Introduction
We entered 2021 under the pressure of the COVID pandemic, but with a more hopeful horizon given the promises of vaccines which were newly available . As the year progressed, activity picked up, as businesses across the country started re-opening and Americans embraced travel, vacations and a renewed sense of optimism. The summer brought the return of air travel, resorts and conventions, along with much-needed service sector jobs.
In a surprising development, just as many companies were beginning to deploy return-to-office plans, the country saw a resurgence of the pandemic, due to the delta variant. The spike in the number of cases led to a delay in office re-openings and compounded a global supply crunch which reverberated across the economy.
As we moved into autumn, the number of cases started dropping again, and the economy continued expanding. The number of in-person conferences picked up, holiday travel was expected to close in on pre-pandemic trends and the retail season hinted at a post-pandemic horizon. In addition, with consumer confidence on a rebound, the critical holiday shopping season seemed poised to boost retail sales and spending in the last quarter of 2021. The overhanging cloud remained the emerging omicron variant of COVID.
Building on this momentum, expectations are upbeat about the outlook for 2022, both for the economy and real estate markets. Our 2022 Housing Forecast expects a return to more seasonal patterns, amid continuing affordability headwinds.
Economy: Gross Domestic Product
When the government stepped in during March 2020 to address the global COVID pandemic, it resorted to an unprecedented and large-scale restriction of activities in a patchwork of rules at the federal, state, and local levels. The moves were predicated on earlier experiences in China and Europe which indicated that the harshest part of the initial infection wave would last about 90 days.
The government realized that effectively shutting down entire sectors of the economy had the effect of carving a major canyon beneath the economic foundation, but estimated that it could build a bridge across the canyon through various fiscal and monetary policies. These policies were targeted at individuals and families, large corporations and employers, along with small businesses, state and local governments, public health and education institutions. The goal was to keep Americans employed during the critical three months. When over 20 million people lost their jobs just in July of 2020, it became apparent that more fiscal support would be needed. The steep economic contraction was later confirmed to have been the shortest recession in U.S. history. Later legislative packages added additional direct payments for individuals and families, along with housing assistance and support for schools, in an effort to overcome the job losses.
In retrospect, what was initially hoped would be a three-month gap and a short bridge over a deep chasm, turned into a year and a half effort to contain the pandemic and return the U.S. economy to a solid footing. Given its scope and length, the effort also carried a significant price tag—$5.3 trillion spread across several legislative packages, in addition to monetary efforts by the Federal Reserve to maintain liquidity in the banking system and capital markets.
The upside of this massive effort was that the federal government’s fiscal support had a visible impact on the economy in 2021, especially during the first half of the year, as unemployment checks boosted consumer spending. Real gross domestic product increased at over 6.0% annual rate in both the first and second quarters, driven by double-digit gains in consumer expenditures. As direct payments and unemployment checks dried up in the third quarter, GDP continued advancing, but at a more moderate 2.0% annual rate. The third quarter rate of growth was nonetheless in line with the 2010-19 decade, when the economy notched a solid expansion following the Great Recession.
As quarantine restrictions were lifted starting in May of this year, business activity and consumer spending picked up speed. Consumers embraced a much-anticipated sense of normalcy, even as many activities took longer to return anywhere near the pre-pandemic environment. For many Americans, months of savings, rising wages and unemployment benefits translated into higher spending on cars, recreational vehicles, home improvement materials, outdoors recreation, hotels, resorts, and restaurants. The data underscored these trends, with the consumer spending component of GDP up by 11.4% in the first quarter and 12.0% in the second quarter of the year. The third quarter’s more modest 1.6% annual advance mirrored fewer fiscal supports.
Businesses took a more cautious approach in the first half of the year, as uncertainty over vaccination prospects and a growing global supply chain bottleneck added pressures. With COVID cases impacting economies across the globe, factories, transportation routes, handling and logistics were affected. The most visible result came during the summer when over 60 large cargo ships had to drop anchor off the coast of California, waiting to be offloaded, and stranding entire sectors of the economy in the process.
Car companies had to shut down assembly lines due to lack of semiconductor chips, construction companies had to throttle back their pace while waiting for appliances and parts—in addition to skyrocketing lumber costs wrought about by lumber mills’ 2020 pullback—and consumers experienced noticeable shortages of various goods, from bikes and kayaks to cars and holiday toys. Business investment declined between January and June, only to jump at an 11.7% annual rate in the third quarter, as the decline in COVID cases mixed with the White House’s move to work with the ports of Los Angeles and Long Beach to speed up the unloading of cargo ships carrying much-needed consumer goods and manufacturing components.
During the three quarter period, international trade mirrored an economy still working through the pandemic reality. Exports of goods and services dropped during the first and third quarters, while posting a positive second quarter. Meanwhile, imports—which make a negative contribution to GDP—advanced during the first nine months of the year, at a progressively slower rate, as American consumers kept seeing delayed deliveries on an array of goods. As we move through the last quarter of the year, the supply bottlenecks seem to be clearing, pointing to a more normal flow of trade in 2022.
