BMO Blue Book: Economic and Business Outlook
October 17, 2023
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Economic Insights
U.S. Economic Outlook
Sal Guatieri, Senior Economist
The U.S. economy remains sturdy. Led by consumers, real GDP appears to have picked up to a 4.5% annualized rate in Q3 from 2.1% in Q2. That's not the speed one would expect after the most aggressive course of monetary tightening in four decades. But some lingering pent-up demand from the pandemic, still healthy job creation, and rising real wages are buttressing demand. Moreover, fiscal policy remains stimulative, with the budget deficit clocking in at around 7% of GDP in the past year. Also supportive are tax credits and subsidies provided by earlier legislation to help refurbish the nation’s physical and electrical infrastructure and reshore production of EVs, batteries and microchips.
Still, the economy looks set to decelerate to a sub-1% rate in Q4 before stalling early next year. Demand is now bucking against the lagged impact of the 75-bp grenades the Fed launched last year. The interest-sensitive housing market is taking the full brunt of the assault. With 30-year mortgage rates at 23-year highs above 7%, existing home sales are testing 13-year lows. High borrowing costs, together with still-rising home prices amid lean listings, have sent affordability spiraling to the worst levels in nearly four decades. Bank lending standards continue to tighten even as earlier stress in the regional banking sector has subsided. Households are losing their appetite for dining and travel. According to the Fed, apart from some high-income earners, most people have depleted their pandemic savings. In addition, tens of millions of student loan borrowers have now resumed repayments after a 3 1/2-year hiatus. While many can reduce or even defer payments under the Administration's Saving on a Valuable Education plan, growth in spending could still take a roughly 2% annualized hit in Q4. This could carve more than a percentage point from quarterly GDP growth, while full-year growth could get dinged by 0.3%.
Thankfully, Congress' last-minute stopgap bill to fund the government has averted a partial shutdown until at least November 17. We estimate that a 5-week shutdown, as per the last one in early 2019, could slice over half a percentage point from quarterly annualized growth. Meantime, a full-scale escalation of the autoworkers' strike could chop quarterly growth by about 3 percentage points. Suffice it to say, some combination of these shocks could seriously throw the U.S. expansion into reverse. For now, we see growth of just 1.2% in 2024 after an estimated 2.3% rate in 2023.
Though still qualifying as a soft landing, a deceleration in the economy is precisely what Doctor Powell ordered to cure inflation. Alas, higher oil prices have stemmed the steady decline in inflation from its four-decade peak of 9.1% y/y in the summer of 2022 to 3.0% in June, lifting it to 3.7% in September. Still, core inflation (ex-food and energy) is behaving well at two-year lows of 4.1% y/y, down from 6.6% last fall. Smoother-running global supply chains and moderating wage growth have helped. But services inflation remains sticky, suggesting a full retreat to the 2% target is unlikely until early 2025.
The Fed held its fire at the last meeting, but some policymakers believe further rate hike(s) may be needed. Though still low, the unemployment rate held steady in September after spiking to 3.8% in August, and we see it rising to around 4-1/2% by next summer. That could more permanently sideline the Fed. Still, with policymakers expecting fewer rate cuts next year (just 50 bps), we pushed out the timing of the inaugural easing pivot next year to September from July.
The theme of 'higher-for-longer' has propelled 10-year Treasury yields to 16-year highs. While we expect yields to drift down to 3.8% by late 2024, it will take a weaker economy, looser labor market, and lower inflation to convince investors.
Arizona Outlook
Jay Hawkins, Senior Economist
Arizona’s labor market is losing momentum. While payroll growth rebounded 0.2% in August, it has flat lined in three of the last six months and appears to have peaked month-on-month at a robust 0.6% in January – the strongest pace since February 2022. Annual growth has slowed considerably this year with an average annual gain of 2.2% through August, down sharply from 4.2% in 2022. Moreover, the state has underperformed the nation for 15 consecutive months, suggesting the Fed’s aggressive interest rate hikes are having a pronounced cooling effect on Arizona’s labor market. The mining & logging, education & healthcare, government, leisure & hospitality and construction sectors experienced well above average gains from a year earlier, while information services has shed workers for six consecutive months amid pervasive weakness in the technology sector. Despite the modest rebound in payroll growth, the jobless rate rose to 3.8% in August, in-line with the U.S. average but well below the long-run average of 6.2% from January 1976 through August 2023. Annual employment growth is expected to slow sharply in 2023 and 2024 due to the lagged effects of tighter monetary policy, pushing the unemployment rate up to 4.5% next year, just shy of the pre-pandemic rate of 4.8%.
Elevated interest rates have had a more pernicious impact on the state’s housing market. Total residential housing permits have fallen annually for 15 consecutive months from April 2022 – one month after the Fed began its rate hiking campaign – through June. Higher mortgage rates have lowered affordability and locked-in homeowners who are reluctant to sell and swap a low-rate mortgage for a higher rate mortgage, thus limiting the inventory of existing homes for sale. The sharp slowdown in residential activity initially moderated home price gains but prices have declined from a year ago for the last four months through June. Residential permits are on pace to decline sharply this year on weak demand and slower in-migration and then rebound in 2024 when the Fed begins slashing interest rates. Consequently, home prices are forecast to decline from 2023 through 2025 after surging by over 20% for two straight years as supply and demand become more balanced.
Heath Scheid, Managing Director, Arizona Market Executive, BMO Commercial Bank
Growth continues to be a key focus for Arizona businesses. In addition to organic growth, companies and business leaders are paying close attention to mergers and acquisitions as a strategy to quickly scale their growth ambitions. Recently headwinds and economic disruptions have many business owners considering an exit which has created opportunities for those looking at acquisitions as a solution. The improvement and implementation of new technology has also been a priority for businesses across all sectors in Arizona with the aim of maintaining their competitive positions.
As we enter a post-pandemic era, we have also observed that businesses in the state are prioritizing supplier diversification. During the peak supply-chain crisis, a lot of companies were either bottlenecked or completely cut off from a supplier and so, supplier diversification, resilience and pricing is currently top of mind for business leaders. Increased input costs such as raw materials and labor has created a focus across most sectors on controlling costs where possible. Experienced management teams are taking a very thoughtful approach to their growth strategies and in many cases have emerged stronger and more resilient than before. We have also seen tremendous growth in some emerging sectors, such as advanced manufacturing, autonomous and electric vehicles, software, as well as expansion in existing sectors like semiconductors.
However, increased borrowing costs and limited real estate inventory may affect a company’s appetite and ability to expand geographically into other regions and thus limit their growth agendas. As has long been the case, recruiting and retaining talent at sustainable cost levels will also be a near-term challenge for Arizona businesses.
Looking ahead, commercial businesses in Arizona are excited about expanding in the markets that they currently serve and are looking to expand to neighboring markets as well, despite potential restraints. Owners are seeking a balance of actively managing cost structures to maintain profitability while supporting growth efforts.
Northern California Outlook
Scott Anderson, Ph.D., Chief U.S. Economist
Northern California's
economy is cooling off after a respectable second quarter performance, setting up the region for a period of below-average job growth in 2024 as higher for longer-interest rates and weaker demand in Asia and the U.S. takes its toll. Bay Area job growth has decelerated rapidly over the last two months through August, averaging just 0.3% annualized over the period. From a year ago, Bay Area job growth has slowed from a peak of 8.4% year-on-year as recently as January 2023 to just 2.3% as of August. Job growth in the outlying regions of the Bay Area, such as the Oakland MD and San Raphael MD remain somewhat stronger than in the City of San Francisco itself. Leisure and hospitality, other services, education and health care, construction, and government have been leading Northern California’s job growth over the past year, though net job losses were seen in many goods and service producing industries in August. Northern California’s job growth is expected to slow to just 0.3% in 2024 after increasing 2.1% in 2023. Poor housing affordability and high costs of living continue to be an impediment for stronger economic activity in Northern California. The region’s labor force growth peaked at 3.5% in March 2022 as work-from-anywhere technology workers returned, but labor force growth has since slipped to just 0.5% year-on-year through August. Northern California’s unemployment rate has already increased to 3.5% from a low of 2.7% in August of last year. We expect it to average a somewhat elevated 4.2% in 2024 and 4.0% in 2025. Sluggish population growth and lingering office real estate issues will remain an important headwind to the medium-term economic outlook. While advances in AI technology and its rapid adoption across industries will be an increasingly important driver of the region’s technology economy in the years ahead.
On a brighter note, Northern California’s housing outlook has improved a bit this year as low existing home inventories and declining residential building permits are helping to stabilize existing home prices despite significant headwinds from the highest mortgage rates in over 20 years and already stretched Northern California housing affordability. Bay Area home prices bottomed out in March 2023, down about 11.3% from a year ago, but by August Bay Area home prices have already partially recovered to -6.3% year-on-year. We expect modestly positive home price growth to return to Northern California in 2024 and build momentum in 2025 as a lack of available housing continues to dominate the market.
Amr Guendia, Managing Director & Region Head, BMO Commercial Bank, Northern California & Pacific Northwest
Northern California businesses are finding ways to thrive in the post-pandemic era. Companies are focusing on their capital expenditure (capex) and finding new ways to remain lean in the current economic climate. We are observing that Northern Californian manufacturing businesses continue to address increased labor cost by becoming more efficient through investments in new capex. Investments in growth and IRAs are also driving companies’ increased capex spending. Specifically, IRAs are driving capex spending in cleantech in battery storage and manufacturing across the country. As such, cleantech is emerging as an industry to watch in California. Northern Californian companies are also keenly focused on cash – cash is king, after all. Managing margins and controlling costs to generate cash are top priorities for businesses across all industries. Companies in the San Francisco/ Bay Area and Seattle are heavily investing in AI, driving new startups and, thus, a budding ecosystem of AI companies in the region. Venture capitals have clearly refocused on AI being the future of software and technology. However, for all the growth Northern Californian businesses have experienced thus far, the threshold for transformative mergers and acquisitions is much higher given the cost of capital is currently very high.
There are several global pressures acting upon the national economy that directly affect Northern Californian companies that we continue to closely monitor – with particular focus on energy as the global political instability feeds the inflationary fire. Along with inflation, the tight labor market and rising labor costs are also concerns that companies are looking to address. Northern Californian businesses are looking to push for a more pragmatic immigration policy approach in order to help mitigate their employment shortfalls and rising labor costs. The food and agriculture industry is experiencing a downturn currently and we are focused on encouraging those businesses to invest in automation that will have a meaningful impact on addressing rising labor costs.
