Magazine article Real Estate Issues

Focus on the Economy: Expect Big Changes in the Next Five Years

Magazine article Real Estate Issues

Focus on the Economy: Expect Big Changes in the Next Five Years

Article excerpt

TO HEAR THE GENERAL RUN OF ECONOMIC COMMENTARY, you might think that its primary article of faith was penned by Sir Isaac Newton: "Objects in motion tend to remain in motion; objects at rest tend to remain at rest." Following Newton's law of inertia, we might expect that tomorrow will be like today, only more so.


For optimists, the governing expectations derive from the relatively high-growth, low-inflation economy the U.S. has enjoyed, with just a couple of interruptions, since the mid-1980s. Based on that experience, today's employment generation of more than 2 million jobs annually, an unemployment rate of less than 5 percent, sustainable real gross domestic product expansion of 3.5 percent or more, high productivity and vigorous consumption should frame our baseline for the coming years.

Not so fast, say more dour types. Look at trends in the national debt--now pushing toward $9 trillion--a trade deficit soaring past 6 percent of gross domestic product, looming shortfalls in Social Security, and the ever-growing debt of U.S. households. Factor those patterns into the future and abandon hope.


Rather than choose sides, I'd like to challenge myself to consider how the next five years will be different from the last five. Though all forecasting is fraught with uncertainty, I am quite confident that 2006-2010 will be different from 2001-2005. The issue, of course, is just how. I'd like to sketch several changes that seem highly probable to me, with the promise that I will provide greater detail about those changes in future columns.

Here goes:

1. The later years of this decade will consist mostly of the expansion-to-peak phase of the business cycle.

The year 2001 marked the onset of a recession, the end of the great bull market of the 1980s and 1990s on Wall Street, and the catastrophic events of Sept. 11. Though GDP growth resumed with surprising swiftness, employment losses persisted, the technology sector remained depressed and stocks spent years declining or stagnant. Corporate strategies seemed driven more by anxiety than ambition.

Real estate was one of the few bright spots, but even in our industry worry shadowed any sign of strength. Common portents of doom included the so-called disconnect between capital appreciation and weak market fundamentals and the alleged bubble market.


By 2005, most Americans understood that we had truly dug out of the hole we entered in 2001, and were not about to fall right back in. At mid-decade, we could talk comfortably about an economy in recovery.

We can expect several transitions as that recovery matures. Consumption no longer will be the sole driver of growth, and may indeed give up a couple of points in its share of GDP as business-fixed investment increases. Strong corporate profits--now at their highest rate in 40 years as a percent of national income--can readily fund those investments. But more important, businesses will have a strong motivation to make those investments.

Businesses will realize that making investments that drive stock prices upward through earnings growth can no longer be primarily about expense control, but instead should spur improved output and increased market share. That dynamic is very different from the first half of the decade. It implies investments in plants and equipment, surely, and suggests personnel increases as well. Price-earnings ratios, in the stratosphere in the late 1990s, have come back to more normal levels, so companies will need to be aggressive in pursuing earnings opportunities and will spend money to make more money--until we hit the next peak.

2. Commercial construction slacked quickly in the early 2000s and stayed down for years. The later years of the decade will see an acceleration in construction.

The so-called weak fundamentals for commercial real estate came about for the usual reason: Demand contracted suddenly, but the supply chain could not shift gears quickly enough. …

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