O.C. Economy Looks Good -- Not Great -- for 2003

Borrowing from Leo Tolstoy: All economic expansions resemble one another; every downturn is unhappy in its own way. This time around, the unhappiness relates to the fact that while the U.S. economy appears to be in an expansionary stage, jobs continue to be lost.

The reason for this seeming anomaly is surging productivity. Global competition combined with overcapacity has led businesses to shed jobs while keeping output intact, thereby increasing output per worker. The danger is that the job losses will eventually undermine consumer spending, leading to recession.

Alan Greenspan and the Federal Reserve are obviously nervous about such a scenario and have responded with stimulative monetary policies that have resulted in a real federal funds rate close to zero and money supply growth of 10%. Government spending policies have also been highly stimulative, with total federal and state deficits projected to hit about $220 billion in 2002.

These actions should be enough to move real GDP growth in 2003 to 3.1%, compared with 2.5% in 2002. This higher spending growth, however, is expected to lead the Fed to reverse direction and start increasing the federal funds rate by the second half of next year. Long-term rates, including the mortgage rate, are projected to increase about 100 basis points over the next year.

These national trends obviously have important implications for our local economy. In Orange County, higher spending growth at the national level should spur greater job formation, while higher mortgage rates will slow the pace of housing starts and reduce the level of mortgage refinancing.

This latter effect is significant in that record levels of refinancing during the last year have given consumers a pipeline to tap into the wealth created by higher housing prices. And it has been this positive wealth effect that, in large part, has canceled the negative impact of the stock market crash. It’s sobering to note that while the combined market capitalization of the New York Stock Exchange and NASDAQ is off almost 35% from the high reached in August 2000, Orange County public companies are off 56%.

Without a refinancing boom in housing to help fuel the purchase of big-ticket items such as automobiles and household remodeling, what will stimulate local spending and job growth? Fortunately, the worst of the information technology crash is over. Though a strong recovery is not in the offing, this high-tech industry, which is vitally important to Orange County, will not be a drag on the economy as it has been in the past.

Indeed, the purchasing managers index for Orange County that is prepared by the Anderson Center for Economic Research suggests that the manufacturing sector is starting to turn around after several years of decline. In addition to a rebound in information technology, significantly higher military spending and volume of international trade on the export and import sides will spur job growth in high-tech and durable goods manufacturing sectors.

This year also included the creation of a study of data gathered by Chapman University’s A. Gary Anderson Center for Academic Research. That study, which measures consumer confidence at the local level, declined in 2002 but is significantly higher than that of the U.S. This bodes well for Orange County to continue to outperform the nation.

Overall, the Chapman University Model shows the county economy generating 23,000 net new jobs in 2003 -- an improvement over 2002, which had virtually no job growth.

On the construction front, total building permit valuation is forecast to again hit $3.3 billion, about the same as in 2002 and 2001.

With all the weakness in the county’s job growth in 2002, it’s surprising that housing price appreciation hit double-digit levels, averaging 12.7%. Is a bubble forming in housing prices that will soon burst? The answer to this question, at first glance, appears to be yes, if one considers that this very rapid appreciation rate occurred the same year that jobs were lost, stock market values and concomitant option values dropped sharply and housing affordability neared historic lows relative to the rest of the nation.

On the other side of the equation, the supply of new and resale housing remains tight. Demographic trends also auger well for housing demand, as does our projection of a return to positive job growth. Overall, we see the negatives strong enough to reduce housing appreciation significantly, but the tight supply should keep it at least in positive terrain at 2.0%.

Chapman’s forecast for Orange County contains good news. Following the 1990-91 recession, the U.S. recovered while Orange County continued to decline. Hit by the double whammy of sharp declines in military spending and a depression in the construction industry, Orange County continued to lose jobs and didn’t really come out of it until 1995 after declaring bankruptcy. Now things should be different. The economy won’t exactly be flying high, but it’s a lot better than being indefinitely grounded.