Southern California Outlook
Scott Anderson, Ph.D., Chief U.S. Economist
Southern California's economy is still on track for a soft-landing in 2024, despite the drag from higher interest rates and the negative impact from the writer and actors strike in Hollywood this summer. Southern California’s job growth has decelerated to an average 0.9% annualized over the past three months with net job loss in both June and August as the writers and actor strike pushed the motion picture and sound recording sector into sharp job losses. From a year ago, Southern California job growth has slowed from a peak of 9.3% in January 2022 to just 2.0% as of August. Leisure and hospitality, education and health care, and other services have been leading Southern California’s job growth over the past year, and most sectors outside the information sector continue to add net jobs. Payroll growth was robust in August in construction, financial services, health care, trade and transportation, and even manufacturing. The diversity of Southern California’s economy will be an important support for growth over the coming year. Southern California’s job growth is expected to slow to 0.8% in 2024, somewhat above the California average, after increasing 2.1% in 2023. Southern California’s unemployment rate has already increased to 4.7% in August from a low of 4.0% a year ago. We expect the unemployment rate to average an elevated 5.2% in 2024 and 5.1% in 2025. Continued net out-migration and sluggish population growth place a speed limit on region’s potential economic growth.
Southern California’s housing outlook is generally positive despite rising mortgage rates and historically poor housing affordability. Residential building permits are back on the rise in Southern California, increasing 12.4% from a year ago in August, as low existing home inventories continue to force Southern California home prices higher. Los Angeles home prices bottomed at -3.3% from a year ago back in April, but has since improved to a +0.4% by July. We are lifting our home price forecast for Southern California to a positive 2.0% in 2024 and 2.9% in 2025 as an improved economic and labor market outlook for 2024 and a continued shortage of existing homes available for sale keep home prices on a steady rise over the medium-term horizon.
Charlene Davidson, Managing Director and Head, Southern California, BMO Commercial Bank
Southern California is a resilient and diversified economy powered by two of the largest ports in the country and supplemented by a massive consumer base. Because of this, despite economic or political headwinds – past or present – the local economy reliably recovers and prospers when confronting almost any scenario. And so, Southern Californian businesses are performing really well despite the bleaker national economic outlook. Foreign Direct Investment in wholesale trade, retail trade, manufacturing, media & entertainment, tourism, transportation, businesses services and more outpaces the rest of the state, moreover, the rest of the country. Businesses in these industries are particularly thriving, creating the backbone of the Southern California economy. Most of California’s foreign-owned enterprises reside in the greater Los Angeles area, representing more than 11,000 foreign owned-businesses in Southern California. Companies are improving their capital management as well.
However, despite the resiliency and strength of these Southern Californian companies, there is still an air of caution surrounding capital expenditure. Capital investment remains curtailed and largely focused on necessity versus growth, accounting for the increased costs of capital as well as the tight interest rate environment. There is also a lack of an active merger and acquisition landscape, for both large and small companies – another indicator of cautiousness in the market. We are also observing a disparity between the cost of borrowing and the cost of deposits – the flat rate and cheap money environment moved away quickly, and yet, borrowers are still expecting low-cost loans. This is then exacerbated by overbanked markets, while borrowers continue to demand higher rates on their deposits.
As we approach an election year, there has also been extensive discourse amongst Southern Californian businesses related to ongoing and potential congressional actions – policy changes on taxes are being particularly closely observed, as well as environmental policies and subsidies.
Colorado Outlook
Jay Hawkins, Senior Economist
Colorado’s labor market is showing signs of stabilizing. Total nonfarm employment expanded 0.2% in August after slowing to 0.1% for two straight months in June and July. Financial activities employment fell for the eighth time in the last nine months, construction employment rebounded 0.2% after falling for three months in a row and information employment rose 0.4% following three straight declines amid widespread weakness in the technology sector. There were well-above average gains in leisure & hospitality, education & healthcare and mining & logging. The modest rebound in job growth pushed the year-on-year growth rate up to 1.5% and marks the third successive month of accelerating gains. Despite the recent uptick in payroll growth, the unemployment rate rose two-tenths to 3.1% in August, still just below the pre-pandemic rate of 3.2% but the highest since April 2022. Job growth is projected to slow sharply over the next two years, pushing the unemployment rate up to 3.3% in 2025, the highest since 2021.
The sharp increase in interest rates engineered by the Fed beginning in March of 2022 has pressured the state’s housing market. Total building permits have fallen year-on-year for the last 13 months through June, with permits plunging by double digit rates for the last 12 months. Higher mortgage rates have lowered affordability and prompted homeowners with low-rate mortgages to stay put, thus reducing the inventory of existing homes for sale. Declining home sales over the past two years through the second quarter has exerted downward pressure on home prices with the FHFA Home Price Index falling from a year ago for the last five months through June. The last time home prices declined annually for five months in a row was from September 2011 through January 2012. Home prices are forecast to dip by an average of around 4.0% per year over the next two years in an unfavorable environment of low affordability, slowing job growth and increasing unemployment.
Brian Russ, Managing Director, Colorado Market Executive, BMO Commercial Bank
It is a mixed time for business activity in Colorado. An industry that has been particularly interesting to observe is the construction sector – it continues to be resilient despite ongoing concerns about high interest rates. This includes both retail and commercial subsectors (excluding office spaces). We are also observing a rise in inward migration into Colorado, resulting in a subsequent increase in remote and hybrid work. This reflects the state’s success in recruiting and retaining talent in what is now a highly competitive job market. The strength and resiliency of the job market is proving to be very good for the state and we are optimistic about its continued stability. Moreover, aided by the increase in inbound migration among other factors, consumer spending has also remained steady in Colorado.
There is also an increased interest and excitement around the implementation of artificial intelligence across a myriad of businesses and industries alike in Colorado. The positive impact that technological development has brought to the state and its businesses is already immense, and we expect its impact to continue.
We are closely observing the high vacancy rates in the commercial office market and any potential knock-on effects that may arise from that. The potential impact of bank market stress on businesses’ credit availability is also something we are closely monitoring.
While the labor market continues to be tight for unskilled labor, it is improving. We have found that Colorado companies have brought a renewed sense of focus around vetting banking partnerships, driven by stress in the bank market. We have also observed an increased interest from businesses in re-shoring and friend-shoring, which may have a positive impact on the local Colorado economy.
Florida Outlook
Michael Gregory, CFA, Deputy Chief Economist
Priscilla Thiagamoorthy, Senior Economist
The Florida economy topped the growth leaderboard last year. Real gross state product (GSP) came in at 4.6%, more than double the national average. This was pumped by population growth and paced by the real estate, rental & leasing sector (which weighs in at close to 19% of GSP, the most for any state). And these themes are continuing this year. Through Q2, Florida’s population has expanded 2.1% y/y, again, the most for any state, and more than four times the national average (0.5% y/y). ‘Servicing’ this demographic wave and the various activities tied both upstream and downstream to the broad real estate sector should continue to drive the economy and the job market.
The Sunshine State’s labor market remains strong. As of August, total nonfarm payrolls were nearly 8% more than pre-pandemic levels. Employment in construction has picked up after facing headwinds earlier in the year, while manufacturing jobs have remained sturdy, reaching the highest in over two decades. A strong consumer base has pushed trade, transportation & utilities jobs to the highest in at least three decades, while most other sectors are also in expansion mode. The one outlier is growth in leisure & hospitality jobs, which has seen little traction this year. The state's labor force grew by more than 40,000 for the third straight month. Despite the pickup, Florida's labor market remains tight with a 2.7% jobless rate in August; unchanged from a year ago and below the national rate of 3.8%.
Florida’s housing market is bucking the national trend. Like in other markets, unit sales of single-family homes along with townhouses and condos both dropped in August owing to eroding affordability. But the respective 7.9% y/y and 7.2% y/y decreases were less than half the national average. However, the respective 2.0% y/y and 6.2% y/y increases in median home prices were not encouraged by leaner listings. Instead, total listings were up 0.2% on the single-family front and 30.6% y/y for townhouses and condos. This means there was significant excess demand for housing heading into the upturn in mortgage rates (owing to the demographic forces). This bodes well for a rebound in home sales and new construction once borrowing costs start retreating, which also bodes well for the broader Florida economy.
Marty McAndrew, Managing Director, Florida Market Executive, BMO Commercial Bank
Given the current interest rate and economic environment, Florida businesses are turning to larger financial institutions for their lending needs. This has shifted the bank lending space in the state – regional and smaller financial institutions are pulling back on lending due to capital concerns while larger institutions are significantly more disciplined with their lending as they deploy capital with a focus on overall relationships. This renewed focus helps larger financial institutions increase their share of wallet as well as their clients’ return on capital. We have also observed some mergers and acquisitions green shoots, though some of their valuations are under pressure given the current interest rate environment. Due to these factors, banks are more focused on deposit gathering while depositors are more conscious of yields.
Florida continues to be a top state for in-migration, owing to the great climate, low taxes, and business friendly environment. Though interest rates are currently high, we are optimistic that they will begin to ease soon, providing some relief to Florida business owners regarding their investments and their ability to spur economic activity. Local CEO’s and CFO’s are also feeling more comfortable with the possibility of a ‘soft landing’ for the economy as opposed to a recession, and so, investment confidence is starting to increase as well.
The real estate market in Florida is experiencing some slowdown, as well as distribution businesses that are dependent on overseas, overbought inventory. The spillover from the disruption to commercial real estate is also a situation that we are monitoring – especially in light of interest rate and occupancy concerns. Recruiting and retaining talent in a tight labor market has also been a priority for Florida businesses. Increased visibility on economic outlooks that directly affect the Florida market will help assuage some of these concerns for business owners and leaders.
Illinois Outlook
Michael Gregory, CFA, Deputy Chief Economist
Priscilla Thiagamoorthy, Senior Economist
The Illinois economy had middling performance last year with real gross state product (GSP) growing modestly below the national average (at 1.3% vs. 1.9%), with a contracting state population constraining stronger outcomes. Through 2023 Q2, Illinois’ population has been shrinking at a yearly rate in the 0.7%-to-0.8% range since the end of 2020. And while recent labor market performance is pointing to a pickup in real GSP growth, it’s still likely lagging the national norm.
Nonfarm payroll jobs increased by 75,600 (+1.2% y/y) in the 12 months through August, with gains across most major industries. Sectors that saw the largest jobs increases included: educational & health services (+4.3% y/y) and leisure & hospitality (+4.4% y/y). On the flip side, professional & business services (-1.6% y/y), manufacturing (-1.6% y/y), and information (-5.3% y/y) reported declines. While overall conditions remain healthy, the labor market is showing signs of moderating; nonfarm payrolls fell in August for the first time in eight months and the jobless rate ticked up to 4.1%. Although that’s not too far from (pre-pandemic) record-lows, it is still 0.3 percentage points higher than the national rate.
