California Economic Outlook – August 2021

Scott Anderson
Chief Economist
Bank of the West

Executive Summary

  • Job growth in California slowed for four consecutive months to 73,500 in June, after a strong one-time February gain of 156,100 jobs as leisure and hospitality, personal services, and restaurants and bars reopened. The easiest post-pandemic job gains are likely behind the state, suggesting California’s labor market recovery will continue to lag the national average through at least 2022. California employment is still 7% below its February 2020 peak.
  • California employment is forecast to rebound 2.0% year/year in 2021 from the sharp 7.4% decline in 2020. The rebound will be driven by services businesses as they operate closer to full-capacity and as more Californians get vaccinated. California household wealth and personal savings will drive robust consumer spending and housing activity through 2022. California job growth is expected to improve to 3.5% in 2022.
  • A survey of 2,768 California residents conducted by UC San Diego this year revealed that 49% of adult residents are either giving serious consideration or some consideration to leaving the state. In our view, high housing costs are an important impediment to a stronger economy in California, and net-out migration is expected to remain a drag on California’s job, income, and consumer spending growth.
  • California’s unemployment rate fell to a pandemic-low of 7.7% in May and was unchanged in June. Despite falling steadily since peaking in April 2020, California’s unemployment rate is tied for the fourth highest among states, topped by only Nevada, Connecticut and New Mexico. The state’s unemployment rate is expected to drift lower in 2021, but remain elevated and average 7.8% in 2021 and 6.4% next year, well above the 4.3% pre-pandemic rate.
  • Pandemic, Millennial, and record household wealth induced housing demand, historically low financing costs, and a shortage of homes for sales have all helped drive the historic California housing market recovery. Housing starts are forecast to increase 12.8% this year and 9.9% next year as homebuilders accelerate construction to make up for the existing home inventory shortfall.
  • California home prices are projected to rise a sizzling 18.6% this year from a solid 9.8% gain in 2020 as the demand for homes has been far stronger and lasted longer than most economists’ anticipated. Growth will then slide to 5.0% in 2022 as home sales slow on higher mortgage rates, weaker demand, lower affordability and rising new and existing home inventory.

CALIFORNIA

Employment Outlook
California has only recouped a little over half of the jobs lost in the first two months of the pandemic - 1.47 million of the more than 2.71 million jobs that disappeared in March and April of 2020. This is well behind the national average jobs recovery that stands at 70% through June. The prolonged business restrictions and more cautious approach to fully reopening has hurt California’s labor market performance compared to other regions. The state’s labor market underperformance has lasted for 15 consecutive months and counting. The rapid spread of the Delta variant of the coronavirus among the unvaccinated in Los Angeles, the Bay Area, San Diego, and Sacramento is an emerging threat to California’s economic outlook, and will delay a full recovery of the state’s pandemic impacted businesses.

Recent Performance and Outlook
March to June 2021 was a honeymoon period of declining coronavirus cases and business reopenings that fueled a burst of job recreation and spending that is easily seen in the year-on-year job comparisons. Leisure & hospitality services saw a 20.3% increase in employment from a year ago through June. Other services employment, which includes personal care, dry cleaning and laundry, and equipment and machinery repair increased 9.3%. Job growth was also notable for information services (+7.5%) and trade, transportation & utilities (+6.1%). A surge in maritime traffic at the two large ports in Southern California in June helped drive job creation in California’s trade and transportation industry. Total trade volume in Southern California’s ports was up a healthy 23.1% from a year ago.

Jobs Returning At Wildly Different Rates
California total nonfarm payrolls are forecast to rebound 2.0% this year after declining 7.4% in 2020. Growth is then projected to accelerate to 3.5% in 2022 – on par with California fastest annual job growth since 2000. Pent-up demand for capacity-limited service businesses, robust consumer spending fueled by high levels of savings and household wealth and elevated consumer confidence from the widespread distribution of Covid vaccines in the state are underpinning the rebound.

Still California’s labor market recovery remains a work in progress. California’s unemployment rate has mostly declined since peaking at 16.0% in April 2020. But at 7.7% in June, California’s jobless rate remains well above than national average of 5.9% and the pre-crisis rate of 4.3%. Moreover, the state’s unemployment rate would be even higher than the official rate were it not for a 2.8% decline in California’s labor force since the pandemic began. In short, California’s economy still has a long way to go before most of the displaced workers are re-employed and the jobless rate approaches pre-pandemic levels.

CA Jobless Rate Tied For Pandemic Low in June
The state unemployment rate is projected to average 7.8% in 2021 and 6.4% next year, a marked improvement from last year but still well above than the forecasted U.S. average of 5.7% in 2021 and 4.3% in 2022.

