Is the Drop in Unemployment to 9.7% a Positive Sign for Commercial Real Estate?

As I sit here to write this week’s entry, I can’t help but think that my writing has had a pessimistic slant of late and that bothers me. As a broker, just like any of you other brokers out there (or anyone in the real estate business for that matter), I had optimism injected into my DNA when I was born. I remain an optimist but when it comes to the market, I have to call it how I see it. Things are not pretty. I don’t think I am being pessimistic, just realistic.

When I hear the government come out with “official” numbers, I am reminded of a famous quote from Mark Twain:  “There are three kinds of lies, lies, damn lies and statistics. ” Well, maybe they are not technically lies but certainly, upon further investigation,  it is easy to see how the figures presented can distort the truth and mislead the casual observer.

Last week, we looked at the 4Q09 GDP growth and came away with an understanding of what that growth consisted of and the ramifications on commercial real estate. This week we shall look at what really was behind last week’s official announcement that the U.S . unemployment rate dropped from 10% to 9.7% in January.

If you are a frequent reader of StreetWise you know my perspective on employment. It is the metric that has the most profound impact on real estate fundamentals. So the drop in the official rate should bode well for commercial real estate, right? Well, not so fast. Let’s take a closer look.

In January, the labor market shrunk by 20,000 jobs, yet the rate declined. How can this be? elementary math tells us that this is counterintuitive. There are two answers to understanding how this could occur.

The most common explanation is that, while the number of jobs shrank, what is called “the participation rate” declined. The official unemployment rate does not count those who are out of work and would like to be working but stop looking for more than 30 days because they are dejected. This can play havoc with the official rate.

If enough workers drop out of the search for a job, even with large reductions in the workforce, the rate can drop significantly (the participation rate declines). Conversely, with tangible job growth, the official rate can rise as encouraged unemployed citizens get back into the group of those who are actively searching for a job (the participation rate increases).

In addition to fluctuations in the participation rate, seasonal adjustments are made to the data. These seasonal adjustments represent what the government’s computers think ought to have happened during a particular season of the year. For instance, if we look at the Department of Labor’s data and, particularly, their “Employment Situation”, we see that in January “Men, 20 Years and Over” the non-seasonally adjusted figures showed a reduction of 914,000 jobs. After seasonal adjustments, this figure drops to a mere 1,000. The government data shows that, without the adjustments, the real unemployment rate was about 10.6% in January.

What all of this means is that the rate itself is not as important as the net number of jobs created. This is  especially important for our real estate fundamentals. Whether people are looking for work or not (the participation rate) doesn’t affect occupancy rates in commercial buildings and computer generated seasonal adjustments don’t get apartments rented. And with seasonal adjustments, the numbers have to “true up” within a year. This is why in January, a revision (the government loves revising data) was made to the 2009 data which indicated there were actually about 550,000 more jobs lost than the official date showed.

So each month, look at the net number of jobs gained or lost, forget about the official rate. In order for real estate fundamentals to improve, we need job growth and a lot of it. During this recession our economy has lost over 8 million jobs. These job losses have been punishing to our consumer spending levels  and our apartment houses, office buildings, retail properties and hotels.  

The government estimates that, in 2010,  our job market will grow by an average of 90,000 jobs per month. Something we must keep in mind is that our economy needs 100,000 (some estimates are as high as 130,000) jobs created per month just to keep up with population growth. In order to regain a good portion of those 8 million jobs lost within a reasonable period of time, how many new jobs do we need created each month? 200,000? 300,000? You can figure out how long it will take even at these rates.

Democrats say that at the end of 2008, our economy was shedding jobs at the rate of 600,000 to 700,000 per month and that today’s only modest monthly losses are an improvement. Republicans say that the administration wasted a year focusing on healthcare and cap-and-trade and just now is getting around to jobs. As Realestatarians, what we need to help our market achieve sustainable recovery are jobs.