Illinois home sales slipped 14.0% y/y in August due to deteriorating affordability. The median home price was up 7.7% y/y, prodded by a much larger 31.0%% y/y drop in the inventory of homes for sale. And the supply situation doesn’t appear to be stabilizing any time soon, with new listings still decreasing at a double-digit rate (-10.3% according to Redfin) and building permits down 10.8% y/y during the three months ending in August.
Faced with the constraint of a contracting population, the fact that Illinois growth still manages to come close to the national average is a testament to the economy’s underlying strengths. Some of these strengths were emphasized by CNBC’s 2023 ranking of “America’s Top States for Business”. Although Illinois came in 17th overall, it scored exceedingly high in two broad categories, infrastructure (2nd only to Georgia) and education (2nd only to Virginia). Such an ‘above-average’ result holds out the prospect for closing the growth gap with the U.S. total.
Stephanie Kline, Managing Director, Illinois Market Executive, BMO Commercial Bank
Businesses in Illinois are entering a new post-pandemic era of operations. Supply chain challenges from the pandemic have been resolved and overcome, there is a renewed desire and demand from clients to get more from their deposits, and businesses are focused on executing growth strategies and returning to their core business functions as operations return to a new norm. Companies are now sitting on more liquidity and larger amounts of inventory than normal – though we do recognize that industrial, manufacturing and warehouse space is becoming increasingly harder to find. Because of this, we are observing a decreased reliance from companies on importing parts, raw materials, and products. Though we have seen a slight slowdown in overall growth in businesses due to a slowing economy, migration to SAMU has been slower than expected as well.
The recent emphasis in investment in the tech sector in Illinois continues to be very promising. This investment has helped create a large and diverse economy in the state such that stakeholders are not reliant on the success of just one or two strong sectors anymore. We also expect demand to continue to lead the Illinois economy, as long as employment and household income levels remain strong.
Higher interest rates seem to be the most top of mind concern for business leaders in Illinois. Some of these leaders have not had to work through the level of interest rates that we are currently experiencing, so that is something we are helping them navigate. AI – the development as well as the implementation of it – is something we are closely monitoring as well. Business leaders want to ensure fraud via AI is as limited as it can be. As businesses look to the future, there has been an increased interest in mergers and acquisitions and other growth opportunities that are available for them.
Indiana Outlook
Michael Gregory, CFA, Deputy Chief Economist
Priscilla Thiagamoorthy, Senior Economist
The Indiana economy was one of only six states to top 3% growth last year. Real gross state product (GSP) grew 3.1%, which ranked sixth, partly paced by stronger durable goods manufacturing. This sector is more automotive focused than any other state except for Michigan. This year, the theme of normalizing automotive production volumes has continued to play, putting Indiana on track to continue its top tier performance. Also helping will be the relatively large amount of (federal government policy nudged) announced investments on infrastructure and in the microchip and clean energy sectors.
However, the Hoosier State’s labor market, while doing well, has not been outpacing the national norm. Nonfarm payrolls are more than 53,000 in the past year, a 1.7% advance that slides under the 2.0% y/y U.S. total. Strong gains were posted in education & health services (+11,200), leisure & hospitality (+9,800), finance, insurance and real estate (+4,600). The manufacturing sector (outside of the automotive sector) has faced heavy headwinds through much of 2022 and the first half of 2023, but with signs of stabilization taking place, employment has been expanding for the past three months. While Indiana’s overall labor market is expected to stay healthy, there are signs conditions are softening a bit. The jobless rate has been ticking up for the past four straight months, hitting the highest point in almost two years at 3.4% in August, though that’s below the national rate of 3.8%.
Indiana home sales slipped 18.0% y/y in August as affordability deteriorated. The median home price was up 6% y/y in August, with inventories down 4% y/y which seems destined to fall further with new listings down even more steeply (-8% y/y). However, building permits were up 11.5% y/y during the three months ending August, pointing to a pickup in new construction.
Finally, according to Invest.gov, which is tracking those ‘nudged’ investments, Indiana has already picked up more than $18 billion of the nearly $820 billion of total outlays announced. (The largest single announcement was a $2.5 billion electric vehicle battery plant by Samsung and Stellantis.) These represent around 4% of GSP, supporting economic and job growth in the years ahead.
Andrew Hedegard, Managing Director, Indiana Market Executive, BMO Commercial Bank
Indiana businesses are experiencing healthy balance sheets despite rising interest rates. And so, there is still an elevated appetite for mergers and acquisitions, particularly with businesses that are more liquid than they expected to be. Companies and businesses leaders are also keenly focused on hitting their internal rate of return after building in the cost of capital in comparison to historically low interest rate periods.
Despite the healthy balance sheets, Indiana businesses are experiencing an uptick in debt as interest expenses are higher than they were at the same time last year. Because of this, many companies and business leaders are more mindful about making any banking changes unless necessary – companies are seeking value outside of a lower interest rate as the economic outlook remains uncertain. Companies are also finding it difficult to recruit and retain employees in this tight labor market.
The economic environment in 2024 is going to dictate how Indiana businesses fare next year. BMO and its clients are closely monitoring inflation, interest rates and whether the Fed goes too far in rate hikes, which would impact employment and consumer spending. Remaining updated and apprised of how these factors fluctuate throughout the year will be the key to ensuring success for Indiana companies next year.
BMO remains competitive in a saturated banking environment in Indiana. Equipped with the right pedigree of banker talent, BMO is capable of giving clients the best advice, remaining agile and flexible with their needs, and bringing in the right resources from the bank when needed. This capability allows BMO Indiana to separate itself from being a commodity bank and focus on adding value for clients by providing educated and strategic advice.
Minnesota Outlook
Michael Gregory, CFA, Deputy Chief Economist
Priscilla Thiagamoorthy, Senior Economist
The Minnesota economy had middling performance last year with real gross state product (GSP) growing modestly below the national average (at 1.2% vs. 1.9%). The moderate move occurred as weakness in sectors such as finance & insurance, construction, wholesale trade and nondurable goods manufacturing countered strength in industries like real estate, rental & leasing, professional, scientific & technical services, and arts, entertainment & recreation. And if the latest employment data are any guide, some of these themes have continued into this year.
Minnesota is one of the few states where total nonfarm payrolls (2.987 million in August 2023) are still below pre-pandemic levels (2.993 million in February 2020). The labor market rebounded in August following job losses in the prior two months. Despite the bounce-back, weakness is apparent in many sectors. Manufacturing (-0.8% y/y), wholesale trade (-1.5% y/y), and financial activity (-1.9% y/y) continue to see job losses. In contrast, educational & health services (+2.9% y/y) along with construction payrolls have shown remarkable fortitude (+3.8% y/y). The jobless rate touched a record low 2.3% in April 2022, but has since steadily trended higher, hitting 3.1% in August (still below the national average of 3.8%) as the state expanded its labor force for the sixth straight month.
In the housing market, unit sales were down 11.8% y/y in August owing to eroding affordability. The median home price rose 5.5% y/y, as homes for sale were down 4.7% y/y. In August, building permits popped into positive territory for the first time in 16 months (nearly 17% y/y), but this was only one month, and the data are volatile.
Finally, it’s noteworthy that CNBC’s “America’s Top State for Business” and U.S. News’ “Best States” rankings for 2023 both placed Minnesota fifth. Given that these two ranking systems employ different data and methodologies, it’s not often they come to the same conclusion. And for Minnesota, it’s mostly because of the state’s top-rated infrastructure (which is ranked 3rd and 1st, respectively). This bodes well for improved economic performance.
Nicole Sever, Managing Director, Minnesota Market Executive, BMO Commercial Bank
Companies in Minnesota continue to be resilient despite the tight interest rate and economic environment. Business leaders’ creativity and flexibility have allowed Minnesota companies to mitigate cost pressures and maximize margins, leading to strong balance sheets and increased liquidity. The extra cash in hand allows these businesses to explore more merger and acquisition options and pay down outstanding debt. Those companies that serve infrastructure spending are doing particularly well with strong backlogs given the record spending bill that was just passed in the state. A number of industries in the manufacturing space also remain strong with good backlogs but are experiencing concentrated weaker spots. For example, industries that serve larger real estate projects in families or offices are seeing a slowdown.
In some instances, supply chain normalization has created a slowdown wherein end customers overbought the last several years and are now trying to right size their inventory. In these situations, the supplier upstream is seeing a material slowdown in demand. In some industries, loan demand is softer as companies are more cautious on capex spending and using excess cash to paydown working capital. Interest rates have also made it harder to hit return on investment targets for certain projects.
A top concern for Minnesota companies is labor – availability, skill gaps, changing workforce, aging workforce, succession, and more are proving to be hard to tackle. For those companies looking to expand workforce capacity, some are looking to regions outside of the Midwest to tap a larger workforce. Certain areas within the real estate sector are experiencing a slowdown, which will potentially have a downstream negative effect on certain suppliers and providers. Minnesota companies are also being cautious with new capital expenditures, expansions and acquisitions in light of potential economic issues and rising interest rates. Instead of embarking on a large expansion, companies may look for ways to implement expansion in phases.
Pacific Northwest Outlook (Oregon & Washington)
Jay Hawkins, Senior Economist
Oregon
Oregon’s job growth is cooling. Nonfarm payrolls contracted 0.1% month-on-month in August and growth has slowed for two consecutive months after climbing a solid 0.3% in June. Jobs rose in just four sectors with the strongest gains in leisure & hospitality (+1.0% and the fourth straight increase) and other services (+0.2%). The largest declines were in mining & logging (-1.5%), construction (-0.8%) and financial activities (-0.5%). The drop in payrolls in August pushed the year-on-year growth rate down to 2.0% from 2.4% in July and the smallest gain since March 2021. Despite the drop in employment, the unemployment rate was unchanged at 3.4% in August. However, that is considerably below the nation’s growth rate of 3.8% and breaks a strong of six straight months of declining unemployment. Job growth is forecast to slow to just 0.8% next year, a sharp drop from 2.6% this year. The slowdown in job growth will push the jobless rate up to 4.4% in 2025, the highest since 2021.
