The Economic Outlook:The Economic Outlook:Recession and OpportunitiesRecession and Opportunities

By Dean BakerBy Dean BakerCo-Director of the Co-Director of the

Center for Economic and Policy Research (CEPR)Center for Economic and Policy Research (CEPR)

The economy will be in recession in The economy will be in recession in 2009;2009;

1.1. The housing bubble will continue to deflate.The housing bubble will continue to deflate.

2.2. The commercial real estate market also saw somewhat The commercial real estate market also saw somewhat of a bubble which has now peaked; of a bubble which has now peaked;

3.3. The financial sector will continue to see big losses from The financial sector will continue to see big losses from bad mortgage debt and other debt;bad mortgage debt and other debt;

4.4. Consumption will fall off due to lost housing wealth.Consumption will fall off due to lost housing wealth.

5.5. State and local government spending will also contract.State and local government spending will also contract.

6.6. Unemployment will rise about 7 percent in 2009. Unemployment will rise about 7 percent in 2009.

Real House Prices Real House Prices (Case-Shiller Index)(Case-Shiller Index)

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1801.1. House prices House prices more than more than doubled doubled between 1996 between 1996 and 2006.and 2006.

2.2. They have since They have since fallen by more fallen by more than 25 percent than 25 percent since 2006.since 2006.

3.3. This This corresponds to corresponds to a loss of more a loss of more than $4 trillion than $4 trillion in housing in housing wealth. wealth.

House Prices Will Keep Falling House Prices Will Keep Falling Well Into 2009Well Into 2009

Supply Supply

Inventories of new homes stand at more Inventories of new homes stand at more than 10 months of sales.than 10 months of sales.

Inventories of existing homes stand at Inventories of existing homes stand at more than 11 months of sales.more than 11 months of sales.

Vacancy rates for rental and ownership Vacancy rates for rental and ownership units are both near record highsunits are both near record highs

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House Prices Will Keep Falling House Prices Will Keep Falling Well Into 2009 Well Into 2009 (cont’d)(cont’d)

Vacancy Vacancy RatesRates

DemandDemand

Disappearance of subprime/ Alt-A marketsDisappearance of subprime/ Alt-A markets

Tighter down payment requirements in Tighter down payment requirements in collapsing marketscollapsing markets

Loss of equity means many current Loss of equity means many current homeowners lack down paymentshomeowners lack down payments

Less trading upLess trading up

House Prices Will Keep Falling House Prices Will Keep Falling Well Into 2009 Well Into 2009 (cont’d)(cont’d)

Commercial Real Estate Boomed Commercial Real Estate Boomed and Is Headed Downwardand Is Headed Downward

Non-residential Non-residential construction is up construction is up more than 40 more than 40 percent since percent since 2005. 2005.

Hotel construction Hotel construction more than tripled, more than tripled, manufacturing manufacturing doubled, office doubled, office construction up 50 construction up 50 percent.percent.

Retail and office Retail and office vacancy rates are vacancy rates are rising rapidly.rising rapidly.

Manufacturing Manufacturing might hold up. might hold up.

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Investment Investment (Non-Residential (Non-Residential Structures)Structures)

More Losses in Financial SectorMore Losses in Financial Sector

1.1. Delinquencies and foreclosures are rising rapidly, Delinquencies and foreclosures are rising rapidly, spreading from subprime to prime mortgages. spreading from subprime to prime mortgages.

2.2. Many losses are being hidden by workouts with Many losses are being hidden by workouts with borrowers.borrowers.

3.3. As house prices continue to fall, average loss per As house prices continue to fall, average loss per foreclosure will rise.foreclosure will rise.

4.4. As the value of foreclosed homes rises (going from As the value of foreclosed homes rises (going from subprime to prime), losses per foreclosure will subprime to prime), losses per foreclosure will rise.rise.

5.5. Home equity is a backdrop for other loans. With Home equity is a backdrop for other loans. With the loss of this backdrop, default rates are rising the loss of this backdrop, default rates are rising for other loans (e.g. car loans, credit cards, for other loans (e.g. car loans, credit cards, student loans).student loans).

The Recession Will Worsen theThe Recession Will Worsen theSituation in the Housing MarketSituation in the Housing Market

1.1. The economy is shedding almost 100,000 jobs per The economy is shedding almost 100,000 jobs per month, unemployment has risen from 4.5 percent month, unemployment has risen from 4.5 percent to 6.1 percent. to 6.1 percent.

2.2. Workweeks have gotten shorter, real wages are Workweeks have gotten shorter, real wages are down more than 2 percent.down more than 2 percent.

3.3. Existing homeowners will lose their homes. Existing homeowners will lose their homes. Potential homeowners won’t be able to afford Potential homeowners won’t be able to afford homes.homes.

4.4. Banks will be constrained in lending due to large Banks will be constrained in lending due to large loan losses.loan losses.

5.5. Recession will also hurt demand for non-residential Recession will also hurt demand for non-residential property.property.

Lost Housing Equity Will Lost Housing Equity Will Depress ConsumptionDepress Consumption

1.1. Housing bubble fueled consumption Housing bubble fueled consumption boom.boom.

2.2. The saving rate has been near zero since The saving rate has been near zero since 2004.2004.

3.3. Baby boomers near retirement have Baby boomers near retirement have almost no wealth.almost no wealth.

4.4. Savings will rise and consumption (70 Savings will rise and consumption (70 percent of GDP) will fall. percent of GDP) will fall.

State and Local Governments State and Local Governments Will Cut Back SpendingWill Cut Back Spending

1) Collapse of housing bubble lowers property tax collections and other fees.

2) Lower consumption and fewer jobs reduce sales tax and income tax.

Possibilities for ReformPossibilities for Reform

1) Punish Wall Street – it’s their fault. The financial industry is a major source of inequality.

2) Get the dollar down – move toward balanced trade.

3) Fix health care – we need to cover people and we need it for the economy.

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