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FRBSF WEEKLY LETTER February 17, 1989 Arizona's Slowdown Between 1970 and 1985, Arizona's employment grew at an average rate of 6.2. percent a year, more tnan twice that of the nation. During the past three years, however, the pace of growth has slowed markedly. Preliminary figures show that between the fourth quarters of 1987 and 1988, employment grew only 1.1 percent, in sharp contrast to 3.5 percent growth nationally. This Letter argues that a slowdown in the State's constructionindustry accounts for much of the current sluggishness in Arizona's economy. The State's fundamental strengths will overcome this weakness over the next few years, although growth is not likely to match the heady pace seen during the 1970s and early 1980s. Construction slump Slowing construction and real estate activity is the main source of Arizona's current weakness. Between 1985 and 1988, construction employment fell by 15 percent, the annual number of housing permits declined by 54 percent, and the inflation-adjusted value of nonresidential construction awards fell by six percent. This downturn has had a significant impact on the economy in Arizona, where construction is a particularly important component of economic activity. As recently as 1985, 8.8 percent of all wage and salary jobs were in construction, versus only five percent nationally. Perhaps the most dramatic changes associated with the slowdown in construction activity can be found in the values of vacant parcels of land, some of which have fallen as much as 40 percent. This weakness has created problems for Arizona real estate lenders. At the end of September 1988, 12 percent of real estate loans held by large commercial banks in Arizona were past due or on "nonaccrual:' Largely due to these real estate loan problems, eight percent of total Arizona bank loans fell into these "troubled" categories. These problems are serious ones, but they remain smaller than the problems in regions that recently have endured real estate "crises:' For one thing, single-family home prices have not fallen significantly. According to a survey published by Arizona State University, home prices during the first three quarters of 1988 averaged only 0.7 percent lower than their year-earlier level. Moreover, while vacancy rates remain high, there are encouraging signs of declining rates. In December 1988, for example, Tucson and Phoenix both reported declines in some vacancy rates compared to a year earlier, although other categories of structures registered small increases. Construction cycle One reason for the weak construction and real estate activity is that, by 1985, the Arizona market was vastly overbuilt. To some extent, this overbuilding reflected a "construction cycle:' For reasons that are not well understood, building activity during boom times often exceeds the market's ability to absorb new space. Typically, construction activity then slows down as existing space is absorbed, and resumes as the economy's growth catches up with past building activity. Arizona currently is in the slowdown stage of this cycle, and activity should pick up once existing capacity is absorbed. Tax law changes Another reason that the Arizona real estate markets were overbuilt was that, until 1986, the tax treatment of real estate limited partnerships tended to subsidize apartment and office construction. This was true in other parts of the country, as well, but in Arizona, these incentives to build THE WESTERn ECOnOmy The Western Economy is a quarterly review of economic conditions in the Twelfth Federal Reserve District. It is published in the Weekly Letter on the third Friday of February, May, August and November. FRBSF was relatively healthier. Others point out that recent improvements in the economy of the Midwest, traditionally an important sending region for Arizona, have reduced the number of inmigrants. heightened the boom phase of the construction cycle. Enactment of the Tax Reform Act of 1986, which eliminated these real estate tax advantages, similarly aggravated the bust phase of the construction cycle in Arizona. Whatever the cause of slower population growth, Arizona's population continues to grow rapidly by just about any standard except its own. Arizona's