High mortgage rates, challenging affordability and a lack of inventory are jointly weighing on the Oregon housing market. At the end of July, an estimated three months of supply was listed for sale according to Redfin, compared to the five or six months typical of a balanced market. Total housing permits are also under severe downward pressure with year ago declines over the last six quarters through June. The lack of homebuilding will prevent new-home sales from making up for the inventory shortfall. The sharp year ago declines in existing home sales in the last five quarters through June is putting downward pressure on home price appreciation. Annual home price growth peaked at just over 24.0% in the first quarter of 2021 and then moderated but remained positive for six consecutive quarters through the fourth quarter of 2022. Home prices then declined 1.1% and 2.2% in the first and second quarters of this year respectively amid weakening demand. Home prices are forecast to continue declining in 2024 and 2025 as job growth slows, unemployment climbs and inventory remains limited.
Washington
Washington’s employment growth is slower thus far this year compared to 2022. Total nonfarm job growth has averaged 0.2% month-on-month through August, down from an average of 0.3% last year. More encouragingly, employment rebounded 0.1% in August following a 0.2% decline in July, led by solid gains of 1.0% and 0.9% respectively in manufacturing and other services. Employers shed positions in mining & logging (-1.8%), professional & business services (-0.5%) and information (-0.4%) and restrained overall job growth. Despite the rebound, job growth from a year ago slowed to 2.3% – the slowest since March 2021 – partially due to base effects with employment growth a robust 4.7% in the August 2022. Strong advances in other services (+7.4%), leisure % hospitality (+6.5%), education & healthcare (+5.7%) and financial activities (+3.1%) underpinned annual growth, while information was the lone sector to contract. Despite the slowdown in job growth, the unemployment rate was unchanged at 3.6% in August and is just below the pre-pandemic rate of 3.8%. The anticipated slowdown in job growth over the next two years will drive the jobless rate up to 4.7% in 2025 from 4.2% in 2022.
The recent rebound in home prices will be fleeting and the ongoing housing correction has not run its course. Home prices have inched up month-on-month for the last four months through June after falling for nine months in a row. Building permits, however, have tumbled over the last four months which will limit the already-tight inventory of homes for sale. With many homeowners locked into mortgages at ultra-low rates, new listings have been advancing at the lowest level in eight years. Nonetheless, the tight inventory situation will prove temporary as some homeowners who can no longer postpone plans to relocate will ultimately list their homes. Consequently, rising inventory, slowing job growth and increasing unemployment will collectively exert downward pressure on prices, with the median home price projected to drop 2.8% in 2024 and another 2.1% in 2025 after falling slightly this year.
Scott Bell, Managing Director, Pacific Northwest Market Executive, BMO Commercial Bank
Despite persistently high inflation, the overall Pacific Northwest economy remains strong as most companies are performing well with an eye toward continued growth. Many companies are investing in automation to improve overall productivity as well as investing to expand their capacity to grow with existing and new clients. The region is also expecting to benefit from government spending with the CHIPS and Science Act which will drive further investment in the semiconductor space, directly impacting several industries. As such, the Life Sciences and Biotechnology industries are continuing to expand in the region which is helping to transform the local economy.
The Pacific Northwest offers a great environment for work and recreation, contributing to the recruitment and retainment of talented labor in the region, which is critical to sustaining growth. BMO is also seeing a slow but deliberate return to urban cores with return-to-office initiatives, which is helping to drive some improvement in retail, restaurant, and hospitality industries. Aerospace and Defense industries have long been regionally important and are seeing improved market conditions as well. The region also remains a leader in outdoor and recreational equipment and environmental investment, which should continue to see growth and innovation.
High inflation remains a concern as it impacts corporate profitability margins and household incomes. High housing costs have also been compounded with the higher interest rate environment. This directly impacts the livability of certain neighborhoods across the states in the region. While significantly improved, BMO continues to see supply chain issues across many industries, which remains a major focus for many companies in the region.
Looking forward, businesses in the region are cautious about the safety of their deposits as well as the ability to access credit from those banks that have had a loss of liquidity with a deposit exodus.
Texas Outlook
Michael Gregory, CFA, Deputy Chief Economist
Priscilla Thiagamoorthy, Senior Economist
The Texas economy posted top-10 performance last year, with real gross state product (GSP) expanding 2.7%, ranking ninth among states. We expect Texas’ growth rate and ranking to both improve this year, supported by population and job growth, up-trending crude oil production along with increased investment spending on infrastructure and in the microchip and clean energy sectors given the recent wave of (federal government policy nudged) announcements.
The labor market in the Lone Star State is shining. It added more than 400,000 new jobs in the year through August. Even in percentage change terms, the 3.0% advance was the second strongest in the nation after Nevada’s 3.8% y/y. But there are signs that the still-healthy labor market may be shifting to a more moderate pace. Texas added 16,700 net new jobs in August, less than the average monthly pace reported in the first half of the year. Government hiring accounted for the bulk of the increase, while private sector gains totaled only 4,600, the weakest reading since February 2021. Key industries like leisure & hospitality (+3.8% y/y), manufacturing (+3.3% y/y) and construction (+2.7% y/y) continued to expand. Meanwhile, notable contractions were recorded in educational services (-0.8% y/y). The jobless rate has also stagnated at 4.1% for four straight months, sitting above the national average of 3.8%. Still, that’s a reflection of a growing labor force, which has been strengthened by rising net inward migration.
Texas’ demographic forces are causing the housing market to buck the national trends. While unit sales were down 7.2% y/y in August owing to eroding affordability, the latter was all due to higher mortgage rates. The median home price dropped 1.1% y/y, with total listings increasing 16.4% y/y. The fact that prices dipped ‘only’ about 1% is a testament to the strength of underlying housing demand which will eventually support stronger unit sales and new construction.
Finally, according to Invest.gov, which is tracking those ‘nudged’ investments, Texas has already reaped some $95 billion of the nearly $820 billion of total planned outlays. The largest announcements include Texas Instruments’ $30 billion for four semiconductor fabrication plants, and Samsung’s $17 billion on another facility, with Tesla investing as much as $10 billion in a new electric vehicle factory. In total, these announcements weigh in at 4.0% of GSP which will support stronger economic and job growth in the years ahead.
Brian Enzler, Regional Commercial Head - South Central U.S.
Texas businesses have a renewed focus on efficiency. The cost of capital has remained high given the current interest rate environment and an improved labor market, and so, business leaders are optimizing their workforce and investing in technology that creates efficiency. The current economic environment has also moderated many Texas businesses’ growth strategies through mergers and acquisitions. We are also observing the continued diversification of supply chains as geopolitical tensions remain, which has led to sustained interest in nearshoring, friend-shoring, and reshoring. Most businesses are maintaining higher inventory levels than they were prior to the pandemic but are moderating down from their inventory levels during the peak of the supply chain crisis.
We are optimistic that a slowdown in the Federal Reserve interest rate hikes will allow capital markets to settle into a new normal, allowing businesses to refocus on strategy and not have to constantly react to financial market focus. We believe this has contributed to the increased efficiency of Texas businesses already and expect this trend to continue.
A strong Texas business climate is being driven by a diverse economy, an educated workforce, and a low cost of living. All of these factors have contributed to a net positive inward migration and a continued investment in Texas businesses and communities.
Conversely, while the inward migration of new employees has brought diversity of talent and thought to the state, the return-to-office initiative has received mixed feedback. Maintaining a positive culture among employees during this time and understanding how it impacts them in various ways will be the key to ensuring the enduring success of Texas businesses. Our most present focus is on navigating the changing commercial banking landscape in the state, which is currently experiencing a tight credit environment, and meeting the expectations of clients seeking a larger share of wallet from banking partners.
Wisconsin Outlook
Michael Gregory, CFA, Deputy Chief Economist
Priscilla Thiagamoorthy, Senior Economist
The Wisconsin economy underperformed last year, with a slowing manufacturing sector (outside the automotive sector) and shrinking labor force weighing heavy. Real gross state product (GSP) grew only 0.4% in registering bottom-quartile results among all states. As this year has unfolded, factories have continued to struggle (a nationwide phenomenon). However, the labor force situation is turning around, which is brightening the prospects for the broader economy.
The labor market continues to remain tight. Over the 12 months through August, strong job increases were recorded in educational & health services (+3.4% y/y) and leisure & hospitality (+4.4% y/y), while manufacturing (-0.5% y/y) continued to struggle. With the state posting job gains in seven of the past eight months, total nonfarm employment hit a fresh record-high in August. Meantime, the participation rate has steadily increased after hitting a record low of 64.5% in February 2023. It was 65.7% in August, nearly three percentage points higher than the national average. That has pushed the state’s jobless rate up 0.3 percentage points to 2.9%, though it remains close to historic lows (2.4% this spring), and well below the national average of 3.8%.
Wisconsin home sales declined 18.3% y/y in August owing to deteriorating affordability. Although demand has dropped, so too has supply (total listings -13.8% y/y) providing support for home prices. The median price was up 10.0% y/y. The supply side could be starting to stabilize with new listings down ‘only’ 2.9% y/y and building permits up 7.1% y/y in the three months ending August (the first positive reading in 18 months).
Meanwhile, any major recovery in housing demand will likely have to wait for some relief on the mortgage-rate front. And, amid the Badger State’s chronically tight labor market, any major improvement in overall and relative economic performance will likely have to wait for a recovery in the manufacturing sector. Meanwhile, it is worth noting that in U.S. News’ “Best States” ranking for 2023, Wisconsin came in eighth, indicative of the potential to move up the state rankings of real GSP growth in the period ahead.
Jeff Ticknor, Group Managing Director, DIG North, Wisconsin, BMO Commercial Bank
Businesses in Wisconsin are incredibly resilient. Companies tend to mirror the local economy, which is currently solid and active. Therefore, despite the national headlines, Wisconsin businesses are thriving. The state currently has a tax burden below the national average, as well as low unemployment, creating a positive business environment for companies to operate in. As we all emerge from the pandemic era, a lot of Wisconsin businesses are having strong years and are experiencing healthy backlogs as well.
Business leaders and managers have been creative, flexible, and innovative when figuring out how to deal with high inflation rates and a fluctuating economy. They have found ways to reinvent themselves with new products and more efficient operations, resulting in strong balance sheets and cash flows. Some of these companies are exploring options for mergers and acquisitions – to not only improve their operations, but also to provide talent for succession. Being more cash-rich also allows some of these companies to pay down their debts. Business leaders, working with clients and suppliers, are showing more interest in incorporating ESG considerations into their operations.
However, as these companies look to capitalize on their strong financial positions, they are still struggling to recruit and retain talent in an increasingly tight labor market. Businesses have had to get creative in the way they recruit talent as labor shortages have affected their ability to grow beyond where they already have. Rising housing costs in metropolitan and city areas are also affecting their ability to recruit.
A few industries are also cautious about inventory and supply chain issues as they look to strike a balance between having too little in their inventory and being over-extended. Businesses are turning to technological innovations and automation where possible in order to address this concern.
