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It seems that recession talk always greets the arrival of a new year. It is not as if anything changes as far as the economy is concerned when the calendar flips to a new year, but it seems to be the trigger for people to take stock of their decisions and assumptions regarding the next year.
By most measures, it would appear the United States is in good economic condition and the threat of a recession would seem to be quite distant. The problem is that the same can’t be said for the rest of the world. One burning question is whether the United States will be infected in some way by the economic malaise that has gripped the world. Alternatively, maybe the growth in the country manages to pull the rest of the world out of the grip of this downturn.
The PHCP/PVF sector is unique in a number of ways. It is a very integrated business; hence, it is a very dependent one. It simply doesn’t stand alone and has to ride the ups and downs of the many sectors it sells into — everything from construction to manufacturing to the oil and gas sector. They are complex sectors, as well — consumer-driven in one area with business-to-business dominating another. What happens in the economy as a whole reverberates through the PHCP/PVF world quickly.
With all the supposition regarding a recession, there is a group whose task it is to determine when a recession has arrived, how long it lasts and when it is at an end. The National Bureau of Economic Research is the arbiter of all things recession and they have many data points they examine to make that determination.
They look at four indicators as signals of recession: real personal income less transfer payments, real business sales, employment and industrial production. Taking these one at a time, we can get a sense of what is strong and weak about then economy right now. At the moment, only one of them is sending any warning signal.
Lack of Personal Income Growth
For the majority of the last decade, there was not much growth in real personal income, but that pattern has started to shift a little. The expectation had been that wages would start to spike enough to create inflation threats due to the low rates of joblessness. It is what the Phillips Curve has predicted every time unemployment rates have fallen.
That did not occur this time. The rates of unemployment hit record lows but wage gains were not appearing and, thus, there was little in the way of wage inflation. This lack of wage inflation has been attributed to factors that include the retiring of better-paid baby boomers. Consider the fact that 10,000 boomers reach retirement age every day — that means the economy faces the need to replace 300,000 people every month.
Another issue is the fact that many companies have been hiring less-qualified people that require extensive training and who will not be paid what a more experienced person would command. This has been an enormous issue for manufacturing and construction as the lack of skilled workers has compromised their ability to grow — even if there is customer demand.
This situation has started to change as wages are finally catching up — the last reading showed gains of between 3 percent and 4 percent. If wages continue to rise, consumers will maintain their level of confidence, which means a reduced threat of recession.
Reduced B2B Borrowing
The category of real business sales also has been holding steady, with growth rates that can be maintained. The survey of companies in the S&P 500 indicates a growth rate of 3.8 percent. It is slower than has been the case in the last couple of years but it is still in respectable territory. The National Federation of Independent Business also reports some solid numbers with steady sales.
As the holiday season got underway, the sales data was better; that has been the case with retail activity in general. The sales data was good through back-to-school and Halloween; the data from Black Friday and Cyber Monday exceeded expectations. Again, this is not pointing toward a recession but consumers can change their mood very quickly.
The challenge is that B2B activity has not been as robust. The Federal Reserve has noted that business borrowing is down to levels not seen since the recession, and it is not because banks are unwilling to lend. They are simply not getting any interest from the overall business community and that reluctance to add debt has been pronounced in the manufacturing and construction sectors. There is just not enough confidence in the performance of the economy in 2020.
The employment numbers have been substantial, to the point that issues have arisen from a chronic job shortage situation. The rate of unemployment is as low as it has been in decades, which has created a situation in which there are far more jobs than people available to fill them. If every person available to work were employed, there would still be more than 2 million jobs unfilled.
The jobs data certainly supports the notion of continued growth and puts the chances of a recession at a very low probability. The fear is that productivity levels are suffering and that will create issues for many companies.
It also is causing a longer-term change in the way that companies look at their employees. The lack of available skilled labor has convinced many operations to substitute technology and robotics for human resources — that creates long-term employment issues for those without education and training.
The state of U.S. employment deserves a very close look — it is likely to be the most critical issue in 2020. The size of the workforce has been shrinking for several years and for the most logical of reasons. The retirement surge has been anticipated for years — it is a matter of demographics as the boomer generation ages.
Other factors are contributing to the reduction in the workforce. Millions of people are staying out of the workforce so they can care for their elderly parents and relatives as well as their small children. This has been a significant reason for the reduction of women in the workforce. As the boomers retire, they are replaced by those with less experience and appropriate skills and this contributes to the productivity gap.
Another emerging issue is the creation of low-paid and low-skilled jobs. These have dominated as far as job growth is concerned and the availability of these jobs creates another problem. People unable to find work in the past often decided to return to school or get some training as they had no other option. Now they can get a job — not a good one, but a job. They don’t have the same incentive to obtain more competitive skills.
