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You Visit Tour. Webb Lion Fountain. June 1 2017. Photo David B. Hollingsworth

Economic Forecasting Project Predicts Slower Growth for Hampton Roads in 2015

While a solid year of growth is expected for the national economy, Old Dominion University's Economic Forecasting Project is predicting the economy in Hampton Roads will grow at a slower rate in 2015 than it did last year.

The annual forecasts, traditionally a respected, accurate harbinger of the year ahead for the region and the country, were delivered Wednesday, Jan. 28 in downtown Norfolk.

The national forecast, delivered by Chip Filer, associate professor of economics in ODU's Strome College of Business, predicts real gross domestic product (GDP) growth of 3.04 percent for 2015 - a modest increase over last year's forecast of the economy expanding by 2.84 percent and above the 30-year national average of 2.7 percent.

The forecast for the Hampton Roads Metropolitan Statistical Area, presented by Forecasting Project Director and Strome College Interim Dean Vinod Agarwal, predicts the regional economy will grow at a 1.96-percent rate - slower than last year, and slower than the historical annual average of 3.1 percent for Hampton Roads.

Details of the regional and national economic forecasts, as provided by the Economic Forecasting Project team, follow:

ANNUAL 2015 ECONOMIC FORECAST AND ANALYSIS FOR THE HAMPTON ROADS MSA

The Hampton Roads MSA (formally the Virginia Beach-Norfolk-Newport News MSA) includes Currituck County, Gloucester County, Isle of Wight County, James City County, Mathews County, York County, Chesapeake, Hampton, Newport News, Norfolk, Poquoson, Portsmouth, Surry County, Suffolk, Virginia Beach and Williamsburg.

Real Gross Regional Product (up 1.96%)

The Hampton Roads economy is expected to grow at a slower rate in 2015 than in 2014. Regional growth in 2015 will also be slower than the historical annual average of 3.1 percent and slower than that of the nation.

As we began 2014, Congress finally passed the Fiscal Year 2014 (Oct. 1, 2013 through Sept. 30, 2014) budget and appropriations, thereby reducing fiscal uncertainty, and providing clarity on federal expenditures at least for the remainder of that year. However, because of the late passage of the budget, there were delays in planned spending for Fiscal Year 2014 that probably led to a decline in the growth of GDP during the first quarter of 2014.

The region's economy, as measured by Real Gross Regional Product, expanded at a rate of 2.21 percent in 2014. While the Department of Defense spending has continued to provide stability to overall growth in Hampton Roads during the last decade, total military spending within the region increased from $18.35 billion to $18.84 billion or by only $500 million in 2014, and it is expected that this spending will decline by $100 million in 2015.

Additionally, during 2013 (the latest year for which we have data), for the first time since 1969, average compensation for the active duty military forces in Hampton Roads declined from $92,740 in 2012 to $90,360 in 2013 or by 2.6 percent. This occurred despite the fact that military personnel received a 1.7 percent pay raise effective January 1, 2013. These two observations, a decline in average compensation coupled with an increase in average pay, leads us to believe that perhaps the mix of active duty military personnel in Hampton Roads is changing.

The Bipartisan Budget Act of 2013 also provided $63 billion in sequestration relief in FY 2014 and FY 2015, split evenly among the defense and non-defense discretionary accounts. As a result the discretionary defense spending cap for the nation increased from $520.5 billion in FY 2014 to $521.3 billion in FY 2015 or by only 0.15 percent. Unless Congress takes further action on sequestration, it is expected that the discretionary spending cap will increase by only $1.8 billion during FY 2016.

As we begin 2015, there is some good news for Hampton Roads. The enacted Fiscal Year 2015 budget calls for keeping the eleven carrier fleet, provides continued funding for the Gerald R. Ford and for the refueling and major overhaul of the George Washington It also allocates $190 million for various construction projects and provides a one percent pay raise for most military and federal civilian employees.

Reduced defense spending in Hampton Roads will continue to dampen the regional economic growth in 2015 and beyond. However, other important development in 2015 are likely to raise regional income in Hampton Roads, including growth in port activity, growth of the health care industry, continued lower gasoline prices and increases in tourism spending.

Employment: Non-Agricultural Civilian Employment, +0.9%; and the Unemployment Rate for the Civilian Labor Force will be 4.9%

Annual civilian employment is expected to increase by about 6,800 jobs during 2015. Employment growth is likely to be concentrated in firms providing professional and business services, construction, leisure and hospitality and health care services.

The Hampton Roads economy created about 45,000 net new jobs during the period from 2001 to 2007, or about 7,500 net new jobs annually. Unfortunately, from 2007 to 2010, the recession and its aftermath were responsible for the loss of an estimated 40,000 civilian jobs in Hampton Roads. The regional economy has been able to recover only 18,000 jobs since 2010. Even with the expected gain in jobs in 2014, annual civilian employment in Hampton Roads will still be significantly below the peak level of employment observed in 2007.

