Employment and housing trends often predict and reflect the fiscal strength of state and metro areas.
Shifts in employment and housing patterns often occur in tandem, according to Bradford Langs, CFA, Chief Risk Officer at CoastalStates Bank in Hilton Head Island, South Carolina, who authors a quarterly Economic Indicators Report. His analysis is based on two data sets on the employment side (employment and unemployment) and three data sets related to housing (building permits, mortgage delinquencies and foreclosures).
In the interview that follows, Langs, who has examined economic indicators and their effect on credit quality for over 20 years, shares his insights into the significance of – and relationship between – these trends, including their impact on specific states and metro areas in this post-recession era.
MuniNet: Which employment and housing trends tend to be the most significant indicators of an area’s economy, and how do they impact one another?
Langs: Of the five data sets, employment growth and building permits are usually the most telling leading indicators, meaning that, together, they are the strongest predictors of an area’s economic health. Delinquency and unemployment rates are considered coincident indicators, while the foreclosure rate tends to be a lagging indicator.
As one might expect, the relationship between employment and housing trends is somewhat predictable; as unemployment rises, we tend to see an increase in delinquencies, which, in some cases, extends into a higher foreclosure rate. On the positive side, employment growth usually leads to an increase in building permits.
Of the five data sets, employment growth and building permits are usually the most telling leading indicators, meaning that, together, they are the strongest predictors of an area’s economic health.
It is important to note that while a rise in a state or metro area unemployment rate can have a domino effect, leading to a growing number of delinquencies and possibly a higher foreclosure rate, it is not an absolute progression. Clearly, not everyone who is unemployed is delinquent in paying their mortgage. In an ideal scenario, the family has adequate reserves (or another source of income, perhaps from a spouse or other family member) to get them through to the next job. This last recession was particularly problematic because it lasted so long, forcing many families to deplete their assets in order to cover daily expenses, including housing.
The unemployment rate may be the weakest indicator of the five because it doesn’t account for changes in the labor participation rate. If a smaller pool of applicants is seeking work, the unemployment number could be distorted.
MuniNet: Are any states particularly vulnerable to these shifts in either employment or housing trends in today’s economic environment? On the flip side, are any states immune?
Langs: Two large factors that influence a state’s vulnerability to a recession are:
- the size of the state, and
- the diversification of its employment base and overall economy.
Shifts in employment and housing trends carry the potential for a much more significant impact in a smaller state, like Rhode Island, where it doesn’t take much to make the economy better or worse. Conversely, a bigger state, like California, requires larger shifts in employment and housing trends to impact its economy.
The more diversified a state or metro area economy is, the less vulnerable it leaves itself to economic changes, simply because it doesn’t have all of its proverbial eggs in one industry basket. During the recent recession, the states that suffered the greatest financial hardships were those with the least diversification in their respective economies. Michigan, which still heavily relies on the auto industry, and Nevada, whose livelihood is closely tied to gaming and hospitality were both hard hit because of the downturn in the overall economy. On the other hand, Virginia whose economy is more diversified among the government, defense, manufacturing, and technology sectors, was able to better weather the economic storm.
The more diversified a state or metro area economy is, the less vulnerable it leaves itself to economic changes, simply because it doesn’t have all of its proverbial eggs in one industry basket.
During a recession, certain sectors generally fare better than others. States and metro areas with a strong presence in the healthcare, education, defense, and government job sectors are generally more immune to a downturn in the economy.
Madison, Wisconsin is a good example of a city whose economy a.) is diversified, and b.) benefits from a strong reliance on the healthcare, education and government sectors; therefore, it was able to withstand the challenge of the economic downturn rather well. New York City, on the other hand, was a bit more vulnerable because of its heavy dependence on the financial sector.
MuniNet: How do employment and housing data impact credit quality? Is one data set more revealing than the other – or do they work in tandem?
Langs: Employment and housing indicators are some of the key pieces that combine to form the complete puzzle. Credit quality is generally the result of both a strong economy and sound fiscal management. Chicago, for example, is continuing to diversify its economy, which should bode well for its credit quality – although it struggles with its widely publicized pension problems. Therefore, strong credit quality is dependent on a state or metro area firing on both cylinders.