When I write about the need for job creation, I receive many emails about what I think are the best methods to stimulate job creation. After all, “The president is not a miracle worker”, one reader conveyed with a defensive tone. While I am far from an economic strategist, here are a few ideas:

Tax Policy: One of the most commonly mentioned reasons why employers are not adding new workers is due to the uncertainty they are feeling about future  tax policy. The printing presses at the Treasury are smoking like a 40 year-old pickup truck chugging down a dirt road due to almost 24 hour operations to double our money supply in just one year. Inflation, higher interest rates and, of course, higher taxes are expected due to this reality. Discussing spending cuts here would only be a waste of keystrokes (as no politician from either party seems to have the intestinal fortitute to cut spending in a meaninful way) so the only option for a rational thinker to assume is higher taxes on everyone.

After a campaign vow of no tax increases for 95% of Americans, the president now says he is “agnostic” about tax increases. What does that mean exactly? I have heard six different interpretations of that rhetoric. More uncertainty is not what we need.

Does the administration really believe a “jobs program” featuring a payroll tax credit is going to create jobs? Would you go out and hire a $40,000 plus benefits employee because you were going to get a one time 5,000 tax credit (just ask Jimmy Carter how effective this mechanism was)? Not if consumer demand did not justify the position and especially not if you think your taxes are going to go up substantially in the near term.

The administration should set a tax policy which can be relied on for the next three years, or longer. Will they let the Bush tax cuts sunset? Some days the implication is yes, some days no, and some days maybe for some income levels and not for others. Markets hate nothing more than uncertainty. Simplify and confirm what tax obligations will be moving forward and employers can make decisions with more comfort.

Additionally, the recently released U.S. budget contains a set of proposals headed “Reform U.S. International Tax System”. If these proposals are enacted, over the next decade, multinational firms will face a $122.2 billion tax increase. The fundamental assumption behind these proposals is that U.S. multinationals expand overseas only to export jobs out of America. The thinking is that taxing their foreign operations more would boost tax revenue here and create desperately needed U.S. jobs. This is simply incorrect.

These tax increases would not create American jobs, they would destroy them. Many independent studies have consistently found that expansion abroad by U.S. multinationals tends to support jobs based at home. Moreover, these studies find that more investment and employment abroad is strongly associated with more investment and employment in American parent companies.

Setting tax policy that can be relied upon is critical.

Stimulate Consumers: Why take tax dollars from consumers, have the government sprinkle in some waste, fraud, abuse and corruption (both parties are experts in this area) , and send the dollars, less the afore mentioned seasoning, back to the consumers in the form of assistance, entitlements or bailouts? Why not just leave them with more after tax dollars? Then 100% of the money gets into the consumer’s hands. When you consider that 50% of U.S. taxpayers pay less than 1.5% of their income in taxes, you can see why the naysayers do not endorse tax cuts.

The case for tax cuts as deficit-fighting and consumer bolstering has never been more valid, since getting the tax base growing is the only way to escape an even bigger fiscal and monetary crisis. A swift and ideologically unembarrassed demonstration of bipartisan action to save the economy from untimely tax hikes would enhance the country’s confidence in the president and his approach to governing.

Trade Agreements:  The president said last week that if we can double our exports, our economy would grow by 2 million jobs. If he really believes this, why have three trade agreements been collecting dust on his desk since he took office? Negotiated trade agreements with Panama, Korea and Colombia are sitting in the president’s in-box and have been since he moved into the Oval Office. Several others are being negotiated with Malaysia, Thailand, the UAE and the SACU.

Free trade agreements help open markets and expand opportunities for American workers and businesses as they can enter and compete more easily in the global marketplace. Organized labor is clearly against these agreements and we have seen, first hand, how indebted the White House feels to these supporters based upon the gift wrapping placed on GM and Chrysler, their untouched pension plans, and the special deals they were getting in both the House and Senate versions of their healthcare bills. Don’t expect any action here until after the mid-term elections.

Infrastructure: A good percentage of unused stimulus money should be invested in an Infrastructure Bank. Infrastructure spending, in real dollars, is about the same now as it was in 1968 when our GDP was about one-third the size it is today. Is it a surprise that, in a 2009 report, the American Society of Civil Engineers gave our infrastructure a failing grade of D?

