Economic impact of the shutdown

As the federal government ground to a halt Tuesday, we are all left wondering how the shutdown will impact the economy and our strong local real estate market. The answer: it depends.

Remember, I am not a tax advisor, lawyer, or CPA, just an interested analyst who gets asked questions like this. The stock market is outside of my expertise, but it is interesting to look at the history of government shutdowns and their economic impact.

This is the 17th shutdown of the federal government since 1976. This is the 12th shutdown since 1981. Before 1981, budget fights were not a big deal. If Congress could not pass a budget, federal employees continued operating as usual, even while waiting for a spending bill to pass. Once it did, that bill would retroactively fund the spending gap. But in 1981 under President Carter, then Attorney General Benjamin Civiletti issued a legal opinion saying government work cannot go on until Congress agrees to pay for it. The last and longest shutdown occurred from December 1995 into January 1996 under the Bill Clinton administration and spanned 21 days. It came just a month after a six-day shutdown in November 1995.

So what effect will it have on housing, real estate and finance?

Stocks and daily financial markets are affected as the chart below shows, and buying into the stock market when there has been this volatility caused by government shutdown has worked to the benefit of investors in the S&P index stocks.

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In reality, this is not a total shutdown, but it is still an item of concern for a recovering economy. About 4.1 million people work for the federal government, with about 80% still be expected to show up for work. We still don’t have an exact number of federal employees who won’t be working in a shutdown, but most press reports have been pegging the number around 800,000, the number who stayed home the last time the government shut down in 1996. Remember, a shutdown only means there’s no money for “discretionary spending,” the part of the federal budget that must be appropriated annually by Congress. But a lot of federal employees are paid from sources other than appropriations.

The biggest example here is the U.S. Postal Service, which has over 500,000 employees and which is (more or less) funded by its own postage revenues. Other examples include the U.S. Mint (funded by the sale of coins), the Federal Reserve (funded by profits on its investment activities), and the Office of the Comptroller of the Currency (funded by fees on banks).

Some government agencies that are funded only partly by appropriations will be able to stay open (and pay their employees) for a while during a shutdown even if they couldn’t stay open without congressional appropriations forever. The State Department will continue consular operations, such as the issuance of passports, “as long as there are sufficient fees to support operations.” Amtrak expects to stay open because it can rely, at least for a while, on ticket revenue.

So what should the impact for the real estate markets?

Mortgages

Most mortgages will continue to proceed through the usual government channels, although some delays are expected. Over forty percent of all sales were done cash this last month anyway. Those looking for government-backed mortgages (USDA, VA, and FHA) should expect delays.

Closings should be slower. Underwriters depend on mortgage lenders to get verification of tax returns and Social Security numbers. This is likely to slow the loan approval process. More than 90 percent of the residential housing market depends on the government and/or the GSEs for underwriting, insurance, and funding. Mortgages controlled by Fannie Mae and Freddie Mac will not be affected because they are funded by fees from lenders rather than federal appropriations.

The communications department at the US Department of Housing and Urban Development shut down Tuesday morning, issuing the following statement: “Most HUD programs have been temporarily interrupted and most HUD employees have been told they cannot work. We will not be able to check this account or respond to questions during the shutdown.”

The Department of Veterans Affairs (VA) will continue its loan guarantee program, although there could be some delays. The Department of Agriculture will cease its mortgage financing activity till a new budget is approved. USDA and BA budget is reviewed and funded on a annual basis.

The government shutdown does affect the IRS and most verifications from the IRS. Freddie Mac issued the following clarification to lenders Tuesday: ‘If a loan is made to a government employee and the closing date is during the shutdown period, you do not need to obtain employment verification or re-verification prior to closing if a government office providing the verification is not able to do so as a result of the temporary shutdown. You are also not required to obtain employment verification or re-verification for such loans after the shutdown ends. This exception does not apply to income verification or any other requirements…We only require IRS Form 4506-T to be signed by the borrower prior to closing. We do not require that 4506-T be processed by IRS prior to closing. However, we require that the actual 4506-T information is obtained as part of the Seller’s in-house QC program.’ (BORING!)