Manufacturing Sector Fading
The fly in the ointment as far as recession threat is industrial production. There are three parts to this data — manufacturing output, the energy sector and utilities. For the last several years, it has been the manufacturing sector leading the way. However, in the last year, this sector was floundering due to the trade wars that have erupted throughout the world.
Most of the attention has been focused on the U.S.-China confrontation, but there have been disputes between the Japanese and South Koreans, as well as the Brexit mess that has compromised the European Union and the United Kingdom. India and China have their issues and Brazil has been on the outs in many parts of Latin America. Even as the energy sector and utilities have been able to hold steady, the manufacturing industry continues to fade — and that spells potential recessionary trouble.
The United States is not as dependent on exports as many other nations, but it still accounts for 15 percent of the gross domestic product. In contrast, the Germans depend on exports for 55 percent of their GDP; it is the main reason they are now in a formal recession. The United States exports two things — food and high-value manufacturing. The trade wars have affected demand for both of these but it has not been the trade war alone.
China has been buying less of the U.S. soybean output and part of it is related to the tariff war. The other part is the Chinese are attempting to halt the spread of swine flu. They have destroyed more than a third of their hog population and, as a result, the country needs far less feed.
If one looks at some of the more dominant sectors for PHCP/PVF, there has been reason for both optimism and pessimism. Manufacturing has stumbled throughout the year but not in all areas — automotive has managed to hold steady while energy, agriculture, aerospace and export-centered industry has faltered.
The manufacture of vehicles is expected to continue, and this will affect everything from passenger vehicles to large trucks and even additional rail units. The Boeing mess has drastically slowed aerospace but at some point, the problems will be resolved and there will be a frantic period of catchup.
The slump in the energy sector has affected everything from steel demand to sector-specific manufacturing. The limitations on parts and assemblies have affected many domestic producers, even as they enjoy some relief from Chinese competition.
The construction sector has been affected by the trade war as it has made many of the materials needed more expensive. If these parts and assemblies are still coming from China, the importer will be paying the tariff/tax. If the importer in the United States has to develop a new supply chain, there will be additional costs; often the new source will be more expensive than China was.
Domestic suppliers of these parts and assemblies have seen some demand improvements but that has been tempered by the overall slide in construction activity.
There continues to be a lot of change and adjustment in the construction sector. The build-to-rent market has been expanding into new markets as high land prices and labor shortages drive investors out of areas in the Northeast and parts of California. The millennial buyer is still not as attracted to the single-family home as were the Gen-Xers and certainly the boomers.
This trend has led to more engagement from big capital firms as they seek more secure opportunities. There has been a lot of merger activity involving REITS, and these big capital players that have started to shy away from technology plays and start-ups. There also has been significant interest in single-family home rentals, which has attracted many of the smaller investors as well as more prominent players.
As the boomer generation retires in higher numbers, they will be dumping a lot of existing home stock on the market; much of this will be hard-pressed to find a buyer. Many of these homes are more suited to the rental market. All this puts pressure on every aspect of construction — decisions have to be made regarding whether to build senior housing or apartments for millennials and all these consumers want new and different things in their homes — meaning a greater dependence on imported material.
The hope in the housing market has been that millennials would start to gravitate towards the traditional home once they reached their 30s, had kids and a steady job. It turns out this cohort remains uninterested in that home choice — even as they age. Only 37 percent own their home, the lowest percentage of any of the age cohorts save the Gen-Z crowd.
They want the flexibility to relocate and reject most of what goes along with ownership. That makes rental property investment far steadier and more lucrative than would have been assumed.
Health Care, Lodging Demand Up
Commercial construction has been a bit steadier than residential as it has been driven by three areas of the economy sporting better-than-average growth. The top of the list is health care, as there has been a persistent demand for decentralization. Health-care-related facilities have become ubiquitous and hospital capacity has doubled twice this decade.
Behind health care is the lodging and entertainment industry, as hotel demand has risen alongside the expansion of destinations for tourists. Retail space and office space have both been in decline but warehousing and facilities for manufacturing are expanding. The growth of robotics and technology has necessitated the development of new facilities.
A big unknown going into 2020 is the cost of commodities. The prices for copper, nickel, steel, scrap and the like had been falling through most of 2019 because of overproduction coupled with weak demand. Now that producers have adjusted to the weak demand, they are restricting output to a significant degree, which will likely result in higher prices at some point in 2020.
It will still depend on demand, however. If the supply exceeds what is required, the price hikes will be subdued, but the potential for shortages and bottlenecks is significant.
There are a lot of unknowns regarding 2020. The trade wars can trigger a global collapse that might drag the United States down; consumers could be spooked by all the electoral negativity and cause a slowdown. At the moment, recession risk is minimal and that keeps the door open for growth — albeit with strategies that are more careful than might have been the case a few years ago.
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