Furthermore, it appears that many of the jobs lost due to the recession were in occupations that paid relatively higher wages. Jobs created or gained since then, on the other hand, are relatively low paying. Economic development efforts should be concentrated not on just creating new employment, but on creating new and better paying jobs.

We expect the region's unemployment rate to fall from 5.6 percent in 2014 to 4.9 percent in 2015.

Retail Sales (Taxable Sales, +3.8%)

Taxable sales include all retail sales except new automobile sales and gasoline sales. Compared to the pre-recession peak in 2007, retail sales in Hampton Roads fell by 8.6 percent in 2009 and continued to decline slightly, -0.2 percent, during 2010.

However, retail sales began to recover in 2011and have finally exceeded the peak level observed in 2007. Retail sales in 2014 were 1.8 percent higher than the 2007 peak level.

Retail sales in the region are expected to grow by 3.8 percent in 2015 over the levels observed in 2014. Lower gasoline prices, growth in regional economic activity, rising incomes, consumer confidence, fiscal stability, and the increase in wealth of households are all expected to result in positive growth in taxable sales.

Tourism (Hotel Room Revenue, +4.9%)

During 2014 hotel revenues increased by 5.0 percent. However, the hotel industry has still not yet been able to recover from the great recession. Hampton Roads Hotel revenue in 2014 is 2.9 percent below the peak observed in 2007. Delays in the passage of the FY 2014 budget, affecting travel by Federal employees, especially military personnel and defense contractors, had a negative effect on the performance of the hotel industry during the first quarter of 2014; hotel revenue declined by 1.9 percent compared to first quarter 2013.

Within Hampton Roads, Williamsburg was the sub-market that saw the slowest positive growth regardless of the hotel performance measure used: hotel revenue, occupancy rate or revenue per available room. Williamsburg continues to lose its market share, which fell from 18.3 percent in 2013 to 17.6 percent in 2014. In contrast, Virginia Beach continues to increase its market share.

Factors contributing to higher tourism revenue during 2015 include: moderate increases in federal travel; lower gasoline prices; lower heating oil prices in the Northeast; positive growth in the national economy, particularly in the Hampton Roads' main tourist market areas; and a continued slowdown in additional supply of hotel rooms.

Port (General Cargo Tonnage, +2.9%; TEUs, +4.6%)

As part of the downturn in international trade created by the great recession, the Port of Hampton Roads experienced a decline in general cargo tonnage of 16.4 percent in 2009 as compared to 2008. Twenty-foot Equivalent container Units (TEUs) declined by almost the same percentage. This decline was likely not a result of structural problems with the port, but rather due to the global economic downturn. The port saw a modest increase in both general cargo tonnage and TEUs during 2010 and 2011, and a substantial rebound in 2012 and 2013.

General cargo tonnage and TEUs have continued to increase in 2014 by 1.2 percent and 7.6 percent, respectively. If we exclude the months of July and August, when the tonnage declined by 23 percent compared to the same two months in 2013, the tonnage handled at the port during the remaining 10 months of 2014 increased by 6.4 percent. Likewise, excluding the movement of empty containers, loaded TEUs increased by 6.2 percent during 2014.

Nevertheless, the port continues to set record volumes in tonnage as well as in TEUs. Tonnage and TEUs handled at the port in 2014 are 12.4 and 6.9 percent higher than their pre-recession peak levels. In addition, the port's share of TEUs handled on the east coast has steadily increased since 2011; its share in 2013 exceeded its peak in 2007, and the port is expected to maintain its share in 2014.

The port has gone through a transition as it prepared itself to improve its relative competitiveness, especially with respect to other east coast ports. At the same time the port has also focused on improving efficiencies. Consequently, the port has reduced losses significantly. During the first 11 months of 2014, the operating loss was only half a million dollars compared to a loss of about $17 million for the same time period in 2013. Furthermore, during the first five months of the current fiscal year, the port generated an operating profit of $5.5 million compared to a loss of $7.8 million during the same period of the previous fiscal year.

During 2014, all segments of the port's business - truck, rail and barge - increased significantly. Several new services began calling at the port during 2014: the CKYHE alliance launched a new Asia/USEC service with a weekly call beginning in June, deploying large vessels carrying an 8,000/8500 TEU capacity; the Mediterranean Shipping Company started a new link between India and the east coast in July; ZIM added the port to their ZCA service in October; and the realignment of the G6 transatlantic vessel-sharing alliance brought four of the five realigned services to the port with a vessel capacity increasing from 5,900 TEUs to 8,500+ TEUs. In addition, the Portsmouth Marine Terminal (PMT), after opening briefly for shipping cars to China in April, began container operations in October.

