GDP Numbers Came in Hot; Homebuilders Fall 30 Percent
What does this mean for the greater economy?
The U.S. Department of Commerce reported gross domestic product surged to 3.5 percent – well above most median economic estimates. Does this mark an era of increased economic prosperity and will GDP continue to increase? Meanwhile, housing stocks have tanked to the tune of 30 percent? So, what does this mean for the greater economy?
WHAT IS DRIVING THE GROWTH IN GDP?
On the surface, the numbers look great, but it is important to look behind the headline number to see the true drivers of the GDP increase.
- GOVERNMENT SPENDING: One of the explanations for the growth is government spending at both the state- and local-level. As the economy has improved, more money has flown into state coffers. According to the Census Bureau: “ The increase in real GDP in the third quarter reflected positive contributions from state and local government spending along with federal government spending,”
- DECREASE IN SAVINGS: Consumers are also spending more thanks to a decrease in savings. Real wages have not increased substantially, so the only way for people to spend more is to save less or borrower more. The recent GDP report highlights “personal saving was $999.6 billion in the third quarter, compared with $1,054.3 billion in the second quarter. The personal saving rate – personal saving as a percentage of disposable personal income – was 6.4 percent in the third quarter, compared with 6.8 percent in the second quarter.”
Note: This is down from 7.2 percent in Q1 2018. To drive the recent spending growth, consumers are saving less, and therefore have less of a cushion for future needs.
- INCREASE IN DEBT: Consumers are also spending more by increasing the amount of debt they carry. The Federal Reserve’s latest Quarterly Report on Household Debt and Credit reveals total household debt reached a new peak in the first quarter of 2018, rising $63 billion to reach $13.21 trillion. Balances climbed 0.6 percent on mortgages, 0.7 percent on auto loans and 2.1 percent on student loans this past quarter. Unfortunately, a debt-fueled spending binge can’t last forever – at some point the consumer will have to pay up.
None of these three drives are sustainable for ongoing GDP growth. They are merely a byproduct of the expansion the economy is currently experiencing. Business spending, innovation and efficiency, as well as long-term real wage growth are the only factors that can maintain the economic expansion. Furthermore, the great GDP numbers are concealing other long-term metrics that are painting a radically different picture of the economy.
ON THE SURFACE
... Everything looks great, but the details are unsettling when looking at wage growth and inflation.
According to the GDP report: Excluding food and energy, gross domestic purchase prices increased 1.7 percent after growing by 2.5 percent in the second quarter. Inflation is barely moving and not coming to a roar as predicted.
Real disposable personal income increased 2.5 percent in the third quarter, the same increase as in the second. Between wages and inflation, the net change is a 0.8 percent increase in real wages (2.5 percent to 1.7 percent). Real wages is the net consumers have after factoring for inflation – essentially the net gain in purchasing power. This meager increase in real wages is not enough to sustainably drive an economic expansion.
WHY HOMEBUILDERS HAVE TANKED?
As GDP numbers continue to grow, the S&P homebuilders index has fallen 30 percent. Why has it fallen so far as GDP continues to boom? With the economy plugging along, one would expect consumer to increase long-term purchases.
Without meaningful real wage growth consumers are unable or unwilling to make larger purchases. In many markets, this is now reflected in greatly reduced sales. For example, in Denver, sales above $500,000 have fallen 44 percent, when comparing September 2017 to September 2018. Real wages are not growing fast enough to compensate for the rise in property values.
Rates have risen substantially crimping buyer power. The10-year treasury rates have soared substantially and driven up 30-year mortgages above 5 percent from a low of around 3 percent. Without wage growth, consumers can’t absorb such a large increase and therefore have refrained or delayed buying properties, which is felt through homebuilder stocks.
Looking at GDP and the market are two very different ways of examining the economy. Q3 GDP is driven by non-sustainable items including government spending along with increased debt/decreased consumer savings. Over time, consumers and government entities cannot sustain deficit-spending to drive growth. As the saying goes, “You’ll have to pay the piper," and the piper will need to be paid sooner rather than later. When that happens, the economy will shudder, and GDP will reflect the shift.
Real estate undoubtedly will be impacted as prices/volumes adjust to the changes in demand as the piper comes calling.