In latest edition of The Wright Toolbox:
Economic Toll of the Pandemic
We have all been affected by the stay-at-home orders and closure of non-essential businesses over the past two months. But, more and more jurisdictions are moving toward removing restrictions, lifting shut-down and shelter in place orders and we will soon be entering another new and totally unknown environment – the reopening of the economy post-COVID 19. Is it too soon? Was it too late? What will the virus do, will there be a second wave, will there be a vaccine, treatments, cure? Will the public be too cautious to return to “business as usual”? These are questions to which only time will have the answers. As we are all about to embark on this new phase of the COVID 19 pandemic where the economy comes out of shut down and begins to open up again, it is time to take stock of the toll that the pandemic has wrought on our economy and to look forward to what might be waiting for us in the near future.
First, let’s focus on the latest here and now and the toll that has been incurred:
The Editorial Board of The Wall Street Journal observed that the coronavirus pandemic has triggered an unprecedented economic “catastrophe.” In April, the U.S. economy lost 20.5 million jobs, according to the Bureau of Labor Statistics, as non-essential businesses closed their doors to help slow the spread of COVID-19. The unemployment rate at the end of April stood at 14.7 percent, the highest rate since the Great Depression. In one month, the U.S. lost all of its job growth over the past 10 years. “The speed and magnitude of the loss defies comparison. It is roughly double what the nation experienced during the entire financial crisis from 2007 to 2009.” Id. As bad as April’s unemployment rate was, the Labor Department said the unemployment rate would have been about 20 percent if workers who said they were absent from work for “other reasons” had been classified as unemployed or furloughed. The official figure also does not count millions of workers who left the labor force entirely and the 5 million who were forced to scale back to part time. Id.
On May 8, 2020, the Associated Builders and Contractors reported that overall the construction industry lost 975,000 jobs in April. This was the largest recorded decrease in construction jobs since the government began tracking employment in 1939. Of that total number, nonresidential construction employment lost over 560,000 jobs in April. The unemployment rate for construction was 16.6%, an increase of 11.9 percentage points from the same time last year. The Associated Builders and Contractors (“ABC”) Chief Economist, Anirban Basu, MPP, ME, JD, stated that “[t]he hope had been that construction activity would hold up well given the industry’s classification as an essential industry in much of the nation and the presence of substantial backlog coming into the crisis, which stood at 8.2 months in February, . . . But in large measure, those hopes were not realized.” Id.
To put the April 2020 job loss in the construction industry in context, the worst level of construction industry job loss during the Great Recession of 2008-2009, was 155,000 jobs lost in March 2009. The construction industry lost almost a million jobs last month alone, over six times more than the highest monthly loss in 2009.
Mr. Basu continued by noting that “[b]ased on a combination of business confidence indicators, initial unemployment claims and other emerging data, May will represent another month of crushing construction employment loss, . . . Project postponements and cancellations are now commonplace, with construction backlog failing to be the protective shield that it normally is during the early stages of economywide recession.” Id.
In an April survey from the Associated General Contractors – 68 percent of construction firms reported that they have had projects cancelled or delayed during the past two months. In an AEC Advisors, Inc. survey – layoffs or furloughs have been executed or planned by 51% of construction company respondents. In addition, about 20% of respondents are opting to delay commitments to future work.
On the positive side, 74% of respondents to an AGC survey indicated plans to apply for small business stimulus loans through the Paycheck Protection Program. When funded these loans will help some contractors weather the economic impact, at least for a short time. However, AGC officials warn that the Treasury Department’s threats to audit or prosecute some Paycheck Protection Program loan recipients and deny loan recipients tax deductions are causing many construction firms to rethink actually taking the loans or returning the funds within the safe harbor deadline. More recently the Treasury and SBA provided guidance that loans under $2 million will be presumed to have been taken in good faith.
US Real Gross Domestic Product contracted by -4.8 percent during the first quarter of 2020. This quarterly annualized growth rate was significantly lower than the +2.1 percent growth rate reported in Q4 2019 due to the impact of COVID-19 on the US economy. That is a negative swing of almost 6 percent. It must be noted that social distancing policies only began to be widely implemented in the United States in mid-March at the very end of Q1. Because of this, Chris Zaccarelli, chief investment officer for Independent Advisor Alliance stated “[t]he awful headline [GDP] number is even worse when you consider that the first two months of the first quarter were relatively normal and this number only includes the March lockdowns.” He added “Given that the full lockdowns continued through April and most states are likely to continue at least partial lockdowns through May, that leaves June as the only month in the second quarter that may see a possible return to normalcy,” which does not bode well for Q2. Id.