Government spending—the other major GDP contributor—mirrored the timing of fiscal efforts that legislators and the administration implemented, frontloaded near the beginning of 2021. Government spending rose at a 4.2% annual rate in the first quarter, driven by large expenses at the federal level. As the political parties and the White House wrangled unsuccessfully over a massive multi-trillion dollar infrastructure package, the second quarter saw a 2.0% decline in spending, followed by a muted 0.8% annual notch up in the third quarter.
Economy: Monetary Policy
The Federal Reserve maintained the monetary easing it embarked on in March 2020 for most of 2021, as well. The U.S. central bank kept its funds target rate in the 0 – 0.25% range during the year, while maintaining the alphabet soup of Great Recession programs , such as the Term Asset-Backed Securities Loan Facility (TALF), along with loan and credit facilities—Commercial Paper Funding Facility, Primary Dealer Credit Facility, Money Market Mutual Fund Liquidity Facility, Primary Market Corporate Credit Facility, Secondary Market Corporate Credit Facility, Municipal Liquidity Facility etc.
The Fed reiterated its commitment to offer monetary easing until the economy improves, traditionally measured by the central bank through an unemployment rate below 5.0% and a rate of inflation above 2.0%. With a steady improvement in employment, the unemployment rate dropped below 5.0% in September of 2021. In addition, the supply chain disruptions and the massive fiscal stimulus pushed consumer prices at strong annual rates, driving inflation at over double the pace generally preferred by the Fed. While the central bank continued stating that it considered the strong pace of inflation “transitory,” and assured markets that it was willing to allow it to run above 2.0% for longer, financial markets began questioning the benefits of a prolonged monetary easing stance. Entering fall, the Fed began signaling that it was weighing taking initial steps toward pulling back some of its monetary tools, especially its purchases of Treasury bonds and mortgage-backed securities (MBS).
Asset purchases were central to the Fed’s focus on channeling the flow of money and credit to households through $40 billion monthly acquisitions of MBS. As the overheated pace of the first part of the year moderated into fall and the real estate market returned to more typical seasonal patterns, the Fed made it clear that it felt the pandemic support was ready to be unwound. At the November meeting of the Federal Open Market Committee meeting, the bank announced it would start cutting back on MBS and Treasury bond purchases over the following months, as a first step toward monetary tightening. If the Fed keeps up the pace at which it embarked, asset purchases will end in mid-2022.
As we move toward the end of 2021 and the economy continues expanding, the Federal Reserve is likely to take stock of data over the next months as it slowly pulls back on liquidity. The bank mentioned that it is not likely to resort to rate hikes in the near future. However, markets are keeping a close eye on inflation as we move into 2022, and persistent price gains could prompt sooner Fed action.
Economy: Employment Trends
The employment landscape mirrored the pandemic realities, woven within a growing economy, but still laboring under the long shadow of the 20.7 million jobs lost in April 2020. Congressional fiscal stimulus payments, aimed at bridging the gap for many hard-hit Americans, were helpful in offering assistance to many families for the first half of the year. However, as we approached the mid-point of 2021, much of the federal pandemic assistance payments began to expire. As a result, July saw a significant spike in job gains. However, the delta-variant COVID resurgence dampened slightly the pace of hiring as the economy moved into the fall.
Over the January through October period, companies found increasing confidence to expand their payrolls and bring back laid-off employees, adding 5.8 million net new jobs. The re-opening of travel and destination businesses translated into 2.4 million of those new jobs, as convention centers, hotels and resorts, along with restaurants and bars found themselves short of staff. For the service sector, the year brought noticeable challenges, as companies struggled to fill open positions.
Other sectors with solid gains during the year were professional and business services, education and health, retail trade, transportation and warehousing, as well as manufacturing. However, even with steady gains during the year, employment in October 2021 was still short 4.2 million jobs compared with February 2020, prior to the declaration of pandemic.
In tandem with positive changes in employment, the headline unemployment rate (U-3) moved on a downward trend from 6.3% in January 2021 to 4.6% by October. The rate’s trajectory was a far distance from the April 2020 pandemic high of 14.7%, underscoring the fundamental improvement in economic conditions. When factoring part-time and under-employed workers, the broader measure of unemployment (U-6) reached 8.3% in October 2021, a noticeable downward shift from the 22.9% of April 2020, and even January 2021’s 11.1%.
These changes were also mirrored in the unemployment insurance claims numbers. From a pandemic-high of 6.2 million initial claims recorded during the week of April 4, 2020, claims continued dropping during last year. In January 2021, an average of about 850,000 Americans filed for initial jobless claims. As the number of people finding employment increased through the year, initial claims declined to a pandemic-low of 269,000 in the last week of October 2021.
However, even with these improvements, clouds continued hanging over the employment horizon toward the tail end of this year. The number of unfilled, open jobs totaled 10.4 million in September, in sharp contrast to the 7.4 million people looking for work during the month. This shortage of workers translated into upward pressure on wages. Wages and salaries for employees in private industries rose at a 4.3% annual rate during the January through June 2021 period, outpacing the average growth from the past decade. Wages continued rising during the summer and into early fall, particularly in service sector jobs.
