Two economists offered their current perspectives on how the coronavirus outbreak will affect the U.S. economy and demand for industrial real estate in 2020 and 2021 in a webinar for NAIOP members on Monday.
Timothy H. Savage, Ph.D., of NYU’s Shack Institute of Real Estate and Hany Guirguis, Ph.D., of Manhattan College noted that the outbreak has produced a high degree of economic uncertainty.
Its effects on the economy, small businesses and industrial real estate will depend on the effectiveness of the medical and public health response to the outbreak. Guirguis predicted that the outbreak will have a limited long-term economic impact if a vaccine and medications to treat COVID-19 are developed soon. On the other hand, if the outbreak remains a significant threat to public health for more than a year, it will have a more significant long-term effect on small businesses and human behavior. According to Savage, limited testing capacity in the U.S. is also contributing to uncertainty about the extent of the virus and how quickly it will be contained.
In the short term, the outbreak has contributed to record-low interest rates and inflation expectations, with investors fleeing riskier assets in favor of cash instruments like money market funds. Savage believes these conditions signal that the U.S. economy has entered a liquidity trap, in which traditional monetary interventions – such as further cuts to the federal funds rate – cease to be effective. Instead, the Federal Reserve’s most recent interventions expand its role as the lender of last resort to ensure liquidity in the financial system.
Savage said that fiscal policy interventions that focus on replacing lost income – such as the Coronavirus Aid, Relief and Economic Security (CARES) Act – are better understood as recovery measures in response to a natural disaster, not as stimulus. As Savage noted in a previous NAIOP webinar, the current outbreak is a natural disaster that affects human capital, not physical capital. This is reflected in both rates of illness and unemployment.
According to Savage, the current outbreak makes forecasting future market conditions difficult because it has created substantial economic uncertainty. Statistical models like those used by Savage and Guirguis rely on past data and trends to model future outcomes. But the coronavirus outbreak and its effects on the economy have few precedents that could inform a statistical model. Past outbreaks could provide some indication of how the economy will perform in future months, but data about past outbreaks is often limited.
“There was a flu pandemic in the United States in 1956, which led to a very sharp contraction in economic output in 1957,” Savage said. “If you go back and look at the history books, there’s no real mention of this, although its impact is seen on economic data.”
The model that Savage and Guirguis use to forecast industrial space demand includes an analysis of past recent net absorption trends and forecasts of gross domestic product (GDP) growth, unemployment and inflation. Their model is currently based on a forecast that U.S. GDP in 2020 will contract 2.5% in Q1 and 6.25% in Q2, and then grow 1% in Q3 and 1.2% in Q4. They also forecast that U.S. GDP for 2021 will grow at a rate of 3%, that unemployment for both 2020 and 2021 will be 7%, and that inflation will be 1%.
When factoring these assumptions into their model, Savage and Guirguis project that net industrial space absorption will turn sharply negative in the third quarter of 2020, with a return to growth in net absorption in 2021. They forecast negative average quarterly net absorption of 11,503 million square feet for the final three quarters of 2020, followed by positive average quarterly net absorption of 612 million square feet in 2021. However, Guirguis noted that a potential second wave of the coronavirus outbreak is a potential risk to their current forecast.
Responding to a question about which industrial assets are likely to perform best during the outbreak, Savage indicated that anything related to e-commerce will likely fare best. He also said he believes that consumers could become more accustomed to ordering a wider range of products online during the outbreak, increasing long-term demand for e-commerce as a mode of distribution.
“Amazon […] is very much like the Sears and Roebuck catalog from a hundred plus years ago. It is the digital version of that,” Savage said. “You still need to distribute the goods that people buy through e-commerce.” Savage noted that prior to the outbreak, consumers had been reticent to purchase groceries online, but that behavioral shifts during the outbreak could contribute to increased willingness to order these goods online and to long-term demand for cold storage facilities.
Savage also fielded questions from webinar attendees regarding whether the outbreak will lead to reshoring or nearshoring of production. He sounded a word of caution against expectations that the outbreak will lead to a rapid relocation of supply chains to the U.S. “The supply lines we’ve developed through international trade took a generation to develop and they will not change rapidly.”
Savage said he believes that the outbreak “may drive an acceleration in automation” in both production and distribution facilities. This automation could contribute to some reshoring of supply chains, but likely would not contribute to increased employment in the U.S. “If you’ve never seen one of these robotic warehouses, they are quite remarkable things,” Savage said. “And I’ve said in the past, the industry needs to start thinking about things not in terms of square feet but in terms of cubic feet because height will matter.”
As NAIOP Research Director, Shawn Moura manages the NAIOP Research Foundation research committee and day-to-day operations of the Foundation’s research projects.