Richard Branch, chief economist with Dodge Data & Analytics, says of the U.S. economy “[w]e are in recession. Full stop. No question.” The University of Michigan’s consumer sentiment index for the US fell to its lowest reading since December of 2011 and recorded its largest monthly decline ever. The pandemic has also had a substantial impact on governmental budgets as states have lost revenue from income taxes, sales taxes, tourism, entertainment, permits and other fees. On average for fiscal year 2020, states have lost 10% of their revenue with even higher losses projected for fiscal year 2021. This equates to hundreds of millions of dollars in some states and billions in others in lost revenue at a time when states are having to spend money to combat the virus.
Aside from governmental lost revenues, whole industries have been significantly impacted as well, such as travel, hospitality, restaurant, entertainment, and sports. Private education, a typical significant contributor to construction, is also suffering. Before the pandemic, “The College Stress Test” book published in February predicted that about 100 of the nation’s 1,000 private, liberal-arts colleges were likely to close over the next five years. Robert Zemsky, a professor at the University of Pennsylvania’s graduate school of education, believes now that as many as 200 of the private, liberal-arts colleges could close in the next year.
The Wall Street Journal reports that according to the American Council on Education, the nation’s largest advocacy group for colleges and universities, schools should expect a 15% decline in enrollment next fall and a $45 billion decline in revenue from tuition, room and board and other services. Some administrators say those projections are too rosy. Id. Princeton University Provost Debbie Prentice said “[e]conomic conditions have been fundamentally altered in a matter of weeks, and universities across the country are having to reassess every aspect of their operations. . . . We will have to make some hard choices in the weeks and months ahead.” Id. Johns Hopkins University had projected a $72 million surplus for the 2020 fiscal year, but now expects a net loss of more than $100 million. Id. “Without austerity measures and a return to normal operations, President Ronald Daniels said Hopkins could see a $375 million loss in fiscal 2021.” Id. Hopkins has detailed plans to cut salaries and suspend retirement contributions and capital projects.
In the midst of the coronavirus pandemic, the economy has also witnessed the near collapse of the oil market as supply has risen almost to storage capacity, demand has fallen and prices have hit bottom. State DOT budgets are starting to feel the effects as several months’ worth of fuel-tax revenue has disappeared for good. As one transportation official noted
“People who aren’t driving now won’t drive twice as much to make up for it.” Id. The State of Washington predicts monthly revenue losses of $100 million. The Missouri DOT projects a 30% decline in transportation revenue over the next 18 months, totaling nearly $1 billion. North Carolina’s DOT finds itself facing a $300-million budget shortfall and has put nearly 50 major projects on hold. Id. If demand for gas is down, fuel tax revenue will be down as well, and with it investment in infrastructure will also fall.
Now let’s look to what to expect in the coming months:
As Yogi Berra is reputed to have said, “It’s tough to make predictions, especially about the future.” In the midst of COVID-19, economic forecasting is even more difficult in the chaos that is the current economic environment. The uncertainty caused by the pandemic has made forecasting extremely difficult. How the virus behaves, vaccines, cures, treatments, length of the shut downs, consumer confidence when the shut downs end, budget deficits, spending cut backs, etc. all combine to make forecasting more difficult. As a result, at the April 2020 policy meeting of the Federal Reserve, it was stated that “[a]ll participants viewed the near-term U.S. economic outlook as having deteriorated sharply in recent weeks and as having become profoundly uncertain.” Dallas Federal Reserve Bank President, Robert Kaplan, said the coronavirus could cause unemployment to rise as high as 20% and stated that the coronavirus-induced lockdowns will trigger a “historic” contraction in the second quarter of this year. GDP could shrink as much as 30 percent on an annualized basis in the second quarter according to Mr. Kaplan. Financial houses have echoed the concern. Goldman Sachs has forecasted a decline of 34 percent and JP Morgan is estimating a 40% drop.