current population growth rate of 2.4 percent is more than twice the U.S. average. Slower population growth Slowing population growth has been both a consequence of the construction slowdown and a reinforcing factor. Arizona's population grew at an average annual rate of 3.3 percent between 1982 and 1987, but that rate fell to an estimated 2.4 percent in 1988. To the extent builders did not anticipate this, such a slowdown probably increased the severity of the construction cycle. Explanations for the slower population growth hinge on changes in migration patterns, since natural increase comprises only a small proportion of Arizona's popu lation growth. Researchers at Arizona State University found that out-migration increased because some residents left the state in search of better economic opportunities, particularly in California, where the economy Outlook In the near future, Arizona'seconomy is likely to remain weak until the excess inventories of commercial and residential properties are worked off. Longer-term prqspects are brighter, since population growth is still strong by most standards, and Arizona's basic attractions-its climate and its hospitable business environment-should continue to stimulate the State's economy. However, the robust pace of growth seen between 1970 and 1985 is not likely to be repeated over an extended period, since Arizona seems to have reached a more mature -and hence slowergrowth-phase in its economic development. Carolyn Sherwood-Call Economist District Conditions 1988 finished as a very strong year for the economies of most Twelfth District states. Brightening prospects in Idaho and Utah offset continued weakness in Alaska and Arizona, pushing employment growth in the District slightly above that of the nation in the fourth quarter when compared tothe fourth quarter of 1987. Most sectors appear to be sharing in thisgrowth,although fuel mining and finance, insurance, and real estate show District-wide weakness, Manufacturing employment growth in the District moderated in the fourth quarter to2.1percent. Growth inthe semiconductor industry slowed, with new orders trailing sales for thepastfour months. Slowing defense spending caused employment in California's missile and space sector to drop 1.5 percent over 1988, but strong commercial aircraft demand helped pick up the slack in aerospace generally. Retail sales ended the, year on a strong note thanks to a buying surge just before Christmas. Retail employment registered larger-than-normal increases for most states. Services continued to post solid employment gains in much of the District. In Utah, employment in business services grew 10.9 percent and provided most of the state's new jobs in 1988. Led by strong growth in business services and tourism, service sedor employment in Oregon increased over 6 percent during 1988. Construction activity in the District was mixed. Nonresidential construction awards fell 17 percent in 1988, but the number of residential permits increased over 26 percent. Alaska and Arizona registered construction employment losses of 19 percent and 4 percent, respectively. Non-fuel mining employment showed rapid growth over the year as prices increased strongly. In Idaho and Nevada, metal mining employment grew 50percent and 30 percent, respectively. At the same time, oil drilling and exploration continuedtofall<6ff, although the rise in oil prices following the December OPEC accord should slow this trend. Stephen O. Dean Research Associate DISTRICT INDICATORS (SEASONALLY ADJUSTED) 88Q3 88Q2 88Q1 87Q4 87Q3 87Q2 97.3 59.5 110.5 111.'4 2309.1 96.4 61.4 104.1 92.8 2222.2 95.7 63.4 102.5 98.4 2332.9 93.9 61.6 100.4 103.8 2182.9 95.4 57.8 99.2 99.5 2129.0 93.9 58.0 1812.9 2580.9 109.7 1547.1 2472.1 113.8 1647.5 2502.5 113.3 1718.1 2506.3 110.6 1661.9 2474.2 109.4 1687.1 2608.5 111.8 1756.1 2642.4 107.2 ENERGY SPOT PRICE OF OIL, S/BARREL U.S. RIG COUNT DISTRICT RIG COUNT FUEL MINING EMPLOYMENT, 1985=100 U.S. SEISMIC CREW COUNT 14.8 800.1 65.8 76.2 151.1 15.2 957.8 93.4 78.6 184.0 17.3 1061.7 96.9 79.3 201.9 16.7 973.8 79.1 77.2 199.1 18.8 1002.2 99.5 77.9 189.8 20.4 1037.5 102.9 78.2 181.9 19.3 880.0 82.6 77.6 173.8 MINING MINERAL PRICES, 1985=100 METAL MINING EMPLOYMENT, 1985=100 179.3 159.2 149.0 156.1 153.5 148.8 152.6 141.4 146.8 