Inflation and the Fed Tell Only Part of the Economic Story

Every time inflation rates increase or the Federal Reserve indicates that its “Higher for Longer” interest rate strategy will likely stay in place, there seems to be panic in the streets. The stock market does its volatile thing as prognosticators—especially those in commercial real estate—wring their hands about ongoing high costs of capital and what they will mean to transactions, leasing, refinance and debt maturity.

Marcus & Millichap’s John Chang offered another point of view. In a recent video, the Senior Vice President of National Service Research and Advisory Services acknowledged that changes in interest rates can impact investment returns. But he pointed out that “we can’t lose sight of the underlying commercial real estate drivers.”

In moving beyond micro-movements to macroeconomic fundamentals, Chang discussed the following:

Ongoing GDP Growth

Backtracking to early 2023, most economists predicted that the U.S. would be in a recession by the end of the year. Instead, the GDP ended up expanding by 2.5%. “According to the blue-chip economist consensus, U.S. GDP will grow by 2.4% in 2024,” Chang said. “If we hit that, the economy will grow by $1.1 trillion in that two-year span.” For perspective, Chang said, in two years, the U.S. economy will have grown by more than the value of Switzerland’s entire economy.

Continuous Job Increases

There are 5.8 million more jobs today than before the COVID-19 pandemic. “Setting aside the pandemic-driven undulations of the last few years . . . the first quarter of 2024 was the strongest first quarter of job creation since 2021 when the economy was accelerating out of the financial crisis,” Chang said.

The 3.8% employment rate is also low, especially when the labor-force participation rate among people between 25 and 54 years old averaged 83.4% over the past year. “The very strong employment market together with average wage growth above 4% has boosted both disposable income – which is 6% higher than prior to the pandemic – and total savings,” Chang pointed out.

Speaking of savings, Chang quashed the statistics showing a downward trend, suggesting that money market accounts need to be included in the mix. “A lot of people have moved their cash from their savings accounts into higher interest-paying money market accounts,” he said. On a combined basis, the total savings in these two types of accounts has been on the rise.”

Truth About Credit Card and Auto Loan Delinquencies

Chang then turned his attention to the growing rate of auto loans and credit card delinquencies. Both have been trending up, he said. But both remain below where they were at the beginning of 2020. Change acknowledged that the trend isn’t great. But “the current delinquency levels are not outside the historic norm,” he said. “In addition, debt payments as a percentage of disposable income are 9.8% lower than they were during the entire span from 2012 through 2019,” he said.

What it Means For Real Estate

Chang said that moving outside what he called the “inflation Federal Reserve interest rate echo changer” and examining overall economic trends shows that “things look pretty good” for commercial real estate. The challenge with older urban office buildings continues, combined with extra space in the multifamily and industrial sectors. However, construction is slowing because of higher loan rates and materials costs.

Chang said that reduced supply and increased demand will form “the next commercial real estate demand wave.” In anticipation, investors should ignore the noise and instead examine the drivers likely to support the next wave of growth, he added.