Key Drivers of the U.S. Economy Going Forward

During the past three years, the U.S. economy has enjoyed enviable growth and strength, and at the beginning of 2020, its progress seemed unassailable. Housing construction and existing home sales were growing, unemployment was at record low levels, and personal income and business profits were rising. This was before the advent of the worldwide COVID-19 pandemic.

For the first time in history, the U.S. turned off a significant portion of its economy to fight a global pandemic, and it did it in conjunction with most of the industrialized world. The federal government declared the pandemic a national emergency on January 31, 2020. Individual state governors used their authority in this emergency to classify some industries as essential and many others as non-essential. Essential industries such as hospitals, food producers, and transport firms were allowed to remain open and function under certain medical guidelines designed to impede the spread of the virus. All other industries were forced to close temporarily. Individuals were asked to shelter-in-place, and many firms instituted work-from-home policies from March through early June of this year.

Beginning in June 2020, some businesses in some states were allowed to open, and restrictions relaxed. This is all new, uncharted territory for businesses and the economy, and lacks any previous precedents. Here is what we know so far as it pertains to the U.S. economy currently and the implications of this unique economic situation:

• Closing “non-essential” businesses and the ripple effects of this action was like shutting down about 25 percent of the U.S. economy, given estimated business revenue and consumer spending lost to GDP.
• Unemployment rose to 14.7 percent in April 2020, with 23 million people out of work. However, unemployment in May fell dramatically to 13.2 percent as 2.3 million Americans returned to work.
• Bankruptcies and closures among retail stores, restaurants, theaters, and other firms have risen significantly. By year-end 2020, 80,000 businesses closed in the U.S., 75 percent were local businesses (local means has less than 5 locations).
• Unlike previous recessions, this one is not a financial collapse. The banks and financial institutions largely remain strong, and the Federal Reserve has pumped trillions of dollars of liquidity into the financial sector and direct to businesses. Normally such deficit spending causes a currency to collapse and inflation to rise markedly. Still, the U.S. economy is the world’s strongest, so the U.S. dollar is safe, and inflation likely will remain tolerable for now.
• The U.S. Treasury has provided individuals with cash payments of $1,200 per person, and grants have been made to small businesses to maintain employees through the pandemic emergency. Also, low-interest loans (at 3.5 percent APR) are being offered to small businesses, and major corporations are being offered low-rate loans with their common stock as collateral.
• The construction sector largely has been unaffected by the financial aspects of the pandemic, though some states saw fit to close activity in this sector.
• Work-at-home scenarios likely will extend beyond the pandemic period for some businesses. This reduces company facility costs, employee commuting, and travel expenses, while improving work-life balance at the expense of employee camaraderie, physical presence, and work supervision and administration.
• COVID-19 vaccines have been fast-tracked for use, and herd immunity (individuals with COVID-19 antibodies from the vaccine or prior disease contact) now encompasses an estimated two-thirds of the population, accelerating the return to pre-pandemic conditions.

Positive aspects of the current economic situation and assumptions regarding the key drivers of the U.S. economy going forward:

1. The financial sector remains solid and should be able to help businesses bridge over this trying economic situation as the economy and businesses open and new firms start up to fill the void left by closed or defunct firms.
2. Although unemployment remains elevated as businesses reopen, this rate is expected to decline quickly as the massive federal stimuli have financially maintained many firms and their employees through the crisis. Still, due to business closures and changes in consumer habits, it is expected that pre-pandemic employment levels likely will not be reached until 2022.
3. We are experiencing more individuals resuming activities such as visiting restaurants, visiting houses of worship, flying in airplanes, riding public transport, attending sporting events and concerts, etc. By this summer, such activities will be back close-to-normal participation levels. This is based on the assumption that people will not see a major spike in COVID-19 cases during the second half of this year and that broad mitigation policies are no longer required or considered effective against this virus, given its known characteristics.
4. Federal spending for Coronavirus relief and economic stimulus programs has amounted to $2.4 trillion in 2020, and this is in addition to the $4.8 trillion federal fiscal 2021 budget previously approved.
5. Although real consumer spending is up, the personal savings rate also is up to 21 percent of disposable personal income in Q1 of 2021, which is a positive sign for future spending.
6. Although existing-home sales will rise to 5.78 million units in 2021, it is forecast they will rise again in 2022 to 5.82 million, pushed by low-interest rates, rising employment, and income. Existing home sales bode well for residential remodeling as consumers refit just prior to selling a home and just after buying an existing home.
7. Housing construction volumes in 2021 will experience moderate growth to 1.466 million units and average around 1.5 million units through 2026. Even better is that housing construction throughout the period will be skewed to single-family housing units (+70 percent) throughout the 5-year forecast period. Single-family houses tend to possess significantly more average floor area (2,500 SF/unit) than multi-family units (1,350 SF/unit).
8. Non-residential building rehabilitation will not see growth until 2022, as corporate profits revive in 2021 after two years of weak earnings and as firms evaluate what their true requirements will be for space, workers, and enhanced productivity. Of course, this situation will vary by building type, with healthcare and education buildings moving faster to upgrade their facilities, and lodgings slowest, as tourism and travel recover more slowly.
9. Non-residential building construction will find similar market dynamics as non-residential building rehabilitation.
10. Higher energy costs and lower global economic activity, along with worker shortages, will hamper logistics and will keep raw material and production costs and prices higher in the short run.
11. The U.S-China trade war and the subsequent tariffs on Chinese imports to the U.S. (plus U.S. exports to China) are forecasted to continue at least through 2022 and likely throughout the forecast period.
12. More foreign firms will establish flooring manufacturing operations in the U.S. given domestic production and inventory advantages, tariff avoidance, an expected weak U.S. dollar, and rising labor costs abroad.

There are many downside risks related to this forecast. The risks mostly are related to COVID-19, the unprecedented nature of these events, the impact on the U.S. economy, and subsequent policies implemented to fight the spread of the virus. Specifically, the concern is how the economy will revitalize in light of the aftermath of the pandemic. Some of the most important risks include:

1. Consumers do not return to normal, or states extend mitigation policies, and the economy does not return to pre-virus patterns as quickly as forecast.
2. Fewer firms reopen for business than predicted, exacerbating unemployment, prolonging the economic recession, and/or driving the economy into a depression.
3. Federal and state governments closing a major portion of the U.S. economy and shuttering many persons in their homes to fight the spread of the pandemic is unique and without precedent. As such, there is no historical context to provide any guidance for econometric or market models to predict the economic or market outcomes of such actions accurately. Miscalculations resulting from such unprecedented events are quite likely.
4. No new taxes that could significantly hamper consumer spending or corporate investment are expected. No major shifts in tax policy, industry nationalization, wealth redistribution, or other significant changes to the structure of current U.S. business or social policies are foreseen.
5. The significant and fast-growing federal budget deficit is assumed to not cause moderate inflation and not collapse the U.S. Dollar. This factor presents a major risk to the health and stability of the U.S. economy if found to be wrong.
6. Although the U.S. stock market remains strong, a risk to this analysis is that a major downturn in the market could trigger a significant decline in the U.S. economy.

Santo Torcivia is president of Market Insights LLC in Reading, Pennsylvania. He can be reached at 610.927.2299 or storcivia@marketinsightsllc.com.