131.8 130.3 126.8 120.2 119.7 CONSTRUCTION NONRESIDENTIAL AWARDS, MILLION S RESIDENTIAL PERMITS WESTERN HOUSING STARTS, THOUSANDS CONSTRUCTION EMPLOYMENT, THOUSANDS 1333.5 36229 33.2 981.2 1570.1 32725 36.3 970.4 1318.7 30907 36.8 957.7 1482.7 27923 28.5 945.6 1608.1 28694 27.9 916.9 1476.1 30783 37.6 909.9 1504.2 30200 40.1 905.8 MANUFACTURING WAGES, CALIFORNIA, S/HOUR EMPLOYMENT, THOUSANDS DURABLES, 1985=100 CONSTRUCTION DURABLES, 1985=100 AEROSPACE, 1985=100 ELECTRONICS, 1985=100 SEMICONDUCTOR ORDERS, MILLIONS S, NOT S.A. 11.0 3120.7 102.9 111.1 117.0 100.8 1066.0 10.9 3084.0 102.2 108.2 115.9 100.1 1222.0 10.8 3086.1 102.1 109.7 115.6 98.5 1269.0 10.8 3086.4 102.2 110.8 115.9 98.0 1126.2 10.9 3056.1 101.1 108.4 114.7 97.2 1056.8 10.9 3024.7 100.4 107.6 113.4 95.9 967.3 10.7 3004.1 99.7 107.4 112.2 94.9 980.7 WHLS/RETAIL TRADE EMPLOYMENT, THOUSANDS RETAIL SALES, PACIFIC DISTRICT, MIL. S 4568.1 21582 4539.8 20738 4495.5 20559 4462.2 20615 4383.9 20133 4347.1 19722 4306.4 19531 SERVICES EMPLOYMENT, THOUSANDS HEALTH CARE, 1985=100 BUSINESS SERVICES, 1985=100 HOTEL, 1985=100 RECREATION, 1985=100 4805.6 115.7 121.1 121.9 111.3 4725.6 114.5 120.5 119.2 107.2 4675.2 113.4 119.2 117.0 108.2 4647.6 112.7 118.6 116.3 109.3 4587.1 111.4 115.9 114.9 108.2 4533.8 110.1 115.1 112.2 106.1 4486.5 108.7 113.5 110.6 106.6 FINANCE, INSUR. AND REAL ESTATE EMPLOYMENT 1223.3 1221.9 1214.7 1215.8 1209.2 1204.5 1196.2 GOVERNMENT EM~LOYMENT, THOUSANDS FEDERAL GOVERNMENT STATE AND LOCAL 613.7 2640.6 607.2 2619.4 606.1 2598.0 610.3 2570.1 609.9 2551.1 605.3 2527.3 87Q1 99.4 102.0 2111.9 85.1 56.4 605.2 2502.3 88Q4 AGRICULTURE U. S. CROP PRICES, 1985=100 DISTRICT CROP PRICES, 1985=100 FARM CASH RECEIPTS, MILLION S CATTLE ON FEED, 1985=100 CATTLE PRICES, CALIFORNIA, S/CWT. FORESTRY LUMBER PRODUCTION, MILLIONS BOARD FEET NORTHWEST LUMBER INVENTORY, MIL. BOARD FEET U.s. LUMBER PRICES, 1985=100 112.5 112.0 N/A Data are weighted aggregates of avai LabLe 12th District state data and are expressed as monthLy rates unLess otherwise noted. District Indicator data are constructed by FRBSF research staff from pubL ic an industry sources. Opinions expressed in this newsletter do not necessarily reflect the views of the management of the Federal Reserve Bank of San Francisco, or of the Board of GOvernors of the Federal Reserve System. Editorial comments may be addressed to the editor (Barbara Bennett) or to the author. ... Free copies of Federal Reserve publications can be obtained from the Public Information Department, Federal Reserve Bank of San Francisco, P.O. Box 7702, San Francisco 94120. Phone (415) 974-2246. uo~6U!4S0m 04 0PI 4o~n !!omoH O!UJoJlIO) U060JO ouoz!J~ OpOll0U O~SOI~ O)SI)UOJ:::I UOS JO ~uo8 aAJaSa~ IOJapa:::l ~uaw~Jodaa LpJOaSa~ Twelfth District Business Sentiment Index * PERSONAL INCOME ANNUALIZED PERCENT GROWTH RATES % GNP 100 88Q3 88Q2 88Q1 87Q4 5.4 7.8 11.1 10.2 7.4 13.7 10.8 11.0 11.8 9.1 7.9 10.3 9.2 12.5 16.3 9.9 12.6 8.3 2.4 -2.6 1.3 6.3 10.8 7.3 -0.7 8.7 2.4 14.0 12.2 13.5 -0.2 13.7 8.7 9.3 10.3 0.1 6.2 6.5 9.2 5.4 12.2 6.7 3.4 5.5 12TH DIST. U.S. 10.8 7.3 10.1 8.4 2.4 1.7 11.6 11.6 UNEMPLOYMENT 87Q3 ALASKA ARIZONA CALIFORNIA HAWAII IDAHO NEVADA OREGON UTAH WASHINGTON INFLATION 6.4 7.1 16.5 80 60 40 20 [;3 Worse • Same 0 EJ Better .. ~~,..'1,."'1,./'S'~0C';c.&o-~,, ~;ro '1;">'"4-U><!b0"J6~,, ~Jo,..'"t"'t/S'l?6o"/6l-~" .... The index is constructed from a survey of approximately 75 business leaders in the 12th Federal Reserve District. NON-AGRICULTURAL EMPLOYMENT ANNUALIZED PERCENT GROWTH RATES UNEMPLOYMENT RATES AVERAGE QUARTERLY DATA 88Q4 88Q3 88Q2 88Q1 87Q4 88Q4 88Q3 88Q2 88Q1 87Q4 ALASKA ARIZONA CALIFORNIA HAWAII IDAHO NEVADA OREGON UTAH WASHINGTON 6.7 3.2 3.1 2.7 7.0 8.9 6.9 5.9 6.3 -1.4 -0.1 2.9 1.5 1.7 6.4 4.7 4.2 4.0 -5.8 -1.9 2.5 1.6 1.0 .2.2 0.9 4.0 3.7 1.4 3.4 5.3 4.7 4.4 7.5 6.9 ·0.8 4.8 4.9 4.0 3.3 7.4 3.2 7.0 3.8 2.8 5.4 ALASKA ARIZONA CALIFORNIA HAWAII IDAHO, NEVADA OREGON UTAH WASHINGTON 9.2 6.9 5.0 3.1 5.6 4.6 5.5 4.9 5.9 8.8 6.5 5.4 3.0 5.5 5.3 6.1 4.7 6.7 8.9 5.7 5.7 2.9 6.3 5.7 6.1 5.0 6.6 9.3 5.6 5.2 3.5 7.4 6.0 6.0 5.5 7.0 10.1 6.0 5.4 3.8 7.3 6.0 5.7 5.9 7.4 12TH DIST. U.S. 4.1 3.3 3.0 3.3 2.1 3.6 5.0 3.8 3.8 4.0 12TH DIST. U.S. 5.3 5.3 5.6 5.5 5.8 5.5 5.5 5.7 5;8 5.9
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