Borrowers involved in the mortgage process should discuss timelines and expectations with their lender, and inquire about longer commitments, longer rate locks and extension policies for each. Should the government shutdown be only for a few days, it should be minimally disruptive. Most loans are closed toward the end of the month, so a few days delay in getting documentation shouldn’t derail too many deals. However, if it persists for several weeks, disruptions and backlogs are likely to multiply.

Besides the shutdown, the US is also approaching the debt ceiling once again. Failure to raise the debt ceiling would have much more dire consequences for the economy. In all likelihood, the Treasury would not have enough cash on hand to make a scheduled Social Security payment of nearly $25 billion on November 1. It would also be unable to meet a debt interest payment of roughly $30 billion that will fall due on November 15, potentially triggering a technical default.

Housing recovery

The shutdown should have a minimal impact on the housing recovery. New home sales will continue to improve, but will not get to pre-recession numbers due to lack of developed land inventory as well as consumer financing. Both of these factors could slow the growth of residential investment, but I expect another solid year of growth. Most should expect somewhat of a slowdown in the growth for new home sales and housing starts due to the lack of developed inventory in Austin, San Antonio and Houston. Resale values should continue to improve in the same amounts as they did this year in the Texas.

Speaking of housing recovery, the biggest obstacle is lack of housing inventory in the national, regional and in Texas each of our metro markets. Right now it looks like active inventory will bottom in mid 2015. It should take that long for many new home developments to become available. At that point it will become less of a seller’s market as inventories should begin to be replenished. We track inventory quarterly, and the year-over-year rate of decline has slowed sharply. My guess is that inventory did bottom in January 2013 (this should be a huge focus right now, since rising inventory will slow price increases).

Will it have any impact on house prices? Outside of those cities that are dependent on government jobs like Washington D.C, it should be minimal. Here in Texas, El Paso and Killeen will feel the impact if furloughs continue. Values should be unaffected unless the situation persists for months. If people cannot pay their bills, for an extended period of time, obviously the economic impact is substantial.

In Houston and Austin home prices bottomed out in the 1st quarter 2009, San Antonio was March of last year, and D/FW was first of this year. Because of those economic forces, inventories will continue to be low this year, I think we will see more inventory come on the market in 2013-2014 than last year, as sellers who were waiting for a better market list their homes, and as some “underwater” homeowner (those who owe more than their homes are worth) finally can sell without taking a loss.

All of these factors suggest further prices increases in 2013-2014, but at a slower rate than in 2012.

Employment

The unemployment report that is to be released Friday is for September, with the unemployment data (LAUS) taken from surveys done about a week ago. I’m not sure about the jobs data (the CES), but my impression is that is typically compiled a bit before the end of the month as well. Either way, the government layoffs will start in October and won’t show this month. Hopefully by then the budget issue will have been resolved and be a non-event. Through the end of the year, barring any catastrophic event, the headline rates (BLS U3) will stay in the mid to low 7’s. True unemployment (BLS U6) will be closer to 13%.

What about job creation? Again, those metros areas that are dependant on government jobs should be concerned. However, both state and local government and construction hiring should improve when the budget is passed later in 2013. Unfortunately there are other employment categories that will be hit by the austerity (especially the increase in payroll taxes). We expect that will offset any gain from construction and local governments. So my forecast is close to the previous two years, a gain of about 150,000 to 200,000 payroll jobs per month nationally, with over 40% of those jobs coming in Texas in 2013-2014.

Right now it appears the drag from government austerity will probably offset the pickup in the private sector – and we can expect another year of sluggish growth in through the end of the year and into 2014 probably in the 2% range again. The economy grew at a 1.8% annualized rate in the first half of 2013. This is less than we wanted but in line with what most expected.

Congress needs to come to a quick compromise and pass a bill (or bills) to fund the government, and the White House has to sign them. They can do this at any time – or they can sit at home and keep the government closed.

So we should be concerned, but in response to the initial question, the shutdown will have little affect on real estate and home buying, particularly here in Texas. Values and rates are the lowest they will be for years.

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