Over one-quarter of our nation’s bridges are structurally deficient or functionally obsolete and nearly 200 cities have “brownfield” contaminated waste sites in need of clean up and redevelopment. State and local governments, which account for about 75% of infrastructure spending, have terrible budget problems which have caused a growing backlog of economically viable projects that cannot be financed.

The writing is on the wall: our aging infrastructure will eventually constrain economic growth. The Infrastructure Bank could invest, in conjunction with private capital, in merit-based projects of national significance that encompass both traditional and technological infrastructure including roads, airports, bridges, high-speed rail, smart grids and broadband.

The bank could attract private funds to co-invest in projects that pass rigorous cost-benefit analysis to avoid proverbial and actual bridges to nowhere. These projects could generate revenues through user fees or guarantees from state and local governments. This investment/spending would create real jobs, especially in the construction industry, which accounted for about 1 in every 4 jobs lost last year.

Accelerated Depreciation:  Since the 1950’s, there has been a strong correlation between domestic job growth and business investment. To aid job creation, we need businesses to increase capital investment. This is particularly true for well-paying industrial jobs in capital-intensive industries. The best way to do that is to allow businesses to significantly accelerate depreciation of their capital purchases.

In a 2001 analysis, the Institute for Policy Innovation estimated that every $1 of tax cuts attributed to accelerated depreciation generates a whopping $9 of GDP Growth. Economists have rated this stimulus as one of the most productive of our time.

Last year, the president included a one-year extension of accelerated depreciation provisions in the American Reinvestment and Recovery Act. This doubled the amount of capital equipment purchases that small businesses can expense and allowed larger businesses to deduct 50% in the first year. The president recently asked for a one-year extension through 2010. This should be extended for two or three years.

Whatever Congress decides to do, one thing remains a fact: commercial real estate fundamentals need job growth more than anything else to find a tangible sustainable recovery. Let’s hope that, with regard to the administration’s new focus on job creation, we will be able to say, “better late than never”.

Mr. Knakal is the Chairman and Founding Partner of Massey Knakal Realty Services in New York City and has brokered the sale of over 1.050 properties in his career.

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14 Responses to “Is the Drop in Unemployment to 9.7% a Positive Sign for Commercial Real Estate?”


  1. 1 David W. February 14, 2010 at 11:25 am

    Bob, this is a great overview and makes me wonder about every stat that the government puts out. I suppose it is important to understand how the numbers are derived rather than just looking at the numbers themselves. Thanks for educating us.

  2. 2 Samuel February 14, 2010 at 11:27 am

    Mr. Knakal, would you consider running for public office? You seem to understand the issues very well.

  3. 3 rknakal February 14, 2010 at 12:00 pm

    Hi David, thanks for your post. Yes, understanding how the numbers are derived is key to really understanding them. It is also important to look at the direction the numbers are going in as well as their absolute level.

  4. 4 rknakal February 14, 2010 at 12:24 pm

    Hi Samuel, thanks for your post and confidence but, “Never in a million years”.

  5. 5 HarryJ February 14, 2010 at 3:36 pm

    Why the reference to Jimmy Carter?

  6. 6 marcojelli February 14, 2010 at 4:21 pm

    Hi Bob,

    Thanks for the extremely thorough analysis.

    I find myself in a similarly optimistic/pessimistic dichotomy. Economic fundamentals have and will continue to provide a baseline check.

    In real estate our job (in my opinion) is to be long-term thinkers, interpreting and analyzing daily, weekly, and sometimes monthly figures with sensitivity to the limited insight they provide.

    Conversely, in a city like New York, there is a strong tendency for many to associate the short-lived ups and downs of the stock market with improving economic conditions. Clearly, this is not based on the same long term realities we must pay attention to as smart investors.

    As I pursue real estate opportunities I still find a huge expectation gap. I base my numbers on what I expect to happen and many sellers (and their brokers) base their numbers on what they hope will happen.

    Given the prolonged negative outlook, what major factor do you believe will FIRST cause an uptick in transaction volume (seller’s lowering expectations, more favorable fundamentals, healthier financing environment)?

