EAST BAY QUARTERLY FORECAST

INTRODUCTION
East Bay EDA is pleased to provide the East Bay Quarterly Update, with an introduction and outlook authored by Jerry Nickelsburg, Senior Economist with the UCLA Anderson Forecast. We are redesigning East Bay EDA's Quarterly and Monthly reports and welcome your thoughts and suggestions. Click here to Download the PDF (529k) version of this report.

To view the Bay Area "by the numbers", download the Quarterly Indicators Sheet for Q2. This one-page summary includes GDP, CPI, employment, housing, construction permit, hotel, airline passenger, and foreign trade data.

SUMMARY

East Bay Recession Dynamics
Jerry Nickelsburg
Senior Economist
UCLA Anderson Forecast

July, 2009

I am often asked if California’s best days are behind it? And, will California ever recover from this recession? I find these interesting questions as we have been through 11 recessions since the end of World War II and each time the recession cleans up out of balance markets and lays the groundwork for the next expansion.

We see this pattern clearly repeating in the way in which the national recession is playing out in the East Bay. In early 2008 the decline in housing precipitated a sharp reduction in construction and finance. Next, the September 2008 collapse in consumption demand reverberated through both the East Bay manufacturing sector and the East Bay distribution of goods sectors of wholesale trade, warehousing and transportation. The coincident globalization of the recession engendered an additional decline in the distribution industry as Central Valley and Bay Area goods destined for foreign buyers were no longer flowing at the same rate through the Port of Oakland. These are the corrections in the imbalances in retail and foreign trade.

The final act of this three act play is the stabilization of these markets and the reaction of government spending and employment. The best measure we have of this evolution at the local level is in the employment data. Construction and finance job loss are the drivers of the downturn in the East Bay until the 4th quarter of 2008. Manufacturing, Retail, Wholesale, and Leisure and Hospitality became major factors in the rise in unemployment thereafter. The recession dynamic continues to play out in the 2nd quarter. No longer are the consumer driven sectors of retail, wholesale and transportation and warehousing losing jobs. Manufacturing, hospitality, finance, and construction are continuing to shed jobs, but at a decreasing rate. And finally, state and local government job loss, which typically trails a recession, has just begun. The three important sectors to watch in the second half of the year are housing, trade and government as these, along with the U.S. consumer will shape near term East Bay economic activity.

The spectacular rise in home prices from 2002 to 2005 fueled a boom in new home construction. This was particularly true in the inland portions of the East Bay as astronomical home prices for homes near the Bay forced households seeking affordable housing further to the east. According to the Case Shiller / S&P home price index home prices in the San Francisco/East Bay metropolitan area rose 76% from 2001 to their peak in 2006. In a dramatic reversal they have declined from their peak by -46%. When inflation is factored in, the annual rate of return on an investment in a home in the Bay Area over the last 8 years has been 1.25%, well below its historical norm. The FHFA index breaks out the East Bay from the Metro area and this index shows that East Bay inflation adjusted home prices are now the same as they were in the middle of 2003.

Residential construction has also fallen dramatically. New building permits have dropped from their boom time highs by 75%, and very little stock of new homes is coming to the market. California was in the unfortunate position to lead the nation in the implosion in the housing markets, and it may continue this leadership position on the way out of the slump as well. Throughout the most populous regions of California the inventory of homes for sale is dropping more rapidly than elsewhere in the U.S. and the existing inventory, while still too high, is proportionately lower. For the East Bay, the latest sales reports show home sales are up by over 30% compared to May 2008. So homes are affordable, inventories are falling, sales are rising, and there is not a rush to flood the market with new homes. All of these add up to increasing demand, stable supply and a stabilizing housing market.

The East Bay’s unique geography gives it a comparative advantage in trade activity for both the Bay Area and the Central Valley. This large sector lost almost 6,000 jobs in the 4th quarter of 2008 as domestic and foreign demand for goods plummeted. But the good news is that while still at very low levels, trade has stopped falling. Imports through the Port of Oakland have increased from their lows earlier this year and have stabilized. Exports have also grown as inventories adjustments have taken place within our trading partners economies over the last two quarters and foreign businesses are beginning to re-order. Early indications are that export growth in May was dominated by primary commodities, metals and food. These are the inputs to production and bode well for future growth. Substantive increases will not happen soon as the U.S. consumer has yet to increase demand and foreign economies are still in a bad way. Nevertheless, the stabilization in trade has led to an abrupt turnaround in the trade employment numbers. The sector shed a small number of jobs in the 1st quarter and so far, has actually added a few jobs in the 2nd. This bottoming out is not unique to the East Bay as similar trade activity is occurring in the Southern California logistics arena.

As we go forward the largest problematic sector for the East Bay is government. The state and local government sector, which includes public education, comprises 16% of all East Bay jobs. As of this writing, the state was issuing IOU’s, the number and type of jobs to be cut in the 2009/2010 fiscal year was still to be decided, property assessments were falling, and at all levels of government, revenue stream estimates were sketchy. The stimulus package, passed February 12, will help some, but it will only mitigate and not reverse the self inflicted wounds of California government finance. The bottom line is a statewide loss of about 3.6% of all jobs in the state and local sector. If spread evenly across the state, that will mean 5,700 jobs lost in the East Bay alone. The only good news in this grim outcome of our systemic public finance problems is that this job loss will come as we are growing out of the recession and the spell of unemployment for those affected will be shorter than it would have been if the reductions were last December.

We don’t want to be too sanguine as the East Bay economy remains in recession and there are more job losses on the horizon. But there is light at the end of the tunnel. The U.S. consumer is not spending, but is no longer cutting back. The inventory cycle is running its course and orders for manufactured goods and exports are inching up. The housing market, particularly in the Bay Area, is showing the signs of being at the bottom. Some of the leading indicators at the national level, such as unemployment claims, consumer confidence, durable goods orders, and stock market prices are hinting at an end to the downturn by the 3rd quarter. All of which means, for the balance of the year the East Bay economy ought to be characterized by an end to the recession, the beginning of a new expansion period, and the beginning of the adjustment to a smaller government. Returning to our original question as to whether or not this recession demarks a permanent decline. This recession, while severe in magnitude, is garden variety in character. The imbalances in housing, finance and retail have been corrected, the imbalance in government is about to be, and barring another shock to consumer expectations, households are poised to increase purchases with the back-to-school season in the next quarter. There is nothing in the dynamics of this recession which points to the East Bay—or for that matter California – following a John Carpenter script into the abyss.

SPONSORS:

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CONTACT This forecast was prepared by: Stephanie Brown Economic Development Analyst (510) 272-6843 East Bay EDA 1221 Oak St., Ste. 555 Oakland. CA 94612 For more information on the East Bay, click on www.eastbayeda.org

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