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Economist Tim Duy tempers state's optimism

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Archives - December 2008
Monday, December 01, 2008

Don’t drink the Kool-Aid


HOW WILL OREGON weather the economic storm in comparison to the rest of the nation? This question is at the top of the list for local policymakers and firms. Oregon may not be the worst hit in the nation this time around, but don’t overestimate our strengths, especially with regard to housing. Moreover, with the nation headed into the worst recession since the 1980s, even doing better than average might not be enough to avoid a repeat of the 2001 recession in Oregon.

It is true that Oregon housing prices have not fallen as dramatically as in other parts of the nation. But it is premature to find this comforting; instead, it leaves me apprehensive. Consider that the 20-city composite S&P/Case-Shiller measure of existing home prices peaked in July 2006 and fell 4.4% over the next 13 months. By August of this year, prices were down 20.3%. Compare this national measure to recent home price trends in Portland. The S&P/Case-Shiller index for Portland reports that home prices peaked in July 2007, and 13 months later were down 7.8% — a greater decline than experienced nationally 13 months after the peak.

In other words, Portland’s declines are relatively more extreme compared to the peak, with further downside ahead. And the problem of falling home prices is not limited to Portland; it is a statewide phenomenon. A study by Global Insight/National City ranks three Oregon cities — Bend, Portland and Eugene — among the top 10 most overvalued housing markets in the nation as of the second quarter of 2008, with prices too high by margins of 46.6%, 35%, and 30.9%, respectively. This may be the best time to buy in 20 years, but the future will be even better.

Using conventional underwriting standards, the mix of housing remains too expensive relative to the income of Oregonians, and prices need to adjust accordingly. The end result will be an economy less dependent on housing as an engine of growth, which means a period of transition as we shed housing-dependent jobs. Moreover, with the mix of new homes in the future shifting toward affordable housing, reliance on construction of overpriced, unaffordable homes to bolster tax revenues is a thing of the past.
Unfortunately, there is little to replace the economic hole opened by the deteriorating housing market. Export activity no longer looks like it will cushion much if any of growing economic distress. The value of the dollar has suddenly shifted directions, rising significantly against a broad range of currencies since the middle of the year. The U.S.-centered financial crisis has spread well beyond our borders, threatening global growth and the demand for our exports. And, it is often forgotten that a large portion of the surge in Oregon exports is attributable to the commodity price boom. With commodity prices now in virtual free fall, Oregon exports will suffer.

Ironically, the export sector that looked like an asset in the first half of this year may turn into a liability in the second. While we are on the topic of falling commodity prices, note that the reversal of record high energy costs will slow the development of green energy, the hoped-for engine of Oregon’s economic future.

Not surprisingly, Oregon’s labor market is showing signs of severe stress. Nonfarm payrolls declined by 17,300 in August and September combined. Note that the largest two-month decline during the 2001-2003 period was 13,900 in March and April of 2003 — the recent pace of net job losses is already more extreme than that of the last recession! And the bulk of the recession remains ahead of us, not behind. I expect the economic landscape will be characterized by recessionary conditions through at least the middle of 2009, implying an extended period of job losses. These losses will weigh heavily on Oregon’s fiscal position. While compared to the last recession, Oregon is fortunate to have a $600 million rainy day fund, but it will seem a drop in the bucket if economic activity contracts as sharply as I anticipate.

Local pride is an asset, but we should not let cheerleading lead to complacency. Policymakers and the business community need to stop drinking the “Oregon is different” Kool-Aid and recognize that with the national economy heading into what is likely the worst recession since the early 1980s, Oregon almost certainly faces an economic downturn that exceeds that of 2001-2003. The prudent approach in this environment is to plan for the worst, and hope for the best.

Tim Duy is an adjunct professor of economics at the University of Oregon and director of the Oregon Economic Forum. His views do not represent the views of the University of Oregon.

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