Other major factors that contributed to its growth were larger ships calling at the port, its access to round-the-clock deep water and additional business generated by the region's economic development efforts. These factors will continue to spark the growth of the port in 2015, despite slower expected growth in Europe.

Housing (Value of Single Family Housing Permits, +3.2%)

The residential construction industry in Hampton Roads is expected to grow moderately in 2015. The sale of newly constructed homes declined in 2014 after rising each year since 2010. This was most likely due to the lack of significant increases in new jobs during 2014. A relatively small inventory of existing homes in the market, low mortgage rates, along with continued moderate prices should help stimulate this growth.

Hampton Roads' existing residential housing market has been improving since 2011. All indicators point to a continued improvement in this market for 2015. These include: rising volume of sales, smaller inventory of homes in the market, a decrease in the number of days on the market and historically low mortgage interest rates. Measures of supply and demand indicate that it would take approximately 5.9 months to clear the existing inventory based on the current absorption rate. This is slightly above Hampton Roads' historic average of 5.6 months.

Even so, we continue to be concerned with the volume of distressed homes in the local residential market. Distressed homes, whether measured in distressed sales as a proportion of all existing homes sold or in listings as a proportion of existing homes currently on the market, continue to represent a significant proportion (nearly a fifth) of residential market activity.

Although mortgage interest rates are at relatively low levels and household income in the region is recovering, a large proportion of the distressed market activity is likely to signal a modest recovery in the Hampton Roads residential real estate market during 2015.

2015 ANNUAL NATIONAL ECONOMIC FORECAST

(All forecasted changes are relative to calendar year 2014)

Real GDP (3.04%)

Real Gross Domestic Product (GDP) is forecasted to grow at an annual rate of 3.04% in 2015. The economic recovery appears to have finally taken hold since the disappointing first quarter of 2014 (-2.11%). The recovery will continue into 2015 with growth well above our historic average of 2-2.4% helping to trim the wide output gap created by the contraction in 2007. The production of goods and services in the coming year is projected to expand at rates comparable to the pre-recession growth of 2004 and 2005.

Much of the impetus for the growth in 2015 will come from consumer spending. Following up on a strong 2014, households are poised to consume at levels even above those in 2014. Households have spent the last six years taking advantage of the low interest rate environment to improve their balance sheets. This, combined with improving job prospects, will create a favorable environment for consumption. We expect consumer spending to be one of the primary drivers of economic growth in the coming year.

The recovery in the labor market picked up steam in 2014. The unemployment rate fell from 6.7% to 5.6% during 2014. The labor market also passed an important, if just psychological, milestone returning to pre-recession non-farm payroll employment levels in May of the past year. All told, the US economy added 2.9 million jobs in 2014. This represents the 4th straight year where job growth measured 2 million or more persons. Further labor market recovery in 2015 will prove difficult as the labor market is starting to approach full employment. As a result, we are forecasting that the unemployment rate at the end of 2015 will still be at 5.6%.

For the first time in nearly two years, a majority of firms are expecting better economic conditions over the next 6 months. The survey conducted by the National Federation of Independent Business shows firm optimism at levels not seen since December, 2010. That bodes well for 2015. Following the weather-induced contraction in the first quarter of 2014, fixed investment by firms has been solid. All signs point to a continuation of that trend into 2015. Interest rates should rise in 2015 as the Federal Reserve begins to unwind accommodative monetary policy. This should do little to deter firm fixed investment as rates will still remain low by historical standards.

The expected slowdown in Europe coupled with a strengthening dollar will hamper US exports. Expect net exports to switch from being a contributor to GDP in 2014 to being a drag in 2015.

Finally, the government sector, led primarily by federal government consumption and investment, is also expected to boost real GDP growth in 2015. The recently passed 2015 fiscal year Federal budget provides sequester relief that should give a minor lift to growth. However, there are several major budget battles looming in early 2015 that could introduce political brinksmanship and create some uncertainty for markets. The most important long-term issue in Washington centers around the end of this fiscal year budget as it also means the end of the Bipartisan Budget Act of 2013. The Act, which provided some sequester relief for the last two years, expires on October 1st. The tone of the rhetoric leading up to October 1st could surely influence markets in the 3rd quarter of this year.

Payroll Employment (1.70%)

Employment growth nationally should continue at roughly the same pace we have experienced over the past three years. The 1.7 percent projected growth rate translates into a gain of more than 2.4 million payroll jobs - slightly below the 2.9 million pace of 2014.

