Sober Truth
[The Registry September 2011 Issue]
I wake every morning and thank my lucky stars that I live in the Bay Area, one of the few bright spots in an otherwise gloomy national economy. Never mind that we are also struggling with more than 9 percent unemployment, we are creating jobs and freshly-minted millionaires, some of whom have even begun to shave. But is our recovery a false dawn?
Beneath the shiny exterior of the Bay Area’s economic surge is a soft and fermenting core. Because misery loves company it’s only fair that I share my findings with you, so we can commiserate with a virtual bartender and forge a bond of commonality—a convergence of reluctant awareness.
How bad is the job market? Would you believe that in a poll conducted by Newsweek, some Americans were willing to work for 25 cents an hour? That’s right–twenty five cents! In a survey conducted by Mechanical Turk on behalf of Newsweek, American freelancers were willing to accept the lowest pay in the world. Lower than the Philippines, Romania and Egypt; lower than Australia, Canada and India.
What are other economic indicators telling us? Here are some recent markers that may make you want to start your cocktail hour early. Cheers! from your buddy, Peter.
In June, a mere 18,000 jobs were created. On a base of 131 million jobs, this is the equivalent of zero and the second month in a row where job creation was naught. The Bureau of Labor Statistics’ broadest measure of unemployment tracks discouraged workers and under-employed workers (part-time and/or underpaid based on education) at 16 percent. The first sip is the best!
According to San Francisco-based American Business Analytics, including an estimate of long-term discouraged workers in the calculation puts the real unemployment rate north of 22 percent. The second sip isn’t bad either!
The average time being unemployed has skyrocketed to 40 months, double the average of the last three recessions, and it shows no signs of decreasing. These same unemployed workers will have their unemployment benefits expire between now and the end of the year. Expect foreclosures and bankruptcies to continue to climb. A toast to the legal system!
According to Moody’s Analytics as reported by The New York Times, close to $2 of every $10 that went into Americans’ wallets last year were payments like jobless benefits, food stamps, Social Security and disability. Mark Zandi, the chief economist for Moody’s Analytics, notes, “Unemployment benefits, including emergency and extended benefits, are more than three times their pre-recession level. The nearly 20 percent of personal income now provided by the government is close to a record high.” By 2011’s end, those payments will disappear. Let’s have another drink while we ponder the impact of those disappearing checks on consumer spending.
According to Bloomberg, the Thomson Reuters/University of Michigan preliminary index of consumer sentiment decreased in June to 63.8, the weakest reading since March 2009 and a 12 percent drop in 30 days. Consumers may be gloomy, but they’re not dumb; they know times are tough. Bartender!
Social Security rolls are exploding due to baby boomers taking early retirement in lieu of finding gainful employment. This adds to the deficit and national debt because outflows for Social Security payments have exceeded the inflows since March 2010. This crossover was not projected to occur until 2017. Its early arrival reflects the fact that baby boomers who lost their jobs by and large were near the top of the pay scale and have not been able to find jobs at close to their historic salaries. Middle management is the first to be axed in a downturn and the last to be hired back. Because mergers and acquisitions remain strong and consolidation in various industries continues, middle managers will continue to be under siege. Given baby boomers’ ages, they are competing against younger and more tech-savvy workers who are asking far cheaper salaries. Additionally, ageism is rearing its ugly head. It’s unlikely that a majority of baby boomers will be able to secure high-paying jobs to take them into a cozy retirement. Let’s have another round!
As reported in The Wall Street Journal, the dollar stores—Dollar General, Family Dollar and Dollar Tree—which sell steeply discounted food and household staples to working-class families, have reported that their gross margins shrank due to “shoppers’ inability to afford more discretionary items.” In other words, work-class families’ budget are so tight that they can’t even afford a $5 toy for the kids. Criminy, that’s sad!
There is 37 percent more consumer debt today than 10 years ago and more residential mortgage debt than five years ago—a total of $9.9 trillion, according to a recent report in The Wall Street Journal. Let’s not forget that 23 percent of this residential home debt is underwater because there is negative equity in 23 percent of all homes with a mortgage. That’s roughly $2.25 trillion dollars in bad loans. Not all of this will evaporate, but given a modest 20 percent haircut to face value, this equates to approximately $445 billion of potential losses that banks and other financial institutions will have to bear. From whence will income flow to pay for this debt load? Barkeep, please put this on my tab!
I could go on, but the bartender has signaled that enough is enough.
As real estate investors, let’s not fool ourselves into believing that the underlying fundamentals support the lofty prices now being paid for many assets. It’s true that big investors are driving up prices of trophy assets in major gateway markets like Manhattan, Boston, Washington, D.C., Chicago and San Francisco, but this is a race to quality using super-cheap OPM (other people’s money) from the stock market. A rebound in Main Street commercial real estate, largely the domain of private capital, has yet to materialize. It’s also true that the Bay Area is seeing strong job growth compared to the national economy. But even here, much of the leasing and sales activity is related to lofty stock valuations and initial public offerings floating on the liquidity of the stock market. This liquidity has created a mini-bubble in Silicon Valley, but Stockton still struggles.
High levels of debt and consumer distress are twins, each exacerbating the other. Simultaneously, inflation and high unemployment are taking a significant toll on the earning capacity of the middle class, a middle class that is being handed the check for the costs of the financial crisis and that is increasingly vulnerable to minor economic shocks. Without a viable middle class, the economic recovery and our country are in serious trouble.
Real estate investors should re-examine any belief that the middle class will whip out its wallet and start spending to support demand for commercial real estate. From all indications, demand for commercial property beyond San Francisco, Silicon Valley and major gateway markets will likely remain soft for years.