Yet, even with rising wages, many people remained wary of returning to the labor market, concerned over rising COVID cases, lack of childcare, or the need to care for family members. In addition, many Americans nearing retirement chose to make an early move. The labor force participation rate (LFPR) reflected these trends. The LFPR dropped sharply last year, from 63.3% in February 2020 to 60.2% in April. The rate rebounded over the May to August 2020 period, but it moved sideways for the following 14 months. As of October 2021, the LFPR was stuck at 61.6%, the same level as January of 1977, a time when women started entering the workforce in larger numbers, but a way off from the high of 67.3% in the first quarter of 2000.
Economy: Consumer Confidence
Consumer confidence ebbed and flowed with the changes in COVID cases, employment and travel restrictions being removed. The Conference Board’s Consumer Confidence Index started the year at a value of 87.1, an improvement from the 2020 low of 85.7. It rose steadily to 128.9 by June 2021, as vaccination rates increased, and the number of cases dropped, offering the promise of a full re-opening. However, the spike in delta-variant cases led to a retrenchment, as the index dropped to 109.8 in September. October saw a rebound to 111.6, as broader conditions showed signs of improvement, but that was followed by another dip to 109.5 in November. Volatility in confidence is likely to continue until the threat of the pandemic eases into an endemic stage.
Economy: Capital Markets
Capital markets reflected the ebb and flow of pandemic concerns, business and consumer optimism, as well as monetary and fiscal policies. On the monetary side, the Federal Reserve maintained its funds target rate near zero, and signaled throughout the year that it would not resort to a hike in 2021, even as inflation mounted. The cutback on asset purchases was the initial tightening response from the central bank during the last quarter of the year.
For investors, the early part of the year was filled with optimism and the promise that rising vaccination rates would spell the end of the pandemic by the fall. The upbeat sentiment was mirrored in the surge seen in equity markets, with the S&P 500 Index rising from 3,700 in early January to over 4,200 in May. This was also mirrored in the bond markets, with investors pulling back from their investments and driving the 10-year Treasury yield from 0.96% in the first week of January 2021 to 1.75% at the close of March. The resurgence of the delta variant brought fresh concerns about the economic trajectory, which led to a decline in consumer confidence, and saw investors retreat back into the relative safety of bonds, which pushed the 10-year Treasury yield back down to 1.17% in early August. However, with economic indicators showing resilience in employment, manufacturing, service industries, and even an autumn rebound in consumer confidence, markets returned to buoyancy. On the bond side, the 10-year Treasury yield rose to 1.62% by mid-November. For equities, the employment gains coupled with a very favorable monetary response led to the S&P 500 Index continuing its ascent, to reach over 4,700 in November of 2021.
For consumers, there were both positives and negatives stemming from the monetary policy’s influence on capital markets. On the downside, low rates continued to sap bank deposit returns for retirees and Americans who depend on fixed incomes, many of whom saw their savings offer negative returns, after factoring inflation. On the upside, people shopping for a home experienced record-low mortgage rates in 2021, which provided mild relief from steeply rising real estate prices.
The Freddie Mac 30-year fixed rate dropped to a historic low of 2.65% during the week of January 7, 2021, following a precipitous downward trajectory in 2020. The rate rebounded above 3.0% in March and early April, as economic prospects improved following the re-opening of travel. However, it subsequently dropped below 3.0% and moved sideways until about mid-November. The Fed’s pullback on MBS purchases signaled that the central bank’s critical role in boosting financing liquidity for real estate was coming to an end. Mortgage rates are expected to move upward as we move into 2022.
Economy: 2022 Outlook
With a post-pandemic horizon in sight for 2022, and riding the tail wind of strong monetary stimulus and a rebounding consumer confidence, the economy remains on a growth path for the remainder of 2021 and into next year. Fourth quarter GDP is expected to show continued advance, with a 6.0% annual gain, building on a ramp-up in consumer spending during the holiday retail shopping season, and a noticeable bump in holiday travel, as both domestic and international routes re-open and expand.
In light of the strong gains from the first half of the year, built on a large fiscal stimulus package, 2021 GDP is expected to close the year with a 5.8% annual advance. Economic momentum is expected to carry into 2022, as employment gains and still-favorable monetary policies will support consumer spending, with a projected annual GDP advance of 4.3%.
Building on solid consumer demand, companies are expected to up their investments and expand payrolls. The unemployment rate is expected to drop from a projected 4.8% in the fourth quarter of 2021 to 3.5% during the last three months of 2022. Rising employment is also expected to boost consumer confidence.
The main area of concern for the economy in 2022 is likely to be inflation. The Federal Reserve indicated that it is willing to tolerate inflation running for a sustained period above its 2% target in order to see the economy and employment return to healthy levels. The central bank also stated in 2021 that it sees inflation as “transitory,” and mostly due to supply chain constraints. However, consumer prices have been rising at strong rates—in excess of 5% year-over-year—since June 2021. In October of 2021, the Consumer Price Index rose 6.2% above the same month in 2020, a signal that prices are accelerating.