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U.S. Economic Outlook
Sal Guatieri, Senior Economist
The U.S. economy remains sturdy. Led by consumers, real GDP appears to have picked up to a 4.5% annualized rate in Q3 from 2.1% in Q2. That's not the speed one would expect after the most aggressive course of monetary tightening in four decades. But some lingering pent-up demand from the pandemic, still healthy job creation, and rising real wages are buttressing demand. Moreover, fiscal policy remains stimulative, with the budget deficit clocking in at around 7% of GDP in the past year. Also supportive are tax credits and subsidies provided by earlier legislation to help refurbish the nation’s physical and electrical infrastructure and reshore production of EVs, batteries and microchips.
Still, the economy looks set to decelerate to a sub-1% rate in Q4 before stalling early next year. Demand is now bucking against the lagged impact of the 75-bp grenades the Fed launched last year. The interest-sensitive housing market is taking the full brunt of the assault. With 30-year mortgage rates at 23-year highs above 7%, existing home sales are testing 13-year lows. High borrowing costs, together with still-rising home prices amid lean listings, have sent affordability spiraling to the worst levels in nearly four decades. Bank lending standards continue to tighten even as earlier stress in the regional banking sector has subsided. Households are losing their appetite for dining and travel. According to the Fed, apart from some high-income earners, most people have depleted their pandemic savings. In addition, tens of millions of student loan borrowers have now resumed repayments after a 3 1/2-year hiatus. While many can reduce or even defer payments under the Administration's Saving on a Valuable Education plan, growth in spending could still take a roughly 2% annualized hit in Q4. This could carve more than a percentage point from quarterly GDP growth, while full-year growth could get dinged by 0.3%.
Thankfully, Congress' last-minute stopgap bill to fund the government has averted a partial shutdown until at least November 17. We estimate that a 5-week shutdown, as per the last one in early 2019, could slice over half a percentage point from quarterly annualized growth. Meantime, a full-scale escalation of the autoworkers' strike could chop quarterly growth by about 3 percentage points. Suffice it to say, some combination of these shocks could seriously throw the U.S. expansion into reverse. For now, we see growth of just 1.2% in 2024 after an estimated 2.3% rate in 2023.
Though still qualifying as a soft landing, a deceleration in the economy is precisely what Doctor Powell ordered to cure inflation. Alas, higher oil prices have stemmed the steady decline in inflation from its four-decade peak of 9.1% y/y in the summer of 2022 to 3.0% in June, lifting it to 3.7% in September. Still, core inflation (ex-food and energy) is behaving well at two-year lows of 4.1% y/y, down from 6.6% last fall. Smoother-running global supply chains and moderating wage growth have helped. But services inflation remains sticky, suggesting a full retreat to the 2% target is unlikely until early 2025.
The Fed held its fire at the last meeting, but some policymakers believe further rate hike(s) may be needed. Though still low, the unemployment rate held steady in September after spiking to 3.8% in August, and we see it rising to around 4-1/2% by next summer. That could more permanently sideline the Fed. Still, with policymakers expecting fewer rate cuts next year (just 50 bps), we pushed out the timing of the inaugural easing pivot next year to September from July.
The theme of 'higher-for-longer' has propelled 10-year Treasury yields to 16-year highs. While we expect yields to drift down to 3.8% by late 2024, it will take a weaker economy, looser labor market, and lower inflation to convince investors.
Arizona Outlook
Jay Hawkins, Senior Economist
Arizona’s labor market is losing momentum. While payroll growth rebounded 0.2% in August, it has flat lined in three of the last six months and appears to have peaked month-on-month at a robust 0.6% in January – the strongest pace since February 2022. Annual growth has slowed considerably this year with an average annual gain of 2.2% through August, down sharply from 4.2% in 2022. Moreover, the state has underperformed the nation for 15 consecutive months, suggesting the Fed’s aggressive interest rate hikes are having a pronounced cooling effect on Arizona’s labor market. The mining & logging, education & healthcare, government, leisure & hospitality and construction sectors experienced well above average gains from a year earlier, while information services has shed workers for six consecutive months amid pervasive weakness in the technology sector. Despite the modest rebound in payroll growth, the jobless rate rose to 3.8% in August, in-line with the U.S. average but well below the long-run average of 6.2% from January 1976 through August 2023. Annual employment growth is expected to slow sharply in 2023 and 2024 due to the lagged effects of tighter monetary policy, pushing the unemployment rate up to 4.5% next year, just shy of the pre-pandemic rate of 4.8%.
Elevated interest rates have had a more pernicious impact on the state’s housing market. Total residential housing permits have fallen annually for 15 consecutive months from April 2022 – one month after the Fed began its rate hiking campaign – through June. Higher mortgage rates have lowered affordability and locked-in homeowners who are reluctant to sell and swap a low-rate mortgage for a higher rate mortgage, thus limiting the inventory of existing homes for sale. The sharp slowdown in residential activity initially moderated home price gains but prices have declined from a year ago for the last four months through June. Residential permits are on pace to decline sharply this year on weak demand and slower in-migration and then rebound in 2024 when the Fed begins slashing interest rates. Consequently, home prices are forecast to decline from 2023 through 2025 after surging by over 20% for two straight years as supply and demand become more balanced.
Heath Scheid, Managing Director, Arizona Market Executive, BMO Commercial Bank
Growth continues to be a key focus for Arizona businesses. In addition to organic growth, companies and business leaders are paying close attention to mergers and acquisitions as a strategy to quickly scale their growth ambitions. Recently headwinds and economic disruptions have many business owners considering an exit which has created opportunities for those looking at acquisitions as a solution. The improvement and implementation of new technology has also been a priority for businesses across all sectors in Arizona with the aim of maintaining their competitive positions.
As we enter a post-pandemic era, we have also observed that businesses in the state are prioritizing supplier diversification. During the peak supply-chain crisis, a lot of companies were either bottlenecked or completely cut off from a supplier and so, supplier diversification, resilience and pricing is currently top of mind for business leaders. Increased input costs such as raw materials and labor has created a focus across most sectors on controlling costs where possible. Experienced management teams are taking a very thoughtful approach to their growth strategies and in many cases have emerged stronger and more resilient than before. We have also seen tremendous growth in some emerging sectors, such as advanced manufacturing, autonomous and electric vehicles, software, as well as expansion in existing sectors like semiconductors.
However, increased borrowing costs and limited real estate inventory may affect a company’s appetite and ability to expand geographically into other regions and thus limit their growth agendas. As has long been the case, recruiting and retaining talent at sustainable cost levels will also be a near-term challenge for Arizona businesses.
Looking ahead, commercial businesses in Arizona are excited about expanding in the markets that they currently serve and are looking to expand to neighboring markets as well, despite potential restraints. Owners are seeking a balance of actively managing cost structures to maintain profitability while supporting growth efforts.
Northern California Outlook
Scott Anderson, Ph.D., Chief U.S. Economist
Northern California's economy is cooling off after a respectable second quarter performance, setting up the region for a period of below-average job growth in 2024 as higher for longer-interest rates and weaker demand in Asia and the U.S. takes its toll. Bay Area job growth has decelerated rapidly over the last two months through August, averaging just 0.3% annualized over the period. From a year ago, Bay Area job growth has slowed from a peak of 8.4% year-on-year as recently as January 2023 to just 2.3% as of August. Job growth in the outlying regions of the Bay Area, such as the Oakland MD and San Raphael MD remain somewhat stronger than in the City of San Francisco itself. Leisure and hospitality, other services, education and health care, construction, and government have been leading Northern California’s job growth over the past year, though net job losses were seen in many goods and service producing industries in August. Northern California’s job growth is expected to slow to just 0.3% in 2024 after increasing 2.1% in 2023. Poor housing affordability and high costs of living continue to be an impediment for stronger economic activity in Northern California. The region’s labor force growth peaked at 3.5% in March 2022 as work-from-anywhere technology workers returned, but labor force growth has since slipped to just 0.5% year-on-year through August. Northern California’s unemployment rate has already increased to 3.5% from a low of 2.7% in August of last year. We expect it to average a somewhat elevated 4.2% in 2024 and 4.0% in 2025. Sluggish population growth and lingering office real estate issues will remain an important headwind to the medium-term economic outlook. While advances in AI technology and its rapid adoption across industries will be an increasingly important driver of the region’s technology economy in the years ahead.
On a brighter note, Northern California’s housing outlook has improved a bit this year as low existing home inventories and declining residential building permits are helping to stabilize existing home prices despite significant headwinds from the highest mortgage rates in over 20 years and already stretched Northern California housing affordability. Bay Area home prices bottomed out in March 2023, down about 11.3% from a year ago, but by August Bay Area home prices have already partially recovered to -6.3% year-on-year. We expect modestly positive home price growth to return to Northern California in 2024 and build momentum in 2025 as a lack of available housing continues to dominate the market.
Amr Guendia, Managing Director & Region Head, BMO Commercial Bank, Northern California & Pacific Northwest
Northern California businesses are finding ways to thrive in the post-pandemic era. Companies are focusing on their capital expenditure (capex) and finding new ways to remain lean in the current economic climate. We are observing that Northern Californian manufacturing businesses continue to address increased labor cost by becoming more efficient through investments in new capex. Investments in growth and IRAs are also driving companies’ increased capex spending. Specifically, IRAs are driving capex spending in cleantech in battery storage and manufacturing across the country. As such, cleantech is emerging as an industry to watch in California. Northern Californian companies are also keenly focused on cash – cash is king, after all. Managing margins and controlling costs to generate cash are top priorities for businesses across all industries. Companies in the San Francisco/ Bay Area and Seattle are heavily investing in AI, driving new startups and, thus, a budding ecosystem of AI companies in the region. Venture capitals have clearly refocused on AI being the future of software and technology. However, for all the growth Northern Californian businesses have experienced thus far, the threshold for transformative mergers and acquisitions is much higher given the cost of capital is currently very high.
There are several global pressures acting upon the national economy that directly affect Northern Californian companies that we continue to closely monitor – with particular focus on energy as the global political instability feeds the inflationary fire. Along with inflation, the tight labor market and rising labor costs are also concerns that companies are looking to address. Northern Californian businesses are looking to push for a more pragmatic immigration policy approach in order to help mitigate their employment shortfalls and rising labor costs. The food and agriculture industry is experiencing a downturn currently and we are focused on encouraging those businesses to invest in automation that will have a meaningful impact on addressing rising labor costs.
