The Top 7 Risks to Economic Growth and the Commercial Real Estate Industry

Posted on July 15, 2014

Heave a big sigh of relief: We’ve made it through the first half of a year that saw both a deep winter freeze and a spring thaw—literally and economically. Now it’s time to survey the landscape for the situations that could threaten economic growth and commercial (CRE) real estate fundamentals over the next few months. Here are the stories we think bear monitoring.

1. Tougher monetary policies. The Fed has been holding our hand throughout the process of economic recovery, but if it removes quantitative easing (QE) and raises rates, both of which are projected to happen late this year and early next, it could disrupt capital markets. A sharp rise in rates would lead to a downward correction in CRE pricing. Should a stock or bond market correction occur, the likelihood of recession rises.

2. Geopolitical instability. The first and most prominent story is the deteriorating situation in the Middle East. Syria remains mired in civil war, while Iraq has lost control of its North. Meanwhile, Iran and Saudi Arabia are getting involved in trying to stabilize the situation. This has the potential to spiral out of control and induce an energy price shock, similar to the one that crippled the economy in the summer of 2008.

The next powder keg is the ongoing standoff between Russia and Ukraine. Troops remain on the border, civil unrest continues in the East, and gas supplies are in flux. This situation has the potential to worsen, and its proximity to Europe is troubling.

One under-the-radar geopolitical risk doesn’t take the form of military war, but rather financial conflict. Argentina is continuing its standoff with hedge funds over its 2001 debt default, and shows no intention of making payments as the U.S. Supreme Court ordered it to do. Should the funds involved be short on collateral due to a lack of bond payments, there could be a cascading effect throughout markets, drying up liquidity.

3. Risks to global growth. In addition to geopolitical tensions, several countries are experiencing economic problems. China’s property market remains soft, and the ensuing fallout could result in slower growth. Japan is grappling with a sales tax increase and the many new economic policies its government is rolling out, all of which could potentially derail gains. However, the biggest risk to global growth remains in Europe. While the U.K. and German economies have recovered from the economic crisis, the rest of Europe is still a catastrophe. There have been signs of renewed growth, but European labor markets on the whole are a disaster and have shown no signs of sustained improvement.

4. Housing market bubbles. As we’ve been saying for more than a year, the fact remains that the U.K. and Canada housing markets are overheated. These markets have disconnected from their income-and-rent fundamentals and appear poised for a drop in prices. This could derail these economies, and with Canada being one of our major trading partners, would be a drag on ours.

5. The Highway Trust Fund running dry. This fund finances highway and road maintenance throughout the United States using the revenue from the national gasoline tax. However, it’s rapidly running out of money as fuel efficiency rises and Americans drive less. In fact, the fund is projected to become insolvent sometime this summer, and without alternative funding in place, many construction projects and jobs will be in jeopardy. A plan has been proposed to raise the gas tax, but a dysfunctional Congress leads us to believe that this option is DOA. Perhaps alternative funding will be scraped together on some temporary basis, but the potential disruption in pending public construction projects—coming right as states and municipalities are shifting from being growth drags to growth drivers—could hurt the economy.

6. The Ex-Im Bank and the debt ceiling. The latest standoff between Republicans and Democrats involves not Obamacare, but the Export/Import Bank (Ex-Im Bank). The bank, which helps finance the export of U.S. goods and services to international markets, has become a rallying cry for some conservative Republicans, who accuse it of cronyism and government favoritism. Democrats are defending the bank’s role, especially for small businesses, and want to see its funding renewed. The expiration of the bank’s charter at the end of September coincides with the renewal date for the debt ceiling, so the idea has been raised that one of the parties might hold the debt ceiling hostage to Ex-Im bank renewal.

While we don’t believe something this small could derail debt-ceiling negotiations and lead to another government shutdown—especially considering the public backlash to the last one—this Congress has proved spiteful and stubborn. Following this possible standoff, November midterm elections could shake up the balance of party power in government. Republicans, who currently control the House, could seize majority control of the Senate, though with a Democratic president in office, we don’t anticipate much more than sustained gridlock, regardless of election outcomes.

7. West Coast longshoremen: This story is just starting to garner attention. Ports on the West Coast are embroiled in a labor negotiation with the longshoremen’s union, and although current expectations are for this issue to be settled in a timely manner, one never knows with labor negotiations. Our West Coast ports, particularly the Port of Los Angeles, handle a massive amount of our global trade, especially with Asia. Any disruption would impede global trade and industrial space absorption, particularly in the already-tight markets in the Los Angeles area.

These are just a selection of the stories we’ll be watching over the second half of the year; however, in this volatile world, the narrative could change at any moment. Current economic indicators point to healthy growth, but numerous potential landmines—some that we know about and some that we haven’t even yet identified—pose lurking threats to a U.S. economy on the verge of shifting into a higher gear.