A Boston Federal Reserve April 2020 report stated that “[the full extent of the economic damage, . . . cannot be known with certainty at this point, . . . It will depend on the course the spread of the virus takes as well as the offsetting effects of the major economic stimulus efforts that have been undertaken and those that are under consideration.” Because of the uncertainty in the economy caused by COVID-19, The Wall Street Journal reported that in April, 295 companies had withdrawn their economic guidance. Apple CEO Tim Cook said the company could not provide a forecast due to the uncertainty caused by the pandemic. Speaking on a conference call to discuss Apple’s results, Mr. Cook said, “[t]his is the most challenging economic environment we have ever operated in.”
Based on a mid-April COVID 19 Impact survey conducted by AEC Advisors Inc., AEC analysts said that “[w]ith the vast majority of end-markets seeing declines in new project pursuits, we expect many firms will experience a prolonged negative impact, which is likely to creep into 2021.” Economic forecasts for Q2 range from 25% to 50% annualized declines in GDP. Something everyone needs to keep in mind is that approximately 70% of the U.S. economy is driven by consumer spending. Thus, the consumer’s state of mind may greatly impact how the economy performs. Fears and layoffs can contribute to consumers spending less even if they manage to keep their jobs.
It is also important to recognize that the economy will not re-emerge over the next few weeks or months with the virus suddenly gone or contained. The risk will remain until there is vaccine or cure that the country or regions may have to go back down into lock-downs. In this uncertain environment, businesses and lenders may be cautious and may not rehire all the people they terminated. Bain & Company recently released a report stating that based on its analysis the US could permanently lose up to one-quarter of all business establishments. Thus, a significant portion of the unemployment figures will be associated with the businesses that will fail and those jobs may not be coming back.
The Conference Board, an economic forecasting think tank, stated “[w]e therefore expect a much deeper contraction of between -38.8 and -43.7 percent (annualized) in Q2. The degree of the contraction will depend on the path the virus takes through June and the degree to which the economy is “reopened.” The growth forecasts for Q3 and Q4 are also highly ambiguous, and will depend on new infection rates, treatment options, testing availability and government policies.” They forecast no growth in Q3, but a sizable rebound in Q4, expecting that the economy will contract by 6.5 percent over the entire year (compared to 2019).
Deloitte provided its analysis on business investment and stated that in the short term, businesses are more likely than before to put expansion plans on hold for the next few months. Deloitte forecasts real fixed business investment to fall 24.6% in 2020 and corporate profits to fall 42.4%. In commercial construction, Dodge Data & Analytics forecasts office starts dropping 13%, retail space down 33%, hotels and motels down 31% and the square footage of parking garage starts falling 29%. Dodge forecasts that total institutional building starts will fall by 7%, with a 2% decline in education.
The current impact of the pandemic on the construction industry is unprecedented and the future outlook is muddled by uncertainty. However, there are some bright spots – the government stimulus packages that have been implemented, and current discussions about future stimulus packages, may help; the Federal Reserve Board’s steps to provide liquidity have helped; and the stock market, after initially crashing, has recovered and stabilized which has buoyed investment returns for many companies and institutions. Moreover, despite the current uncertainty, most economists believe that 2021 will see significant improvement in the economy. We just need to get through the short term.
-  Editorial Board, Opinion – The Wall Street Journal, The Economic Lockdown Catastrophe – The worst jobs report in history shows why the economy must reopen, May 8, 2020.
-  H. Long, A. Van Dam, The Washington Post, U.S. Unemployment Rate Soars to 14.7 Percent, the Worst Since the Depression era, May 8, 2020.
-  ABC Construction Economics, Nonresidential Construction Employment Sees Record Loss in April, May 8, 2020.
-  AGC – Construction Employment Declines In 99 Metro Areas In March From 2019 As Industry Officials Call For New State & Federal Funding To Add Jobs, April 28, 2020.
-  Debra Rubin, Engineering News Record, CEOs Detail Virus-Reshaped Business Realities, April 19, 2020.
-  Noah Manskar, New York Post, US economy takes biggest hit since Great Recession, falling at 4.8 percent rate, April 29, 2020.
-  Dodge Reforecast: COVID-19 Impact on 2020 Construction Starts, April 10, 2020.
-  Carmen Reinicke, Business Insider, US consumer sentiment plunged the most on record in early April as the coronavirus froze the economy, April 9, 2020.
-  M. Korn, D. Belkin, J. Chung, The Wall Street Journal, Coronavirus Pushes Colleges to the Breaking Point, Forcing ‘Hard Choices’ About Education.
-  C. Grinapol and S. Blair, ENR, Concern About the Economy and Business Stability Remains High, but has Improved Compared to the Previous Survey, April 24, 2020.