Down but not out

Quick takes:

• GDP growth slowed during 3Q
• Weaker consumption and investment 
• Economy remains vulnerable to disruption
• Fed set to announce tapering this week
• CRE outlook remains positive

As expected, economic growth markedly decelerated during the third quarter. Annualized growth of 2% came in below the consensus view of 2.8% and somewhat below our expectation of 2.5%. That represents the slowest quarterly growth rate since the economy began recovering in mid-2020. Growth during the third quarter marked the transition from recovery to expansion as it looks to become more sustainable despite ongoing disruptions. We continue to see the disruptions from last quarter as a speed bump, not a roadblock, and we see signs that the economy is already moving past this rough patch. We will discuss our forecast in our third quarter outlook next week, but for now we maintain a positive view toward future economic growth.

Still a bit wobbly

The disappointing growth rate during the third quarter demonstrated that despite fully recovering all the GDP lost during 2020, the economy remains vulnerable to disruptions. Consumption spending by consumers slowed notably during this quarter. The resurgent pandemic due to the Delta variant played a pivotal role. As COVID-19 cases increased once again, demand for activities that require personal interaction declined, particularly at dining/drinking at establishments. TSA checkpoint volume also pulled back as demand for travel waned. Auto consumption also declined notably, dragging down growth in durable goods. The decline in auto purchases also reflects two other phenomena holding back the recovery – ongoing supply-chain disruptions and higher prices. While neither should derail the expansion, they highlight that the economy still has a bumpy road to navigate.

Growth In Select Categories - 3Q2021

Private investment also pulled back during the quarter, most notably in residential and nonresidential structures.  Higher input prices and scarcity weighed on development. Investment in intellectual property products remained robust, a trend that we believe will continue through the next business cycle, even if the pace slows at some point. Net exports continued to drag on economic growth, with imports continuing to outpace exports. U.S. consumers continue to outpace their foreign counterparts, largely due to vaccination and fiscal stimulus. Though the gap in vaccination rates around the world is shrinking and fiscal stimulus is fading, we expect excess demand from U.S. consumers (relative to their foreign peers) to continue producing negative net exports on a sustained basis, the norm for the U.S. economy. Lastly, government expenditures eked out a slight gain, but the underlying details reflect the shifting lanes of government spending. As fiscal stimulus winds down, federal government nondefense spending keeps pulling back, following a burst of activity during the first quarter. This looks like what occurred during 2020. But unlike last year, spending at the state and local level is ticking up as these governments (somewhat surprisingly) find themselves with cash to spend. 

Taper tranquility

When the Fed meets this week, it will likely announce that it will start tapering the purchase of assets. We anticipate a significant decline, but not a halt, to monthly purchases. We anticipate that the rate should fall by as much as 90% from its current pace of $120 billion per month. While this means that the size of the Fed’s balance sheet will continue to increase, the pace should slow considerably on both an absolute and relative (to the size of the economy) basis. That should help set the stage for rate hikes which we anticipate should arrive in the latter half of 2022. With the Fed better managing its messaging than it did during the last business cycle, we see less disruption in the asset markets from tapering this cycle. Nonetheless, the Fed will need to keep managing its views toward asset purchases, rate hikes, and inflation or risk potential fallout in markets. 

| What else we are watching this week |

The ISM manufacturing index for October should show a slight decline. While businesses deal with some disruptions, the manufacturing sector remains strongly in expansion territory. The ISM services index for October should see little change with services continuing to expand broadly. The employment situation release for October should show a net job gain in 400,000 to 500,000 range, bouncing back from some temporary slowing in recent months. We expect the headline unemployment rate to decline slightly while wage growth should proceed apace. 

| What it means for CRE |

Commercial real estate will take third-quarter GDP in stride. The markets view the disruptions that restrained growth as temporary. As the factors that held back GDP abate and growth accelerates, CRE of all types stands to benefit. We will elaborate on details next week, but for now we maintain the view that CRE is not only seeing past the 3Q data but even the anticipated 4Q rebound. With an eye toward the next economic expansion and business cycle, we foresee space-market fundamentals continuing to improve while capital markets remain buoyant. Risks to the outlook remain, but they seem unlikely to derail the expansion presenting fertile ground for CRE to advance.

| Thought of the week |

Annual investment in the oil industry has fallen from $750 billion in 2014 to an estimated $350-$400 billion this year.