducing up the pool of undocumented workers and because many lower-paid manufacturing workers are fleeing the county as housing prices soar well above their means.

- Defense Department spending in the county, which peaked in 1985 at $2.95 billion, is expected to slow down considerably because of constraints imposed by the drive to balance the federal budget and reduce the national deficit. From an annual growth rate of about 10% in past years, increases in defense spending in the county should drop to a range of 5% to 7% a year through the 1990s, the Chapman forecast said. And for 1988, Doti said, that equals almost zero growth when adjusted for inflation.

- Slowed growth in the general economy, which often manifests itself initially with a slowdown of consumer and corporate spending. Such spending declines, Doti said, generally hit manufacturing first.

In addition to its predicted 1.5% drop in aerospace employment, the Chapman forecast anticipated a 0.6% decline of manufacturing jobs in other durable goods sectors. Durable goods are those manufactured items, such as appliances, machinery and automobiles, expected to have a lengthy life span.

Non-durable goods industries, however, should see employment rise 4.4% to about 67,975 jobs from 65,125--an increase Doti attributed to a stronger demand for non-military goods and to an increase in the export of high-technology products. That trend, Doti said, is being encouraged largely by the weak dollar.

The report also anticipated a 5.4% drop in construction employment, to 50,450 jobs from 53,350. It would be the third decline in nine years and the largest single-year decrease since the bottom fell out of the industry in 1982 and the total number of jobs actually dropped 1.8%.

While residential building activity is expected to remain at current levels through 1988, the forecast expects construction of commercial and industrial buildings, particularly high-rise structures, to fall.

And construction jobs will account for just 4.5% of all wage and salary employment in the county next year, according to the Chapman projections, down from a high of 5.2% in 1986.

On the plus side, in the service-related sectors, growth in the retail trades should create about 9,300 new jobs, for an increase of 4.3% and a total of 223,402 positions, according to the forecast.

Service industry jobs--a category within the service-related sector that includes restaurant, hotel and amusement park employment--and accounts for 23.6% of all wage and salary employment in the county--should increase by about 8,150 slots, up 3.2% for a total of 262,953 jobs.

Other industry groups expected to post slight increases in employment include the wholesale trades, up 4.7% to 70,690 jobs; state and local government, up 3.8% to 103,422 positions, and finance, insurance and real estate, up 3.3% for a total of 87,000 jobs.

PERSONAL INCOME

Although the Chapman forecast said the nominal level of personal income in the county is expected to grow by 6.6% in 1988, to $44.7 billion from $42 billion, the double-barreled impacts of inflation and the slowdown in job growth should offset the entire increase, Doti said.

In reality, pay raises and other income increases next year will merely keep most people level rather thank carry them ahead.

Still, the nominal growth is the biggest percentage increase since 1984, when total personal income surged 10.2% to end the year at the then record level of $35 billion.

Total bank deposits in the county, however, are expected to post the second smallest increase of the decade, moving ahead a sluggish 7.4% for a total of $17.4 billion, contrasted with $126.2 billion estimated for this year.

Doti said the bank deposit increase is expected to stay ahead of inflation by a percentage point, at a time when real personal income is predicted to post no growth at all, which is a strong indication that there is still considerable consumer and business anxiety about the future in reaction to the Oct. 19 stock market crash and the subsequent volatility of the market.

If there were not a substantial anxiety level, he said, money would be expected to be drained from savings to offset the impact inflation will have on real spendable income.

The total projected personal income figure for 1988 averages about $20,300 per person in the county, based on a population of 2.2 million.

And the Chapman forecast said median family income will hit $45,176 for the year, up 4.8% from the estimated $43,112 for this year--meaning that half of the families in the county will fall behind inflation.

TAXABLE SALES

Another major chunk of the economy expected to have a flat year in 1988 is the taxable sales sector, defined as retail sales and business and personal services. The Chapman forecast says that taxable transactions will post a nominal increase of 6.4%, to $24.9 billion from the $23.4 billion expected for this year. But inflation will gnaw that down to only about 2.7% real growth, Doti said.

Retail sales, separated from business and personal services, will fare worse than the taxable sales sector as a whole, posting a real growth rate of just 2.4%, the forecast said.

The anticipated nominal annual growth is the third lowest of the decade and compares poorly with the 10.2% increase that 1987 sales are expected to show over 1986.

Doti said that projected declines in sales of new automobiles, down 4%; gasoline, auto maintenance and repair parts, down 1.4%, and wearing apparel, down 4.5%, will act to restrain 1988 taxable sales as people cut back on high-ticket items because of the growing level of consumer debt.

Areas that should post gains outstripping inflation will include specialty stores, up 13% to $2.529 billion from $1.999 billion; furniture and appliances, up 11.6% to $923.3 million from $827.2 million; business and personal services, up 10.9% to $1.293 billion from $1.166 billion; eating and drinking establishments, up 6.7% to $2.075 billion from $1.944 billion, and general merchandise, up 6.3% to $2.687 billion from $2.528 billion.

TOURISM

Chapman’s analysis of tourism-related spending began showing a decline in the third quarter of this year. The forecast for 1988 is for those expenditures to continue dropping through the year, with a few brief upward ticks during traditional high-tourism periods in the late spring and summer months.

The prediction for this important segment of the county’s economy is unlike those for other segments, because it does not generate anticipated dollar amounts.

Instead, the forecast merely predicted a spending trend, up or down, based on an “indicator series” based on items such as movement in the real GNP and national monetary base and changes in transportation costs, the exchange rate of the dollar and vacancies in the county’s hotels and motels.

To check the accuracy of the forecast, the Chapman Center for Economic Research also charts a “visitor series” that uses the weighted average of increases and decreases in attendance at local amusement parks; arrivals at John Wayne, Long Beach, Ontario and Los Angeles International airports; occupancy rates at county hotels and motels and taxable sales at restaurants, bars and service stations in the county.

Since 1979, according to Doti, the indicator series has accurately predicted the real spending trends in almost every quarter.

For 1988, he said, visitor spending is expected to “decline rapidly” from the year-to-year 8% growth rates recorded in the first three quarters of this year.

CONSTRUCTION

The forecast said all types of construction activity will decline in 1988, although market pressures will keep the gross value of the residential units that are built almost even with 1987 levels.

But just 10,484 single-family units are expected to go up in the county next year, down 7.2% from 11,303 this year, and the forecast anticipates an 8.4% decline in multiple-family units, to 13,413 from 14,637.

Gross value of the single-family units is projected at $1.257 billion, up 1.2% from $1.243 billion this year, while the multiple units are expected to be valued at $6624.3 million, down 4.5% from $653.7 million.

Chapman did not estimate actual building counts for commercial and industrial construction, but projected total valuation of new non-residential construction at $1.293 billion, down 11.7% from $1.464 billion.

The forecast said non-residential construction will be slashed because of the current high level of vacancy rates in office buildings--which has been running at or above 20% for more than a year--combined with credit restraints by construction lenders and the loss of tax benefits because of new federal income tax measures.

HOUSING

Housing prices will begin climbing in 1988, with the increase for resale units hitting double digits for the first time since 1981, Chapman economists projected. The price increases--an average of 10.2% for resale homes, 8.3% for new multiple-family units and 8.4% for new single-family units--will come largely because the decline in construction will limit supply, while the nominal increase in median family income and the predicted reduction in interest rates next year will boost demand, Doti said.

But at the same time, the increase in housing prices will mean fewer families in the county will be able to buy a house. The predicted median family income of $45,176 for the year will be just 85.6% of the minimum income necessary to qualify for the median-priced home.