by James Lane | May 27, 2016

April 29, 2016.

Jeffrey Havsy, Chief Economist, Americas Research, CBRE; and James Bohnaker, Economist; CBRE Econometric Advisors


-  Job growth paints an attractive picture of the U.S. economy; GDP highlights the blemishes.
-  The good health of U.S. consumers will safeguard against recession in 2016.
-  Financial market jitters may have subsided, but they are prone to resurfacing.
-  With the Fed more concerned about deflation than about inflation, interest rates will rise at a glacial pace.
-  U.S. real estate will remain a popular investment in the prevailing low-yield environment.


First quarter economic data was a mixed bag, touting optimism one day and stirring caution the next. Financial markets and the headlines they generated in the media added fuel to the fire. Appropriately, these early-year hazards raised the caution flag for investors of all asset classes, and commercial real estate was no exception. With some potential buyers growing more concerned about making mistakes, there was a pause in transaction volume and pricing. This hesitance will likely prove temporary, however. Real estate fundamentals are strong enough to override small capital market movements, aided by the Federal Reserve's gradually tilting interest rates higher. Our baseline forecast for the economy is unchanged; we expect another year of positive growth and view the odds of a recession in 2016 as very low.

Some degree of anxiety is understandable. The slowdown in manufacturing and trade will be evident in Q1 2016 GDP growth, which is expected to be less than 1%. Appreciation of the U.S. dollar—perhaps the heaviest weight on manufacturers—is here to stay. Meanwhile, investment in the energy sector continues to slow even as oil prices creep higher. Global economic growth is fragile, and policymakers are running low on ammunition. You don't have to look past the front page to find reasons for concern.

However, the U.S. economy—and therefore commercial real estate—depend far more on domestic consumer spending than on manufacturing and trade combined. From this perspective, the outlook is decidedly upbeat. The rock-solid job market is boosting consumer spending and confidence. The unemployment rate is at its lowest point in eight years, while the underemployed and new job-searchers are enjoying better opportunities. Budding wage pressures reinforce these positive signals.

Figure 1: Consumers Have Control of the Wheel

Sources: BEA, University of Michigan, CBRE Econometric Advisors, Q1 2016.


The most discussed question in real estate circles today is how close we are to the next downturn. With the last recession having caught us by surprise, the collective mindset has swung to the risk-averse. Indeed, most of the current market negativity stems more from emotion than from substance. There are definite stress points in the economy, but there is even more reason for optimism—and too much focus on what can go wrong can lead to missed opportunities.

Among those who think we are on the verge of recession, we find evidence of "stopwatch thinking": they assume business cycles to occur at set intervals, which implies that time is running out. History says otherwise, though. Over the past 50 years, the average length of U.S. business cycles—as delimited by peaks in the unemployment rate—has been 7.5 years; individual cycles, however, have ranged from less than 4 years up to nearly 12. In other words, a cycle has no expiration date—something fundamental must trigger the downturn.

Figure 2: No Stopwatch for U.S. Business Cycles

Sources: BLS, CBRE Econometric Advisors, Q1 2016.

The usual preconditions for a recession are not observable either. Recessions share the common factors of yield curve inversion, strong inflation and deteriorating confidence—none of which is currently happening. Inversion of the yield curve—meaning that long-term bonds yield lower returns than the short end—is a definitive signal. Although the spread is currently tight by historical standards, that is due more to a massive capital flight into U.S. bonds than to economic fundamentals.

Our second warning signal, inflation, is anything but vigorous. Core prices are accelerating on a year-earlier basis, but it's nowhere near a pace consistent with an overheating economy. The risk of undershooting the 2% target greatly exceeds the chance of overshooting it. The Fed also has plenty of room to tame inflation once it does begin to accelerate. Historically, the Fed has fallen behind the curve on inflation and been forced to tighten quickly, putting the clamps on consumers' ability to finance spending. Once consumers pull out of the game, it is difficult for the economy to avoid a recession. Confidence has been down for the past few months but is still well above levels that would be concerning. It would take a series of adverse events to derail sentiment, given the favorable labor market dynamics.


Although the historically significant warning signs show very little stress, there is always a concern that this time is different. You don't have to look hard to find reasons to be concerned. Stories about a slow and steady recovery do not make for eye-catching headlines; at this stage in the cycle, media and investor reports tend to focus on what could go wrong, even if the odds are slim.

The most publicized threats include Brexit, the U.S. presidential election, a China hard landing, and financial market turbulence. Each deserves consideration, but none is all that scary in terms of its potential impact on U.S. growth. In the expansionary cycle since 2010, the economy has survived a series of adverse events without irreparable damage. The Obama administration faced numerous foreign policy issues in the Middle East and Russia, and the emergence of ISIS as a prominent terrorist organization. There was also a severe Tsunami in Japan, a near breach of the U.S. debt ceiling, and the euro zone debt crisis. In hindsight, these obstacles were far more precarious than anything in the current landscape.

Figure 3: Idiosyncratic Shocks Do Not Dictate the Cycle

Source: CBRE Investor Intentions Survey, 2016.

The problem is that we cannot perfectly see which threats are looming. Natural disasters, terrorism, and geopolitical developments are nearly impossible to predict; even financial markets and elections can be erratic. As damaging as such events can be, though, they do not necessarily spell doom for the domestic economy. All types of shocks happen at every point in the business cycle and have not historically been catalysts for a turning point—though they can move the needle in one direction or another.


We maintain an expectation for more of the same slow, steady economic growth over the next couple years. The GDP growth forecast for 2016 is 1.6%—not booming, but still respectable, given the headwinds. The job market will add about 2.4 million jobs this year and 1.7million in 2017. Activity will slow in 2018 as the business cycle runs its natural course, characterized by stronger inflation, the dollar's continued strength, higher interest rates and low unemployment.

It is natural for investor sentiment to waver the longer an expansion lasts. The Great Recession taught us to be suspicious of the good times; no one wants to be caught holding the short end of the stick this time around. Jitters in real estate markets are greater than they've been in recent years, but that doesn't mean we are at the end of the road. Some of the present concerns are justified, but others are rooted in emotion.

Real estate investment activity has taken a breather these past few months, though we still expect modest growth this year. Market fundamentals are underpinned by robust growth in employment and consumer spending, and accommodative monetary policy will help to juice activity. The Federal Reserve has pivoted to a more cautious view; Janet Yellen and her colleagues would rather risk overheating the economy than have it mired in stagnation.

Figure 4: Economy Will Glide to a Slower Pace

Sources: BEA, BLS, Federal Reserve, CBRE Econometric Advisors, Q1 2016.