    Best,

    Marcus J. Ellison
    http://twitter.com/marcojelli

  7. 7 rknakal February 15, 2010 at 7:02 am

    Hi Harry, thanks for the post. In 1977, President Carter enacted a job tax credit which was worth about $7,000 in today’s dollars. In the short term, the credit reduced the jobless rate from 7% in 1977 to 5.8% in 1979 but after the credit was eliminated, the unemployment rate increased to 7.2% by 1980. The problem with these credits are that they are inefficient to implement and a lot of money goes to firms that would have hired workers without the credit.

    Pro-growth tax cuts, like those successfully adopted by JFK in the 1960’s and Ronald Reagan in the 1980’s, are broad based and lower tax rates for as many people as possible.

    The administration’s tax policy, particularly allowing the Bush tax cuts to expire for those making over $200,000, will result in higher tax rates being paid by a shrinking tax base with a misallocation of capital towards projects chosen by politics rather than prices or potential return on investment.

  8. 8 rknakal February 15, 2010 at 7:10 am

    Hi Marcus, Thank you for your post. I believe the first of your three options to affect volume will be an adjustment in seller’s expectations. Property owners are feeling the effects of stressed fundamentals based upon elevated unemployment and it is clear unemployment will be elevated for some time to come. Our fundamentals cannot recover in an above-trend manner until jobs come back and the banking industry still has much to deal with before “normal” lending resumes. As I have said many times, our low volume is more a function of constrained supply than low demand or the so-called “bid-ask spread”. When discretionary sellers exit the market, distressed sellers usually come in to fill the void in the supply stream. For various reasons (mostly regulatory) this has not happened.

  9. 9 emil braun February 15, 2010 at 7:36 am

    If you feel that statistics are the worst form of lies why do you rely on statistics to explain our predicament?

  10. 10 rknakal February 15, 2010 at 8:16 am

    Hi Emil, thanks for your post. I do not feel statistics are the worst form of lies. I was making a point and quoting Mark Twain whose quote points out that statistics can be manipulated. The key point is to understand how the statistics are derived. If you understand where the numbers are coming from, they can be valid. Statistics are a vital component to formulating an opinion and they are very valid as long as you understand them in context. My company’s building sales statistics, for example, use all data available from the market which is verified by all of our agents. We also always provide the specific parameters of our analysis including statistical sample sizes and methodology for our calculations. This enables the reader to understand how we came up with the numbers and, perhaps, use the numbers in an alernative way.

  11. 11 Frank February 16, 2010 at 10:53 am

    Excellent analysis!!!

    This administration is clueless. Big labor put this administration in office, and they will do nothing to upset this constituent. In addtion to Tax Policy comments – which is right on point – I agree 100% on the trade agreements commentary. The labor union business model is outdated and needs to be revamped to reflect the new global economic world in which we live.

    Politians from both sides of the aisle are to blame. Incumbents need to be voted out and have term limits put into place.

  12. 12 Faye February 17, 2010 at 12:56 pm

    Is it possible that the unemployment rate is largely affected by those collecting unemployment who have already exhausted their benefits and are simply not counted into the stats while they remain unemployed?

  13. 13 rknakal February 18, 2010 at 7:26 am

    Hi Frank, thanks for your post. I think it is clear that the mid-term elections will produce “real change”. We have already seen many jump ship and I think you will see this trend continue. With regard to organized labor, the systems are financially flawed and will enevitably blow up, just like the social security program. For example, the auto worker’s pension system worked well when there was one retiree for every active worker. Today, there are 10 retirees for every worker so the system is just not sustainable. Fundamental changes have to be made to these programs in order for them to survive just like the retirement age is going to have to be changed along with other structural changes in order for social security to be financially sound.

  14. 14 rknakal February 18, 2010 at 7:29 am

    Hi Faye, thanks for your post. To the extent the people you refrenced are looking for work they are counted as unemployed. To the extent they stop looking for work for more than 30 days, they are no longer counted. People drop out because they get discouraged so as the job market gets better they may be encouraged to look again, which would raise the official unemployment rate.


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