Southern California Outlook
Scott Anderson, Ph.D., Chief U.S. Economist
Southern California's economy is still on track for a soft-landing in 2024, despite the drag from higher interest rates and the negative impact from the writer and actors strike in Hollywood this summer. Southern California’s job growth has decelerated to an average 0.9% annualized over the past three months with net job loss in both June and August as the writers and actor strike pushed the motion picture and sound recording sector into sharp job losses. From a year ago, Southern California job growth has slowed from a peak of 9.3% in January 2022 to just 2.0% as of August. Leisure and hospitality, education and health care, and other services have been leading Southern California’s job growth over the past year, and most sectors outside the information sector continue to add net jobs. Payroll growth was robust in August in construction, financial services, health care, trade and transportation, and even manufacturing. The diversity of Southern California’s economy will be an important support for growth over the coming year. Southern California’s job growth is expected to slow to 0.8% in 2024, somewhat above the California average, after increasing 2.1% in 2023. Southern California’s unemployment rate has already increased to 4.7% in August from a low of 4.0% a year ago. We expect the unemployment rate to average an elevated 5.2% in 2024 and 5.1% in 2025. Continued net out-migration and sluggish population growth place a speed limit on region’s potential economic growth.
Southern California’s housing outlook is generally positive despite rising mortgage rates and historically poor housing affordability. Residential building permits are back on the rise in Southern California, increasing 12.4% from a year ago in August, as low existing home inventories continue to force Southern California home prices higher. Los Angeles home prices bottomed at -3.3% from a year ago back in April, but has since improved to a +0.4% by July. We are lifting our home price forecast for Southern California to a positive 2.0% in 2024 and 2.9% in 2025 as an improved economic and labor market outlook for 2024 and a continued shortage of existing homes available for sale keep home prices on a steady rise over the medium-term horizon.
Charlene Davidson, Managing Director and Head, Southern California, BMO Commercial Bank
Southern California is a resilient and diversified economy powered by two of the largest ports in the country and supplemented by a massive consumer base. Because of this, despite economic or political headwinds – past or present – the local economy reliably recovers and prospers when confronting almost any scenario. And so, Southern Californian businesses are performing really well despite the bleaker national economic outlook. Foreign Direct Investment in wholesale trade, retail trade, manufacturing, media & entertainment, tourism, transportation, businesses services and more outpaces the rest of the state, moreover, the rest of the country. Businesses in these industries are particularly thriving, creating the backbone of the Southern California economy. Most of California’s foreign-owned enterprises reside in the greater Los Angeles area, representing more than 11,000 foreign owned-businesses in Southern California. Companies are improving their capital management as well.
However, despite the resiliency and strength of these Southern Californian companies, there is still an air of caution surrounding capital expenditure. Capital investment remains curtailed and largely focused on necessity versus growth, accounting for the increased costs of capital as well as the tight interest rate environment. There is also a lack of an active merger and acquisition landscape, for both large and small companies – another indicator of cautiousness in the market. We are also observing a disparity between the cost of borrowing and the cost of deposits – the flat rate and cheap money environment moved away quickly, and yet, borrowers are still expecting low-cost loans. This is then exacerbated by overbanked markets, while borrowers continue to demand higher rates on their deposits.
As we approach an election year, there has also been extensive discourse amongst Southern Californian businesses related to ongoing and potential congressional actions – policy changes on taxes are being particularly closely observed, as well as environmental policies and subsidies.
Colorado Outlook
Jay Hawkins, Senior Economist
Colorado’s labor market is showing signs of stabilizing. Total nonfarm employment expanded 0.2% in August after slowing to 0.1% for two straight months in June and July. Financial activities employment fell for the eighth time in the last nine months, construction employment rebounded 0.2% after falling for three months in a row and information employment rose 0.4% following three straight declines amid widespread weakness in the technology sector. There were well-above average gains in leisure & hospitality, education & healthcare and mining & logging. The modest rebound in job growth pushed the year-on-year growth rate up to 1.5% and marks the third successive month of accelerating gains. Despite the recent uptick in payroll growth, the unemployment rate rose two-tenths to 3.1% in August, still just below the pre-pandemic rate of 3.2% but the highest since April 2022. Job growth is projected to slow sharply over the next two years, pushing the unemployment rate up to 3.3% in 2025, the highest since 2021.
The sharp increase in interest rates engineered by the Fed beginning in March of 2022 has pressured the state’s housing market. Total building permits have fallen year-on-year for the last 13 months through June, with permits plunging by double digit rates for the last 12 months. Higher mortgage rates have lowered affordability and prompted homeowners with low-rate mortgages to stay put, thus reducing the inventory of existing homes for sale. Declining home sales over the past two years through the second quarter has exerted downward pressure on home prices with the FHFA Home Price Index falling from a year ago for the last five months through June. The last time home prices declined annually for five months in a row was from September 2011 through January 2012. Home prices are forecast to dip by an average of around 4.0% per year over the next two years in an unfavorable environment of low affordability, slowing job growth and increasing unemployment.
Brian Russ, Managing Director, Colorado Market Executive, BMO Commercial Bank
It is a mixed time for business activity in Colorado. An industry that has been particularly interesting to observe is the construction sector – it continues to be resilient despite ongoing concerns about high interest rates. This includes both retail and commercial subsectors (excluding office spaces). We are also observing a rise in inward migration into Colorado, resulting in a subsequent increase in remote and hybrid work. This reflects the state’s success in recruiting and retaining talent in what is now a highly competitive job market. The strength and resiliency of the job market is proving to be very good for the state and we are optimistic about its continued stability. Moreover, aided by the increase in inbound migration among other factors, consumer spending has also remained steady in Colorado.
There is also an increased interest and excitement around the implementation of artificial intelligence across a myriad of businesses and industries alike in Colorado. The positive impact that technological development has brought to the state and its businesses is already immense, and we expect its impact to continue.
We are closely observing the high vacancy rates in the commercial office market and any potential knock-on effects that may arise from that. The potential impact of bank market stress on businesses’ credit availability is also something we are closely monitoring.
While the labor market continues to be tight for unskilled labor, it is improving. We have found that Colorado companies have brought a renewed sense of focus around vetting banking partnerships, driven by stress in the bank market. We have also observed an increased interest from businesses in re-shoring and friend-shoring, which may have a positive impact on the local Colorado economy.
Florida Outlook
Michael Gregory, CFA, Deputy Chief Economist
Priscilla Thiagamoorthy, Senior Economist
The Florida economy topped the growth leaderboard last year. Real gross state product (GSP) came in at 4.6%, more than double the national average. This was pumped by population growth and paced by the real estate, rental & leasing sector (which weighs in at close to 19% of GSP, the most for any state). And these themes are continuing this year. Through Q2, Florida’s population has expanded 2.1% y/y, again, the most for any state, and more than four times the national average (0.5% y/y). ‘Servicing’ this demographic wave and the various activities tied both upstream and downstream to the broad real estate sector should continue to drive the economy and the job market.
The Sunshine State’s labor market remains strong. As of August, total nonfarm payrolls were nearly 8% more than pre-pandemic levels. Employment in construction has picked up after facing headwinds earlier in the year, while manufacturing jobs have remained sturdy, reaching the highest in over two decades. A strong consumer base has pushed trade, transportation & utilities jobs to the highest in at least three decades, while most other sectors are also in expansion mode. The one outlier is growth in leisure & hospitality jobs, which has seen little traction this year. The state's labor force grew by more than 40,000 for the third straight month. Despite the pickup, Florida's labor market remains tight with a 2.7% jobless rate in August; unchanged from a year ago and below the national rate of 3.8%.
Florida’s housing market is bucking the national trend. Like in other markets, unit sales of single-family homes along with townhouses and condos both dropped in August owing to eroding affordability. But the respective 7.9% y/y and 7.2% y/y decreases were less than half the national average. However, the respective 2.0% y/y and 6.2% y/y increases in median home prices were not encouraged by leaner listings. Instead, total listings were up 0.2% on the single-family front and 30.6% y/y for townhouses and condos. This means there was significant excess demand for housing heading into the upturn in mortgage rates (owing to the demographic forces). This bodes well for a rebound in home sales and new construction once borrowing costs start retreating, which also bodes well for the broader Florida economy.
Marty McAndrew, Managing Director, Florida Market Executive, BMO Commercial Bank
Given the current interest rate and economic environment, Florida businesses are turning to larger financial institutions for their lending needs. This has shifted the bank lending space in the state – regional and smaller financial institutions are pulling back on lending due to capital concerns while larger institutions are significantly more disciplined with their lending as they deploy capital with a focus on overall relationships. This renewed focus helps larger financial institutions increase their share of wallet as well as their clients’ return on capital. We have also observed some mergers and acquisitions green shoots, though some of their valuations are under pressure given the current interest rate environment. Due to these factors, banks are more focused on deposit gathering while depositors are more conscious of yields.
Florida continues to be a top state for in-migration, owing to the great climate, low taxes, and business friendly environment. Though interest rates are currently high, we are optimistic that they will begin to ease soon, providing some relief to Florida business owners regarding their investments and their ability to spur economic activity. Local CEO’s and CFO’s are also feeling more comfortable with the possibility of a ‘soft landing’ for the economy as opposed to a recession, and so, investment confidence is starting to increase as well.
The real estate market in Florida is experiencing some slowdown, as well as distribution businesses that are dependent on overseas, overbought inventory. The spillover from the disruption to commercial real estate is also a situation that we are monitoring – especially in light of interest rate and occupancy concerns. Recruiting and retaining talent in a tight labor market has also been a priority for Florida businesses. Increased visibility on economic outlooks that directly affect the Florida market will help assuage some of these concerns for business owners and leaders.
Illinois Outlook
Michael Gregory, CFA, Deputy Chief Economist
Priscilla Thiagamoorthy, Senior Economist
The Illinois economy had middling performance last year with real gross state product (GSP) growing modestly below the national average (at 1.3% vs. 1.9%), with a contracting state population constraining stronger outcomes. Through 2023 Q2, Illinois’ population has been shrinking at a yearly rate in the 0.7%-to-0.8% range since the end of 2020. And while recent labor market performance is pointing to a pickup in real GSP growth, it’s still likely lagging the national norm.
Nonfarm payroll jobs increased by 75,600 (+1.2% y/y) in the 12 months through August, with gains across most major industries. Sectors that saw the largest jobs increases included: educational & health services (+4.3% y/y) and leisure & hospitality (+4.4% y/y). On the flip side, professional & business services (-1.6% y/y), manufacturing (-1.6% y/y), and information (-5.3% y/y) reported declines. While overall conditions remain healthy, the labor market is showing signs of moderating; nonfarm payrolls fell in August for the first time in eight months and the jobless rate ticked up to 4.1%. Although that’s not too far from (pre-pandemic) record-lows, it is still 0.3 percentage points higher than the national rate.
