This Week’s Note
april 28, 2023
This Week’s Developments in the US Economy
The Effects, Intended and Otherwise, of Tightening Monetary Policy
In a week dominated by headlines of continued banking
system volatility and degrading market confidence in First
Republic Bank, there is increasing evidence to suggest that
tightening monetary policy is having an effect, though it is
unclear if the effects produced thus far are the intended ones.
The effects on domestic growth are beginning to show as
the Q1 2023 GDP print came in at 1.1% QoQ (annualized),
which underperformed expectations closer to 2.0%. While the
quarterly data suggests that consumer spending increased
for both goods and services, March data released on April 28,
2023 shows spending was flat MoM, falling from 0.2% and
2.0% from February. The deceleration of the pace of consumer
spending through the quarter indicates that activity is leveling
off, and we have yet to see a meaningful decline in response to
the Fed’s continued efforts to tamp down demand. Up to this
point, the US consumer appears to be relatively unfazed by
rate hikes, while we see evidence of declining residential fixed
investment, led by new single-family construction, and private
investment overall—this is concerning to the extent that if we
see unintended supply shortages as a result.
As we await the Fed’s decision on rates next week, we
analyzed components of GDP to gain a better understanding
of the economy’s performance over the past three months.
Although consumption came in above consensus at 3.7%, it’s
crucial to examine the drivers of this component. Durable
goods, specifically motor vehicles and parts, saw a spike in
consumption in January. Despite falling MoM in February,
the bulk of the increase in consumption was driven by
durable good consumption in January, and hence the upward
trajectory in consumption may be sustained in subsequent
quarters.
While overall consumption expenditure is providing mixed
signals, investment expenditure is offering leading indications
of a broader slowdown. Lower capital outlays and tightening
credit conditions were likely drags on investment as the
quarter progressed, and we began to see banking system
volatility. Investment in equipment continues to drop from Q4
2022 indicating businesses responding to slowing demand.
Residential investment in multifamily, which increased 44.8%
in the prior quarter, slowed significantly to 10.1% in Q1 2023.
Single-family investment posted a decline of negative 20.7%
following negative QoQ prints of 37.1%, 38.5%, and 9.5% in
each of the previous three quarters. With high borrowing costs
and falling consumer confidence, we expect this declining
trend in residential investment to drag further. Another
major contributor—change in private inventories drew GDP
down further by negative 2.26 percentage points. Weakening
consumer confidence is evident through Conference Board’s
recent readings on future expectations, and lack of capital
investment signals future cutbacks in production that could
manifest in a negative feedback loop in the labor market and
the broader economy in general over the next few quarters.
Global Developments and Their Implications
European PMI Numbers Indicate Economic Expansion
While persistent high inflation and slowing GDP numbers
suggest a trajectory toward an economic downturn in Europe,
recently released S&P Global Flash PMI and ifo figures paint
a different picture of resilience. In our view, this is likely to
bolster the resolve of central banks to tighten monetary
policy to further restrictive levels as Inflation continues to
soar in many parts of Europe. The UK is still facing double
digit headline CPI of 10.1% and the Eurozone is experiencing
sticky core CPI despite a deceleration in headline CPI. The IMF
released a contractionary -0.3% 2023 GDP growth projection
for the UK and 0.8% for the Euro Area this month.
Despite the gloomy economic outlook, the German ifo
Business Climate Index saw its sixth consecutive increase
in April numbers with manufacturing showing concerns
regarding the current business situation but a heightened
optimism on future business expectations. Furthermore,
S&P Global Composite Flash PMI, and indicator for economic
growth derived from Services PMI and Manufacturing PMI,
came in higher than expected for the Eurozone, UK, and
Germany at 54.4, 53.9, and 53.9 respectively. In all three
regions the increase was driven by a rising Services PMI
Index. Manufacturing PMI, while seeing dampened current
demand, faced slowed input cost growth, and resolved
supply chain issues, a likely driver of ifo Business Climate
manufactures’ apprehensive take on present circumstances
and the progressively optimistic view on future developments.
The continued growth in post pandemic demand for services
seen in the Services PMI paired with a persistently strong job
market may present additional price pressures within the
services sector.
The economic resilience the Flash composite PMIs are
displaying will potentially increase the confidence of the
Bank of England and European Central Bank as they consider
further rate hikes. Thus, we expect both the BOE and the ECB
to increase interest rates during their May meetings.
US Real Estate Landscape
Low-Rise Apartment Construction May See a Comeback
The latest RealPage data suggests that the share of lowrise
garden style property development may be ticking up
after years of falling behind the pace of other product types.
Additionally, newer garden style products are expected to
have larger unit sizes. Demographic shifts and changing
consumer preferences have contributed to this trend over
the past few years, and with these changes becoming more
pervasive, we expect newly constructed low-rise garden style
property share to increase in the total housing stock.
Low-rise garden style properties made up the majority of
new construction before the Global Financial Crisis (“GFC”).
In the years following, construction slowly shifted toward
the production of more mid- and high-rise assets. However,
starting in 2019, momentum has shifted back to the
construction of low-rise suburban garden style apartments.
An older renter demographic and changing preferences in
terms of quality of life, the need for more space, all signaled
increased demand for evolving the product type. Despite an
increasing share of high-income renters, who are grouped as
renters by choice, economic factors such as increasing home
prices and rising mortgage rates are creating barriers for this
renter demographic to access the homeownership market.
With the increasing age of the first-time homebuyers, we are
seeing a segment of the demographic remain as renters who
need more space for growing families, remote work, and
convenience. Based on the data, we are seeing that developers
are responding to these signals – by bringing in more low-rise
garden style products to the market as well as increasing the
size of the units. The low-rise units are on average 139 SQFT
larger than the high-rise units constructed between 2019-
2022. The spread was 86 SQFT between 1990-2018.
This trend in supply may point to a more nuanced type of
multifamily asset - Class A suburban low-rise - catering to the
renter by choice segment who have the flexibility to live away
from the city center and prefer more space.
Market Rates, Catalytic Indicators, and the Week Ahead
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