Sweeping U.S. tax reforms and a growing economy are setting commercial real estate up for a robust 2018.
Congress passed a historic overhaul of the U.S. tax system Wednesday, with President Donald Trump expected to sign the bill by Christmas.
The tax reform comes as the Federal Reserve took a positive stance on the economy in December, when it raised its key interest rate for the third time in 2017, a much-anticipated move based on the strength of the economy and labor market. Fed policy makers also forecasted three more hikes next year.
“The global economy is doing well,” said Chairwoman Janet Yellen while speaking to the press. “We’re in a synchronized expansion.”
Real estate investors have eyed rising rates with caution, aware that the shift can have a major impact all financial markets, including commercial property. But given the slow pace of increases, the growing economy is likely to have much bigger impact at this point, Severino said.
A strong economy often means greater demand for commercial space, which in turn lifts rents and values, he said.
Other global central banks have also shown faith in a growing economy. The Bank of England raised its key interest rate in November, its first hike in a decade. The European Central Bank in October said it will scale back its bond-buying program, indicating that it will follow the Fed toward higher interest rates.
Globally, “the growth that we’re seeing, it’s not based on, for example, an unsustainable build-up of debt,” Yellen said. “There’s less to lose sleep about now than has been true for quite some time, so I feel good about the economic outlook.”
Labor stats: It’s complicated
An improving labor market helped convince five out of the seven members of the Fed’s Board of Governors that the economy was strong enough to raise rates for a final time this year.
Payrolls grew by 228,000 net new jobs in November, according to the Labor Department, exceeding expectations. The unemployment rate remained at its post-recession low of 4.1 percent.
While the Labor Department statistics were mostly viewed as positive, they are nuanced, with some statistics indicating there could be trouble down the road.
One area that investors will watch with caution is the number of net new jobs, which, despite outperforming expectations in November, has been steadily decreasing since its 2014 peak. Barring “some idiosyncratic late-year surge in hiring,” job growth, on an absolute basis, will decline for the third consecutive year in 2017, Severino said.
JLL forecasts the number of new jobs will continue to decrease in 2018, impacting commercial property.
“Slowed job growth over time limits demand for office space, which is already contending with modest supply increases,” Severino said.
Wage growth statistics add another layer of nuance. A continuously tightening labor market has not yet translated into consistent upward pressure on wages. Over the last two calendar years, wage growth accelerated toward 3 percent three times, only to quickly fall back toward 2.5 percent or so. This could dampen retail sales.
“If the number of new jobs is declining, then growth in spending power will have to come from the broad pool,” Severino said. “The only way they can pick up the slack is if they have more income to spend.”
“There is a tug of war between the economy growing and supporting real estate, and the Fed raising rates, which could slow the economy,” Severino said. At some point, the Fed “runs the risk of continuing to raise rates while economic growth is slowing.”
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