An Important Crossroad

The U.S. economy stands at an important crossroads. As the economy struggles with high inflation, government spending and deficits, and threats of a growing war in Ukraine, whether it can avoid recession will be determined by events and decisions that are difficult to discern. Increasingly, economies of western nations are being influenced by policies and politics emanating from governments that are both growing in size and power. This government power is manifested in both regulatory and legislative intervention into the mechanics of the economy. Given that the ability to influence the economy is moving from the market to the political sphere, it is becoming more difficult to understand and model the forces driving economic change. At any rate, it is important to evaluate the near-term changes that are and will occur.

Some bright spots in the U.S. economy:

Housing starts have slowed due to weak, but improving housing affordability, high housing prices due to material cost inflation, and high mortgage rates. However, although starts will fall to less than 1.1 MM units in 2023, bottoming in Q4/2023, a shift is occurring towards smaller multi-family units (rising from traditional 27 percent to 35 percent of total starts) and away from larger one-family units, before transitioning back to one-family units in 2024 as interest rates, inflation, and prices fall. Starts will reach 1.3 million total units in 2024 and 1.5 million total units in 2025, a strong showing.
Employment is growing, gaining 4 million jobs in 2022 as unemployment falls to 3.5 percent at year-end 2022 (25 percent of new hires in 2022 went to the hospitality industry, 25 percent to education, and 10 percent to manufacturing). Employment finally is returning to pre-COVID levels as government payments are now expiring.
Consumer spending continues to grow, but at a slowing rate (1.7 percent in 2023). Inflation-adjusted spending is currently being fueled by savings withdrawals and rising credit card debt as inflation-fueled prices take a bigger bite out of household income. Also, higher employment means more people with more money to spend.
Homeowner improvements will grow 8 percent through 2023 as consumers spend more on making homes more livable, given weaker housing affordability and uncertainty surrounding remote working stipulations.
Interest rates, including mortgage rates, remain elevated, the result of increases in the Federal deficit, Federal Reserve Discount Rate increases, and inflation. Interest rates are anticipated to fall slightly but continue at current levels through 2024 as the Federal Reserve raises the discount rate to curb rising inflation. In the end, interest rates are rising but remain barely manageable given the average 30-year fixed mortgage rate was 6.3 percent in January 2023 and the prime rate was 7.3 percent. Home equity is rising as prices increase.
Real non-residential investment in structures, a measure of the inflation- adjusted investment in total new non-residential construction, is rising and should continue to strengthen. Also, the AIA Billings Index fell to 49.3 in January 2023. Commercial construction is forecasted to grow through 2023, slowing during the second half of 2024 as higher interest rates take their toll.
Office vacancy rates have been rising over the last four quarters, reflecting the uncertainty of remote versus office working policies. With the current vacancy rate at 15.9 percent, it is expected that office remodeling will slow during 2023 until the issue of remote work is finally resolved.

Bright Spot in the U.S. Economy

Interest rates, including mortgage rates, remain elevated, the result of increases in the Federal deficit, Federal Reserve Discount Rate increases, and inflation. Interest rates are anticipated to fall slightly, but continue at current levels through 2024 as the Federal Reserve raises the discount rate to curb rising inflation. In the end, interest rates are rising, but remain barely manageable given the average 30-year fixed mortgage rate was 6.3 percent in January 2023 and the prime rate was 7.3 percent. Home equity is rising as prices increase.

Factors threatening the U.S. economic situation include:

Inflation remains a serious threat to economic stability. It has caused the dollar to decline, prices to rise, consumer purchasing power to fall, and interest rates to increase; all of which threaten to push the economy into a major slowdown or recession if left unabated.
Energy prices remain high as the federal government has made investments in fossil fuels difficult, canceled oil and gas drilling permits on federal land, thus raising fuel, transportation, and raw material prices.
The war in Ukraine is threatening to grow into a wider and more dangerous conflict, absorbing increasing amounts of financial aid from the U.S.
Global trade disruptions could result from an escalation of the trade war with China and the unintended result of sanctions on or by Russia for its invasion of Ukraine.
Key economic indicators have fallen over the last three quarters indicating that a major downturn is likely in the next six months.

NOTE: Estimated growth in dollar value consumption by flooring product category for the year-to-date period ending December 31, 2022, versus the same period last year.

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