Unemployment Rate (5.6%)

The unemployment rate decreased rapidly in 2014, ending the year at 5.6%. Long-term unemployment and the U6 unemployment rate, which measures individuals who have dropped out of the labor force over the past 12 months and individuals who are employed part-time due to the economy, both continued to improve as well. Though labor force participation continues to decline, there is some evidence that recent decreases are a result of retirements and not due to discouraged workers exiting the labor market. Individuals moving from "employed" to "not in the labor force" has increased by 11 percent since December, 2013. This is the typical transition for retirees. Alternatively, the numbers of people moving from the "unemployed" category to "not in the labor force" (typically a transition by a discouraged worker) has fallen by 12 percent over the same time period.

Wage growth has been flat for four years, averaging about 2 percent each year. However, this is not necessarily bad news. Slow wage growth likely hints at continued high levels of cyclical and not structural employment. As the labor market continues to improve in 2015, we anticipate an increase in wage growth.

We anticipate very little change to the unemployment rate in 2015 as the economy finds it increasingly difficult to squeeze out the remaining slack in the labor market. Depending on the dynamics of labor force participation in 2015, it is possible the US could even see increases in the unemployment rate at times during the year. This could occur as those who dropped out of the labor force, re-enter with the hope of finding employment in the improving economy, but remain unemployed for a period of time while job hunting. We are confident the unemployment rate will not end 2015 higher than 2014, but we also believe it is unlikely we will see a significant decrease in the unemployment rate.

Consumer Price Index-Headline (1.90%)

Consumer Price Index Core (1.70%)

Inflation, measured by the Consumer Price Index-Headline (CPI) and CPI-Core (which excludes food and energy), is expected to remain at or slightly below the Federal Reserve's target of 2 percent. With accommodative monetary policy ending and oil prices at decade-low levels, there is nothing to suggest that inflation will accelerate above 2 percent in 2015. We are currently forecasting a slightly higher rate of inflation for the headline number compared to the core. However, it is possible that core inflation will be higher than headline inflation since oil prices will continue to be well below levels of the previous six years.

Three-Month Treasury Bill Rate (Year Avg. 0.10%)

Ten-Year Treasury Note Rate (Year Avg. 2.86%)

30-Year Conventional Mortgage Rate (Year Avg. 4.10%)

Undoubtedly, 2015 will be dominated by discussion of the Federal Reserve and their actions with respect to normalizing interest rates. The Federal Reserve has already suspended the Quantitative Easing program that it had been using since 2008 to expand its balance sheet. The balance sheet will begin to shrink some through attrition as assets mature and proceeds are not reinvested. The Fed has also discussed more direct programs that it can and will use to shrink its balance sheet. So, it appears the Fed is prepared to take action in 2015 to begin the removal of accommodative policy.

There is also a high likelihood that the Fed will begin to increase the Federal Funds Rate, its target rate, in the second half of 2015. This change in policy, coupled with stronger economic conditions, should lead to higher interest rates across the full spectrum of maturities. However, we anticipate that upward pressure on long-term interest rates from Fed policy could be offset by inflows to those treasuries, particularly from overseas investors. This "flight to quality" may keep longer-term rates like the 10-year from increasing as rapidly as short-term rates.

Housing market dynamics will be as important to the path of 30-year conventional mortgage rates as Federal Reserve policy decisions during 2015. While we are forecasting an increase in the mortgage rate, it is only a 12 basis point increase over the end of 2014. This is due to continued weakness in housing demand and, consequently, mortgage demand.

Forecast Probabilities

As part of our submission to the Survey of Professional Forecasters conducted by the Philadelphia Federal Reserve, we are also responsible for forecasting the probability of observing certain values outside of our forecast. We present those results for Real GDP and Core CPI Inflation below.

Real GDP

Probability (out of 100) of decline in Real GDP:

Q4 2014 to Q1 2015 8.7

Q1 2015 to Q2 2015 4.6

Q2 2015 to Q3 2015 4.5

Q3 2015 to Q4 2015 9

We see very little chance of a recession in any quarter of 2015. The fourth quarter of 2015 has the highest probability of decline in Real GDP, but even that chance is only nine in 100 - very small by historical standards.

Core CPI

Change from Q4 2014 to Q4 2015

Probability of indicated change in Core CPI

4 percent or more 7.8

3.5 to 3.9 percent 5.1

3.0 to 3.4 percent 7.9

2.5 to 2.9 percent 10

2.0 to 2.4 percent 11.6

1.5 to 1.9 percent 12.1

1.0 to 1.4 percent 13.1

0.5 to 0.9 percent 10

0 to 0.4 percent 7.9

Will decline 14.5

There is a better than 50 percent chance that Core CPI remains below the Federal Reserve target of 2 percent during 2015. However, the probability of inflation above 2 percent is higher now (at 43 percent) than at any time in the last two years. It is important to note that the model is not fully capturing the dynamics related to inexpensive oil. Therefore, the likelihood of inflation exceeding 2 percent in 2015 is much smaller than the model is currently forecasting.