Illinois home sales slipped 14.0% y/y in August due to deteriorating affordability. The median home price was up 7.7% y/y, prodded by a much larger 31.0%% y/y drop in the inventory of homes for sale. And the supply situation doesn’t appear to be stabilizing any time soon, with new listings still decreasing at a double-digit rate (-10.3% according to Redfin) and building permits down 10.8% y/y during the three months ending in August.
Faced with the constraint of a contracting population, the fact that Illinois growth still manages to come close to the national average is a testament to the economy’s underlying strengths. Some of these strengths were emphasized by CNBC’s 2023 ranking of “America’s Top States for Business”. Although Illinois came in 17th overall, it scored exceedingly high in two broad categories, infrastructure (2nd only to Georgia) and education (2nd only to Virginia). Such an ‘above-average’ result holds out the prospect for closing the growth gap with the U.S. total.
Stephanie Kline, Managing Director, Illinois Market Executive, BMO Commercial Bank
Businesses in Illinois are entering a new post-pandemic era of operations. Supply chain challenges from the pandemic have been resolved and overcome, there is a renewed desire and demand from clients to get more from their deposits, and businesses are focused on executing growth strategies and returning to their core business functions as operations return to a new norm. Companies are now sitting on more liquidity and larger amounts of inventory than normal – though we do recognize that industrial, manufacturing and warehouse space is becoming increasingly harder to find. Because of this, we are observing a decreased reliance from companies on importing parts, raw materials, and products. Though we have seen a slight slowdown in overall growth in businesses due to a slowing economy, migration to SAMU has been slower than expected as well.
The recent emphasis in investment in the tech sector in Illinois continues to be very promising. This investment has helped create a large and diverse economy in the state such that stakeholders are not reliant on the success of just one or two strong sectors anymore. We also expect demand to continue to lead the Illinois economy, as long as employment and household income levels remain strong.
Higher interest rates seem to be the most top of mind concern for business leaders in Illinois. Some of these leaders have not had to work through the level of interest rates that we are currently experiencing, so that is something we are helping them navigate. AI – the development as well as the implementation of it – is something we are closely monitoring as well. Business leaders want to ensure fraud via AI is as limited as it can be. As businesses look to the future, there has been an increased interest in mergers and acquisitions and other growth opportunities that are available for them.
Indiana Outlook
Michael Gregory, CFA, Deputy Chief Economist
Priscilla Thiagamoorthy, Senior Economist
The Indiana economy was one of only six states to top 3% growth last year. Real gross state product (GSP) grew 3.1%, which ranked sixth, partly paced by stronger durable goods manufacturing. This sector is more automotive focused than any other state except for Michigan. This year, the theme of normalizing automotive production volumes has continued to play, putting Indiana on track to continue its top tier performance. Also helping will be the relatively large amount of (federal government policy nudged) announced investments on infrastructure and in the microchip and clean energy sectors.
However, the Hoosier State’s labor market, while doing well, has not been outpacing the national norm. Nonfarm payrolls are more than 53,000 in the past year, a 1.7% advance that slides under the 2.0% y/y U.S. total. Strong gains were posted in education & health services (+11,200), leisure & hospitality (+9,800), finance, insurance and real estate (+4,600). The manufacturing sector (outside of the automotive sector) has faced heavy headwinds through much of 2022 and the first half of 2023, but with signs of stabilization taking place, employment has been expanding for the past three months. While Indiana’s overall labor market is expected to stay healthy, there are signs conditions are softening a bit. The jobless rate has been ticking up for the past four straight months, hitting the highest point in almost two years at 3.4% in August, though that’s below the national rate of 3.8%.
Indiana home sales slipped 18.0% y/y in August as affordability deteriorated. The median home price was up 6% y/y in August, with inventories down 4% y/y which seems destined to fall further with new listings down even more steeply (-8% y/y). However, building permits were up 11.5% y/y during the three months ending August, pointing to a pickup in new construction.
Finally, according to Invest.gov, which is tracking those ‘nudged’ investments, Indiana has already picked up more than $18 billion of the nearly $820 billion of total outlays announced. (The largest single announcement was a $2.5 billion electric vehicle battery plant by Samsung and Stellantis.) These represent around 4% of GSP, supporting economic and job growth in the years ahead.
Andrew Hedegard, Managing Director, Indiana Market Executive, BMO Commercial Bank
Indiana businesses are experiencing healthy balance sheets despite rising interest rates. And so, there is still an elevated appetite for mergers and acquisitions, particularly with businesses that are more liquid than they expected to be. Companies and businesses leaders are also keenly focused on hitting their internal rate of return after building in the cost of capital in comparison to historically low interest rate periods.
Despite the healthy balance sheets, Indiana businesses are experiencing an uptick in debt as interest expenses are higher than they were at the same time last year. Because of this, many companies and business leaders are more mindful about making any banking changes unless necessary – companies are seeking value outside of a lower interest rate as the economic outlook remains uncertain. Companies are also finding it difficult to recruit and retain employees in this tight labor market.
The economic environment in 2024 is going to dictate how Indiana businesses fare next year. BMO and its clients are closely monitoring inflation, interest rates and whether the Fed goes too far in rate hikes, which would impact employment and consumer spending. Remaining updated and apprised of how these factors fluctuate throughout the year will be the key to ensuring success for Indiana companies next year.
BMO remains competitive in a saturated banking environment in Indiana. Equipped with the right pedigree of banker talent, BMO is capable of giving clients the best advice, remaining agile and flexible with their needs, and bringing in the right resources from the bank when needed. This capability allows BMO Indiana to separate itself from being a commodity bank and focus on adding value for clients by providing educated and strategic advice.
Minnesota Outlook
Michael Gregory, CFA, Deputy Chief Economist
Priscilla Thiagamoorthy, Senior Economist
The Minnesota economy had middling performance last year with real gross state product (GSP) growing modestly below the national average (at 1.2% vs. 1.9%). The moderate move occurred as weakness in sectors such as finance & insurance, construction, wholesale trade and nondurable goods manufacturing countered strength in industries like real estate, rental & leasing, professional, scientific & technical services, and arts, entertainment & recreation. And if the latest employment data are any guide, some of these themes have continued into this year.
Minnesota is one of the few states where total nonfarm payrolls (2.987 million in August 2023) are still below pre-pandemic levels (2.993 million in February 2020). The labor market rebounded in August following job losses in the prior two months. Despite the bounce-back, weakness is apparent in many sectors. Manufacturing (-0.8% y/y), wholesale trade (-1.5% y/y), and financial activity (-1.9% y/y) continue to see job losses. In contrast, educational & health services (+2.9% y/y) along with construction payrolls have shown remarkable fortitude (+3.8% y/y). The jobless rate touched a record low 2.3% in April 2022, but has since steadily trended higher, hitting 3.1% in August (still below the national average of 3.8%) as the state expanded its labor force for the sixth straight month.
In the housing market, unit sales were down 11.8% y/y in August owing to eroding affordability. The median home price rose 5.5% y/y, as homes for sale were down 4.7% y/y. In August, building permits popped into positive territory for the first time in 16 months (nearly 17% y/y), but this was only one month, and the data are volatile.
Finally, it’s noteworthy that CNBC’s “America’s Top State for Business” and U.S. News’ “Best States” rankings for 2023 both placed Minnesota fifth. Given that these two ranking systems employ different data and methodologies, it’s not often they come to the same conclusion. And for Minnesota, it’s mostly because of the state’s top-rated infrastructure (which is ranked 3rd and 1st, respectively). This bodes well for improved economic performance.
Nicole Sever, Managing Director, Minnesota Market Executive, BMO Commercial Bank
Companies in Minnesota continue to be resilient despite the tight interest rate and economic environment. Business leaders’ creativity and flexibility have allowed Minnesota companies to mitigate cost pressures and maximize margins, leading to strong balance sheets and increased liquidity. The extra cash in hand allows these businesses to explore more merger and acquisition options and pay down outstanding debt. Those companies that serve infrastructure spending are doing particularly well with strong backlogs given the record spending bill that was just passed in the state. A number of industries in the manufacturing space also remain strong with good backlogs but are experiencing concentrated weaker spots. For example, industries that serve larger real estate projects in families or offices are seeing a slowdown.
In some instances, supply chain normalization has created a slowdown wherein end customers overbought the last several years and are now trying to right size their inventory. In these situations, the supplier upstream is seeing a material slowdown in demand. In some industries, loan demand is softer as companies are more cautious on capex spending and using excess cash to paydown working capital. Interest rates have also made it harder to hit return on investment targets for certain projects.
A top concern for Minnesota companies is labor – availability, skill gaps, changing workforce, aging workforce, succession, and more are proving to be hard to tackle. For those companies looking to expand workforce capacity, some are looking to regions outside of the Midwest to tap a larger workforce. Certain areas within the real estate sector are experiencing a slowdown, which will potentially have a downstream negative effect on certain suppliers and providers. Minnesota companies are also being cautious with new capital expenditures, expansions and acquisitions in light of potential economic issues and rising interest rates. Instead of embarking on a large expansion, companies may look for ways to implement expansion in phases.
Pacific Northwest Outlook (Oregon & Washington)
Jay Hawkins, Senior Economist
Oregon
Oregon’s job growth is cooling. Nonfarm payrolls contracted 0.1% month-on-month in August and growth has slowed for two consecutive months after climbing a solid 0.3% in June. Jobs rose in just four sectors with the strongest gains in leisure & hospitality (+1.0% and the fourth straight increase) and other services (+0.2%). The largest declines were in mining & logging (-1.5%), construction (-0.8%) and financial activities (-0.5%). The drop in payrolls in August pushed the year-on-year growth rate down to 2.0% from 2.4% in July and the smallest gain since March 2021. Despite the drop in employment, the unemployment rate was unchanged at 3.4% in August. However, that is considerably below the nation’s growth rate of 3.8% and breaks a strong of six straight months of declining unemployment. Job growth is forecast to slow to just 0.8% next year, a sharp drop from 2.6% this year. The slowdown in job growth will push the jobless rate up to 4.4% in 2025, the highest since 2021.
