2020 Bay Area Economic Projections: Real Estate Impacts

MM:You gave a great presentation at this month's Real Estate Principal luncheon hosted by the EisnerAmper San Francisco office. It was by far fantastic. It's the second year in a row. We've had almost a hundred folks in attendance, and you literally knocked everybody's socks off at that with your presentation.
PK:It was really my pleasure, and it's really nice to hear that, because I have a lot of fun doing it as well.
MM:Well, we love having you. I want to give our listeners some key takeaways from your 2020 economic forecast. First, what can you tell us about the current state of the national economy, and where do you see it going in 2020?
PK:Absolutely. So let me hit a few of the highlights from my presentation, and I can reference a few slides here and folks can go online and sort of listen along. Despite the slow global growth, uncertainty surrounding trade and a weak manufacturing sector, US GDP has continued to chug along. It's not in the 4% and up range that you would see during a really hot economy, but we're seeing 2% and change quarter after quarter, with one or two exceptions here or there, and that's really pretty solid, and maybe even preventing us from hitting what we economists like to call a melt up situation, which is when you grow too fast, something eventually overheats and that's what usually leads to a downturn. So all in all, things are great there. Some sort of sub indicators of the economy, industrial production was doing pretty well. This is sort of orders from the manufacturing sector and other production sectors that signal to us how companies predict sales will be into the future. That was all doing pretty well and on the upswing, but over 2019 we saw some faltering. That could be due to rhetoric around trade. That could be concerns about a recession. We're not really sure, but seeing that falter a little bit is a bit worrisome.
MM:Does this mean that we could be in for a long deep recession?
PK:Every recession that we have had since the financial crisis, actually since the mid-50s has been increasingly worse. So this last one took us 120 months to recover from, which was just unprecedented. While unemployment is finally below its pre-recession levels, the employment to population ratio is still far from recovered. So the way ... again, a little bit wonky, but the way economists talk about the unemployment rate is the number of people employed of all of the people looking for work or with a job. Now that obviously doesn't account for children, retirees, the disabled, and other things in our economy, and normally that ratio holds at a fairly steady level, because the number of children and retirees is usually pretty consistent. When that rate goes down, it means that we have, in this case, tens of millions of working age Americans for some reason not participating in the labor force.

That could be disability insurance rates are way up. That could be the opioid crisis. That could be what we call structural unemployment, folks just had a specialty in whatever field that was and couldn't find retraining, and so they look for jobs for some amount of time, but eventually call it quits, and so all of those are sort of not things that bode well for us going way into the future. That's really a structural problem.
MM:With that in mind, you are both Bay Area guys, this economy's been ripping and roaring, will this continue in the Bay Area?
PK:Yeah, really great question. So I've got quite a bit on this. The Bay Area GDP and employment growth have just been ... I'll use the word fantastical, and I'll mean it in its true sense. Had you told some folks what GDP and employment growth would look like in the Bay Area around the time of the financial crisis, they would've said that's pure fantasy. We're seeing GDP growth in the region at 4% and 5% following the recession, and now 6 and change, sometimes 7 in change percent, and so that's just really spectacular stuff. Regional unemployment is 2.1% at the end of last year. Then you get into stuff comparing us to other metros. So our sub metros of San Francisco and San Jose are just vastly outperforming other metros. One statistic I like to remind folks of to really put this in context, because you know, the percentages are just what they are and it's a little bit hard to envision, okay, the difference between five and six and all that kind of stuff.

In 2015 the San Jose metropolitan statistical area, so the region the census defines the San Jose is actually Santa Clara and San Benito County, just below it, but mostly Santa Clara County, grew faster than China in 2015. So when you see these pictures of China with a couple of dozen cranes in the frame, 80 story buildings right next to each other, just vast infrastructure products, all of that, San Jose is growing faster.
MM:Unbelievable.
PK:Yeah.
MM:That's phenomenal.
PK:Really hard to imagine, really. Now part of this is what everyone likes to talk about, high technology. So our shares in high technology have gone up to the point of San Jose's economy is now more than 20% high technology, and that's direct employment in high technology. San Francisco is about 17-18% but on the upswing, and important to recognize, like I mentioned, that that's just direct employment in high technology. Now the Bay Area is known for large financial services industries, insurance industries, and other things, our venture and private equity industries. All of them, increasingly as this industry makeup has shifted more and more reliant, their business is reliant on tech now, and so it's something to keep an eye on.

Tech has diversified quite a bit, so it's not just social media apps like folks think, and it's not just the original chip manufacturers and others that are down in Silicon Valley proper, which folks actually forget about, still very important. The world still runs on computer chips for the moment, but it's now everything else. It's healthcare tech. It's construction tech. It's -
MM:It's really diversified.
PK:Yeah, the internet of things, smart cities.
MM:Okay. You've just laid out a lot of good news. What is the biggest threat to the economy here in the Bay area?
PK:A few things. You can put them into two buckets. So there are national threats, which thus far, we might've said we would have expected to have a bigger impact than they did, but they're not really showing to, so all this trade war stuff could be really bad for us. Tightening H1B VSOs and sort of other anti-immigrant rhetoric could be really bad for us. The Bay Area was built on attracting the best and the brightest from everywhere. Really our talent pool has relied on that for decades now, including how it all originally got started. So all of those are sort of things that make us a little worried. If companies can't find the talent, that's a problem, and then the domestic bucket I'll put into, or the more local bucket is our housing, transportation, and inequality crises.
Michael Morris:
Right.
PK:The region is only so big. It has in many areas done its best to add very little new housing, and so as these companies have grown and grown and unemployment has dropped, people have to come from somewhere, and we haven't really done a great job at either investing in more Metro service, more high speed rail, more all of that stuff. We also haven't built the housing, so folks can't live close to their jobs, and so we're increasingly outsourcing a lot of the work to areas in the Sacramento, the North Central Valley, the San Joaquin, what we're now calling the Northern California mega region, but those folks face very long, very arduous commutes, sometimes for wages much, much less than a lot of the folks living and working in the Bay Area, and so at some point something's got to break. At some point companies will face such a severe challenge in growing that they have to do something about it, and by do something about it, I mean add offices elsewhere, or some of them are choosing to even move.
MM:Unfortunately, that's true.
PK:And it's tough.
MM:We've been fueling the entire West coast. All the other cities around us have been fueled by the Bay Area.
PK:That's right, and that it's this spectacular growth that we're seeing, yet again. Traffic's up. Housing costs are ... now I'm kind of thinking to myself, we'll see, because I've always been proven wrong. They continue to go up, but folks have started to talk now about housing prices may be stalling out because they're now so high that the pool of folks who can afford that is getting very low, and so we'll see what happens there too, but all really interesting stories to watch.
MM:Well this is fantastic. Patrick, thank you for sharing this valuable information, and thanks to our listeners for tuning into Breaking Ground, Real Estate Insights from EisnerAmper. Visit eisneramper.com/re for more real estate news you can use and join us for our next podcast.