It is important to note that state and local governments, like private corporations, depend on strong fiscal management to lead them into prosperity.
MuniNet: Overall, what types of employment and housing trends are we seeing now that show recovery from the recession is underway in most states?
Langs: Looking at the trends over the past four to six quarters, the overall U.S. economy appears to be doing fine, although showing signs of some softening towards the end of 2013. On the national level, employment grew at a healthy pace during all four quarters of 2012, and at a slower pace through the first half of 2013, turning negative during the second half of the year. Employment growth will be an important indicator to monitor over the next few quarters. Of the five economic indicators tracked, the other four are currently showing positive signals.
On the housing side: The good news in real estate is that housing affordability has gone up (given low interest rates and reduced home prices), so we would expect positive housing trends. The potentially bad news, however, is that, as part of the Dodd-Frank Act, the federal government passed legislation that puts more stringent policies in place for mortgage applicants. The new Qualified Mortgage (QM) rule, as it is called, went into effect on January 10, 2014. It is designed to protect the overall economy from a repeat of the 2008 financial crisis, but some industry experts have expressed concern that the new legislation might put too tight a crimp on the housing market.
MuniNet: Could you summarize the takeaways of your analysis?
Langs: Remember that this analysis is looking at trends, not necessarily which are the strongest or weakest state or metro area economies. It therefore does provide an excellent tool to determine the direction of the trend. Over a longer period of time, a consistent trend should lead to a stronger or weaker financial position. In summary:
- On the national level, the economy is performing fairly well, although there has been some slowdown in the second half of 2013, particularly in employment growth.
- On the regional level, we are seeing strength in the Mountain, Pacific, South Atlantic and Middle Atlantic regions. There appears to be a softening in the South Central states.
- On the state level, we are seeing very positive trends in California, Colorado and Utah. We are also seeing improvements in some of the struggling states, including Michigan, Florida, Georgia and Nevada.
The two tables that follow show the top and bottom performing states for the fourth quarter 2013. Overall state rankings are based on a formula that averages the rankings on each of the respective categories. For this period, California ranked at the top of the list, while Alaska ranked at the bottom.
Top 5 States – 4th Quarter 2013
(Column 1 reflects overall rankings; Other Columns reflect rankings in respective categories)
|
Quarter’s |
Employ- |
Unemploy- |
Building |
Mtg |
Mtg |
|
|
|
|
Ranking |
State |
ment |
ment |
Permits |
Delinq |
Fclose |
|
Average |
|
1 |
CALIFORNIA |
16 |
10 |
5 |
3 |
2 |
|
7.20 |
|
2 |
UTAH |
1 |
3 |
16 |
7 |
14 |
8.20 |
|
|
3 |
FLORIDA |
8 |
4 |
17 |
19 |
11 |
11.80 |
|
|
4 |
IDAHO |
20 |
19 |
2 |
10 |
9 |
12.00 |
|
|
5 |
SOUTH CAROLINA |
7 |
5 |
10 |
32 |
18 |
|
14.40 |
Bottom 5 States – 4th Quarter 2013
(Column 1 reflects overall rankings; Other Columns reflect rankings in respective categories)
|
Quarter’s |
Employ- |
Unemploy- |
Building |
Mtg |
Mtg |
|
|
|
|
Ranking |
State |
ment |
ment |
Permits |
Delinq |
Fclose |
|
Average |
|
51 |
ALASKA |
22 |
45 |
32 |
48 |
46 |
38.60 |
|
|
50 |
NEBRASKA |
34 |
44 |
46 |
38 |
25 |
37.40 |
|
|
49 |
NEW MEXICO |
33 |
48 |
18 |
46 |
37 |
36.40 |
|
|
48 |
ARKANSAS |
45 |
51 |
39 |
20 |
26 |
36.20 |
|
|
47 |
TENNESSEE |
49 |
43 |
23 |
33 |
31 |
|
35.80 |