High mortgage rates, challenging affordability and a lack of inventory are jointly weighing on the Oregon housing market. At the end of July, an estimated three months of supply was listed for sale according to Redfin, compared to the five or six months typical of a balanced market. Total housing permits are also under severe downward pressure with year ago declines over the last six quarters through June. The lack of homebuilding will prevent new-home sales from making up for the inventory shortfall. The sharp year ago declines in existing home sales in the last five quarters through June is putting downward pressure on home price appreciation. Annual home price growth peaked at just over 24.0% in the first quarter of 2021 and then moderated but remained positive for six consecutive quarters through the fourth quarter of 2022. Home prices then declined 1.1% and 2.2% in the first and second quarters of this year respectively amid weakening demand. Home prices are forecast to continue declining in 2024 and 2025 as job growth slows, unemployment climbs and inventory remains limited.
Washington
Washington’s employment growth is slower thus far this year compared to 2022. Total nonfarm job growth has averaged 0.2% month-on-month through August, down from an average of 0.3% last year. More encouragingly, employment rebounded 0.1% in August following a 0.2% decline in July, led by solid gains of 1.0% and 0.9% respectively in manufacturing and other services. Employers shed positions in mining & logging (-1.8%), professional & business services (-0.5%) and information (-0.4%) and restrained overall job growth. Despite the rebound, job growth from a year ago slowed to 2.3% – the slowest since March 2021 – partially due to base effects with employment growth a robust 4.7% in the August 2022. Strong advances in other services (+7.4%), leisure % hospitality (+6.5%), education & healthcare (+5.7%) and financial activities (+3.1%) underpinned annual growth, while information was the lone sector to contract. Despite the slowdown in job growth, the unemployment rate was unchanged at 3.6% in August and is just below the pre-pandemic rate of 3.8%. The anticipated slowdown in job growth over the next two years will drive the jobless rate up to 4.7% in 2025 from 4.2% in 2022.
The recent rebound in home prices will be fleeting and the ongoing housing correction has not run its course. Home prices have inched up month-on-month for the last four months through June after falling for nine months in a row. Building permits, however, have tumbled over the last four months which will limit the already-tight inventory of homes for sale. With many homeowners locked into mortgages at ultra-low rates, new listings have been advancing at the lowest level in eight years. Nonetheless, the tight inventory situation will prove temporary as some homeowners who can no longer postpone plans to relocate will ultimately list their homes. Consequently, rising inventory, slowing job growth and increasing unemployment will collectively exert downward pressure on prices, with the median home price projected to drop 2.8% in 2024 and another 2.1% in 2025 after falling slightly this year.
Scott Bell, Managing Director, Pacific Northwest Market Executive, BMO Commercial Bank
Despite persistently high inflation, the overall Pacific Northwest economy remains strong as most companies are performing well with an eye toward continued growth. Many companies are investing in automation to improve overall productivity as well as investing to expand their capacity to grow with existing and new clients. The region is also expecting to benefit from government spending with the CHIPS and Science Act which will drive further investment in the semiconductor space, directly impacting several industries. As such, the Life Sciences and Biotechnology industries are continuing to expand in the region which is helping to transform the local economy.
The Pacific Northwest offers a great environment for work and recreation, contributing to the recruitment and retainment of talented labor in the region, which is critical to sustaining growth. BMO is also seeing a slow but deliberate return to urban cores with return-to-office initiatives, which is helping to drive some improvement in retail, restaurant, and hospitality industries. Aerospace and Defense industries have long been regionally important and are seeing improved market conditions as well. The region also remains a leader in outdoor and recreational equipment and environmental investment, which should continue to see growth and innovation.
High inflation remains a concern as it impacts corporate profitability margins and household incomes. High housing costs have also been compounded with the higher interest rate environment. This directly impacts the livability of certain neighborhoods across the states in the region. While significantly improved, BMO continues to see supply chain issues across many industries, which remains a major focus for many companies in the region.
Looking forward, businesses in the region are cautious about the safety of their deposits as well as the ability to access credit from those banks that have had a loss of liquidity with a deposit exodus.
Texas Outlook
Michael Gregory, CFA, Deputy Chief Economist
Priscilla Thiagamoorthy, Senior Economist
The Texas economy posted top-10 performance last year, with real gross state product (GSP) expanding 2.7%, ranking ninth among states. We expect Texas’ growth rate and ranking to both improve this year, supported by population and job growth, up-trending crude oil production along with increased investment spending on infrastructure and in the microchip and clean energy sectors given the recent wave of (federal government policy nudged) announcements.
The labor market in the Lone Star State is shining. It added more than 400,000 new jobs in the year through August. Even in percentage change terms, the 3.0% advance was the second strongest in the nation after Nevada’s 3.8% y/y. But there are signs that the still-healthy labor market may be shifting to a more moderate pace. Texas added 16,700 net new jobs in August, less than the average monthly pace reported in the first half of the year. Government hiring accounted for the bulk of the increase, while private sector gains totaled only 4,600, the weakest reading since February 2021. Key industries like leisure & hospitality (+3.8% y/y), manufacturing (+3.3% y/y) and construction (+2.7% y/y) continued to expand. Meanwhile, notable contractions were recorded in educational services (-0.8% y/y). The jobless rate has also stagnated at 4.1% for four straight months, sitting above the national average of 3.8%. Still, that’s a reflection of a growing labor force, which has been strengthened by rising net inward migration.
Texas’ demographic forces are causing the housing market to buck the national trends. While unit sales were down 7.2% y/y in August owing to eroding affordability, the latter was all due to higher mortgage rates. The median home price dropped 1.1% y/y, with total listings increasing 16.4% y/y. The fact that prices dipped ‘only’ about 1% is a testament to the strength of underlying housing demand which will eventually support stronger unit sales and new construction.
Finally, according to Invest.gov, which is tracking those ‘nudged’ investments, Texas has already reaped some $95 billion of the nearly $820 billion of total planned outlays. The largest announcements include Texas Instruments’ $30 billion for four semiconductor fabrication plants, and Samsung’s $17 billion on another facility, with Tesla investing as much as $10 billion in a new electric vehicle factory. In total, these announcements weigh in at 4.0% of GSP which will support stronger economic and job growth in the years ahead.
Brian Enzler, Regional Commercial Head - South Central U.S.
Texas businesses have a renewed focus on efficiency. The cost of capital has remained high given the current interest rate environment and an improved labor market, and so, business leaders are optimizing their workforce and investing in technology that creates efficiency. The current economic environment has also moderated many Texas businesses’ growth strategies through mergers and acquisitions. We are also observing the continued diversification of supply chains as geopolitical tensions remain, which has led to sustained interest in nearshoring, friend-shoring, and reshoring. Most businesses are maintaining higher inventory levels than they were prior to the pandemic but are moderating down from their inventory levels during the peak of the supply chain crisis.
We are optimistic that a slowdown in the Federal Reserve interest rate hikes will allow capital markets to settle into a new normal, allowing businesses to refocus on strategy and not have to constantly react to financial market focus. We believe this has contributed to the increased efficiency of Texas businesses already and expect this trend to continue.
A strong Texas business climate is being driven by a diverse economy, an educated workforce, and a low cost of living. All of these factors have contributed to a net positive inward migration and a continued investment in Texas businesses and communities.
Conversely, while the inward migration of new employees has brought diversity of talent and thought to the state, the return-to-office initiative has received mixed feedback. Maintaining a positive culture among employees during this time and understanding how it impacts them in various ways will be the key to ensuring the enduring success of Texas businesses. Our most present focus is on navigating the changing commercial banking landscape in the state, which is currently experiencing a tight credit environment, and meeting the expectations of clients seeking a larger share of wallet from banking partners.
Wisconsin Outlook
Michael Gregory, CFA, Deputy Chief Economist
Priscilla Thiagamoorthy, Senior Economist
The Wisconsin economy underperformed last year, with a slowing manufacturing sector (outside the automotive sector) and shrinking labor force weighing heavy. Real gross state product (GSP) grew only 0.4% in registering bottom-quartile results among all states. As this year has unfolded, factories have continued to struggle (a nationwide phenomenon). However, the labor force situation is turning around, which is brightening the prospects for the broader economy.
The labor market continues to remain tight. Over the 12 months through August, strong job increases were recorded in educational & health services (+3.4% y/y) and leisure & hospitality (+4.4% y/y), while manufacturing (-0.5% y/y) continued to struggle. With the state posting job gains in seven of the past eight months, total nonfarm employment hit a fresh record-high in August. Meantime, the participation rate has steadily increased after hitting a record low of 64.5% in February 2023. It was 65.7% in August, nearly three percentage points higher than the national average. That has pushed the state’s jobless rate up 0.3 percentage points to 2.9%, though it remains close to historic lows (2.4% this spring), and well below the national average of 3.8%.
Wisconsin home sales declined 18.3% y/y in August owing to deteriorating affordability. Although demand has dropped, so too has supply (total listings -13.8% y/y) providing support for home prices. The median price was up 10.0% y/y. The supply side could be starting to stabilize with new listings down ‘only’ 2.9% y/y and building permits up 7.1% y/y in the three months ending August (the first positive reading in 18 months).
Meanwhile, any major recovery in housing demand will likely have to wait for some relief on the mortgage-rate front. And, amid the Badger State’s chronically tight labor market, any major improvement in overall and relative economic performance will likely have to wait for a recovery in the manufacturing sector. Meanwhile, it is worth noting that in U.S. News’ “Best States” ranking for 2023, Wisconsin came in eighth, indicative of the potential to move up the state rankings of real GSP growth in the period ahead.
Jeff Ticknor, Group Managing Director, DIG North, Wisconsin, BMO Commercial Bank
Businesses in Wisconsin are incredibly resilient. Companies tend to mirror the local economy, which is currently solid and active. Therefore, despite the national headlines, Wisconsin businesses are thriving. The state currently has a tax burden below the national average, as well as low unemployment, creating a positive business environment for companies to operate in. As we all emerge from the pandemic era, a lot of Wisconsin businesses are having strong years and are experiencing healthy backlogs as well.
Business leaders and managers have been creative, flexible, and innovative when figuring out how to deal with high inflation rates and a fluctuating economy. They have found ways to reinvent themselves with new products and more efficient operations, resulting in strong balance sheets and cash flows. Some of these companies are exploring options for mergers and acquisitions – to not only improve their operations, but also to provide talent for succession. Being more cash-rich also allows some of these companies to pay down their debts. Business leaders, working with clients and suppliers, are showing more interest in incorporating ESG considerations into their operations.
However, as these companies look to capitalize on their strong financial positions, they are still struggling to recruit and retain talent in an increasingly tight labor market. Businesses have had to get creative in the way they recruit talent as labor shortages have affected their ability to grow beyond where they already have. Rising housing costs in metropolitan and city areas are also affecting their ability to recruit.
A few industries are also cautious about inventory and supply chain issues as they look to strike a balance between having too little in their inventory and being over-extended. Businesses are turning to technological innovations and automation where possible in order to address this concern.
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