2007 Forecast: Economy Cools on Housing Dip

Business

LIKE THE LOCAL WEATHER, the San Diego business climate is affected by two competing sets of conditions. The warm desert winds of low interest rates, appreciating real estate, a growing tourism sector and high-tech investment generally keep the economy toasty. When the market gets too hot, the onshore flow of cooling factors takes charge, including rising interest rates, falling real estate prices and a bumpier ride for tourism and high-tech.

In 2007, economic forecasters expect the onshore flow to visit the regional economy frequently in the first two quarters. The largest cloud is hovering over the housing market, since housing sales drive job generators such as construction, household retail purchases and many financial services.

According to DataQuick Information Services, by autumn, home prices had slid 4.4 percent in 2006. For November, the most recent month for which Data- Quick figures were available, 2,987 homes were sold in San Diego County, a 24 percent decline from 3,937 in November 2005. Prices also took a hit, falling 6.8 percent to $482,000 from $518,000 a year earlier. In the six-county Southern California region, sales fell 26 percent to 20,388, but prices held their own, with the median home price at $487,000, an increase of 1.7 percent. Though an autumn sales decline is normal, DataQuick reports the number of homes sold in Southern California in November was the lowest for that month since 1997.

San Diego’s housing clouds haven’t been caused by greedy local sellers or desperate buyers, but are part of a national slowdown in housing that started in 2006.

“I think the housing market is following the script in the sense that the Federal Reserve needed to slow down the entire economy and raise interest rates,” says Marney Cox, chief economist at the San Diego Association of Governments. “Those sectors that are most sensitive to rising interest rates have slowed dramatically, including housing, as this orchestrated slowdown has arrived.”

In October, the University of San Diego’s Leading Economic Indicators registered a decline for the seventh consecutive month. Among the list’s poorest performers were building permits, indicative of the housing slump, and help-wanted advertising.

“My impression is that 2007 will be a slower year than 2006,” says Alan Gin, professor of economics at USD. “Every national forecast I’ve seen puts gross domestic product growth below 3 percent. In terms of the San Diego economy, a slowdown nationally can be expected to hurt tourism and also hurt local firms that do business nationally.”

The San Diego Regional Chamber of Commerce forecasts only a 2.5 percent county economy boost in 2007. That would still outpace a projected 2.4 percent increase in California and 2.1 percent in the country. In 2006, the county economy grew 2.9 percent but lagged California (3 percent) and the nation (3.2 percent).

“IN MANY WAYS, San Diego has been a harbinger of economic activity, not only for the rest of California but the nation as a whole,” says economist Kelly Cunningham, who prepared the Chamber forecast. “As San Diego led the state and the nation out of the collapse of technology-driven industries in 2000, the region now leads a slowing economy in 2006 and 2007.”

Economists are hoping the housing slump is shallow and short-lived. Some say the doom and gloom is overdone.

“The fact is, housing prices aren’t dropping much at all,” says Alan Nevin, director of research for MarketPointe Realty Advisors. He says the DataQuick numbers don’t account for changes in housing stock.

“It may be that more moderately priced homes were sold than expensive homes, and that would bring down the median,” he conjectures. “What’s really happening is that listings that were probably badly overpriced anyway are being withdrawn from the market.”

In fact, Nevin says December listings for condos were the lowest he’s seen in the previous 10 months. In most cases, the worst that will happen is that some who had hoped to sell will be forced to hold on to their properties until the next upswing.

“But if you’re not going to sell your property, then you’re probably not in the market for a trade-up, and that’s why the number of resales has slowed dramatically,” Nevin says. “Those who have to sell [will] price their properties reasonably, and generally move within 60 days. Listings that are rationally priced sell.”

The distressed sales that come in the beginning of a downturn may also present a distorted picture of the market.

“The numbers on the drop in home values should have an asterisk,” says Gary London, of London Group Realty Advisors. “Those numbers are disproportionately from distressed sales, and because the sellers have to move, it looks like prices are dropping faster than they really are.”

Through the good times, many would-be home sellers settled on a price they wanted, and the market hasn’t yet changed their minds. “People are reluctant to take a hit in their pricing, because they have a psychological price in their heads,” explains London. “If we see only another single-digit decline this year or, say, 10 percent over the last two years, I think that’s sort of a victory, because the predictions were about the bubble and when it would burst, and clearly none of that is happening.”

THE COMMERCIAL real estate market carries very little of the baggage attached to residential.

“Commercial is as good as it has ever been,” Nevin says. “There’s no relationship between what’s happening in residential and in commercial, because supply is not directly related to demand—if somebody wants to build an office building in Carmel Valley, they build it. There are new buildings that haven’t yet leased up, but the vacancy rate in existing buildings is about 10 percent, which is pretty much considered full occupancy.”

London is a bit more bearish. “Commercial is unpredictable,” he says. “We’re coming off a couple of strong years, so it’s unlikely the commercial market can sustain itself as we have seen. And we don’t yet know to what extent the general economy will affect commercial real estate. I’m looking at a decent, but not excellent, year.”

Forecasters say they believe the current slowdown, unlike that of the early ’90s, will be confined to 2007.

“This is a short decline,” Cox says. “I still believe the demand for housing units far exceeds supply, and that the Federal Reserve will be able to correct whatever its policy issues are with inflation during ’07, and when it does, interest rates will go down again and the housing market will rebound.”

Cox is forecasting job growth of about 15,000 in 2007, down from about 18,000 in 2006.

“The question is whether other sectors can step up and take the place of construction on which San Diego has relied for so much of its job growth in the last three years,” says Cox. “The answer appears to be yes; the visitor sector has added new jobs over the past 19 months, and there are new hotels and expansions expected in ’07.”

Employment analysts expect job growth attributed to the tourism and hospitality sector to grow, but slowly. Tourism jobs increased 3 percent to 157,400 in 2006; this year, expect an increase of only 1 or 2 percent, says Gary Moss, a labor market information specialist with the San Diego Workforce Partnership.

According to the San Diego Convention & Visitors Bureau, through October 2006, total visitor spending increased 4.8 percent to more than $5.16 billion. Convention room nights were up 7 percent, and room prices were up 7.1 percent.

Biotech continues to be a source of relatively high-paying jobs in the region. According to San Diego Biocom, biotech accounts for about 36,600 jobs here, and the biotech industry generates about $8.5 billion among roughly 500 companies.

More good news: The state is hiring additional teachers, Cox says. And venture capitalists will pour another $1 billion into the economy, although outsourcing will cut into the number of jobs created by venture capital.

But it’s the housing market that forecasters are watching most intently.

“I’m looking for things to stop getting worse first in terms of sales,” says James Hamilton, professor of economics at UCSD. “I think dropping mortgage rates is a positive, but it takes a while for them to affect sales.”

Some say the “soft landing” has already been achieved. “We have already landed softly, and now we’re on the approach to the gate,” London says. “It’s going to be a one-year approach before we’re up and flying again.”

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