Housing Outlook
California’s housing market cooled in June with existing single-family home sales declining 2.2% from April but up 28.3% from a year ago. While annual growth is still solid, June growth is down sharply from 86.7% in May. Historically low interest rates – the 30-year fixed mortgage rate averaged 2.98% in June, down 19 basis points from June of 2020 – steadfast homebuyer demand and easier year ago comparisons are jointly pushing home sales higher.

Existing Home Sales Growth Moderated in June
However, low housing affordability could weigh on existing home sales in the months ahead as rapidly rising home prices constrain the number of qualified households. The California Association of Realtors Housing Affordability Index sank to 27% in the first quarter of 2021, down sharply from 35% in the first quarter of last year. This means that only 27% of households across the state could afford to buy the median-priced home of $720,490 in the first quarter of 2021.

The ongoing shortage of existing homes for sale is not showing signs of improving soon. The Unsold Inventory Index slipped to 1.7 months in June, down from 2.7 months in June of 2020. The index reflects the number of months it would take to sell the supply of homes on the market at the current sales pace. Moreover, the median number of days it took to sell a single-family home in the state remained low at eight days in June, just above the record-low of seven days in May, offering scant hope that California’s inventory shortage is in the past.

California’s median home price set another fresh record high for the fourth month in a row in June as the statewide median price edged up 0.2% month-on-month to $819,630. The median price is up a sizzling 30.9% from June of 2020, pointing to intense competition among homebuyers.

California Home Price Gains Slowed in June
California’s homebuilding outlook remains bright. Historically low home inventories, the demand for suburban housing, and pent-up demand from millennials are leading to a notable recovery in California homebuilding. Housing starts are projected to jump by 12.8% in 2021 and 9.9% in 2022. California home prices are projected to increase a sizzling 18.6% this year and then moderate to 5.0% in 2022 as homebuilding picks-up and inventory shortages ease.

Potential Exodus Clouds the Outlook
California’s population declined last year for the first time in over a century. The 0.46% drop was attributed to a decline in international immigration, and lower birth rates and higher deaths in part due to the pandemic.

But sustained domestic outmigration is also a growing risk. A survey of 2,768 California residents conducted by UC San Diego this year and drawn to reflect the state’s adult population along the lines of race, ethnicity, age, educational level and gender, revealed that 49% of adult residents are either giving serious consideration or some consideration to leaving the state.

The fact that nearly 50% of residents are either seriously considering or giving some consideration to moving out of state represent a serious downside risk to the state population growth and economic outlook. If a large enough number of California residents leave the state, it could put unexpected downward pressure on California home prices and household wealth too, denting retail sales and state and local tax revenue and ultimately the availability of new jobs.

BAY AREA

Employment Outlook
The Bay Area jobs recovery slowed in June and the region has somewhat underperformed the state and the three other economic regions in recovering from the large jobs deficit caused by the pandemic. Job growth downshifted in June for construction, trade, transportation & utilities and leisure & hospitality, limiting nonfarm payroll growth to just 4.4% from a year ago.

Employment is now above year ago levels for nearly all sectors, led by strong recoveries in the two sectors most severely impacted by government mandated closures: leisure & hospitality (+22.5%) and other services (17.3%). Leisure & hospitality alone was responsible for over one-third of total nonfarm job gains in the Bay Area over the last year as business restrictions were lifted and COVID cases subsided, despite being less than 8% of total nonfarm employment.

Recent Performance and Outlook
The Bay Area includes Alameda, Contra Costa, Marin, Napa, San Francisco, San Mateo, Santa Clara, Solano and Sonoma counties.

Bay Area Jobs Increased in Most Sectors
The Bay Area has had the smallest job gains of all four regions in two of the last three months and has underperformed the state for three consecutive months, suggesting the labor market recovery will lag other regions. Bay Area jobs have rebounded slowly in San Francisco and San Jose – two of the largest job centers in the region, representing 29.7% and 29.6% of total nonfarm employment respectively – limiting overall regional job growth.

Even so, the Bay Area unemployment rate fell to a pandemic-low of 5.4% in May and remains well below the California average. The unemployment rate in the region is forecast to continue to decline as the economy recovers. The Bay Area jobless rate is forecast to average 5.2% this year – the lowest of any region – and then fall to 4.2% in 2022.

Bay Area nonfarm employment is projected to rebound 1.7% in 2021 and then accelerate to 3.3% next year. The labor market recovery in the region is likely to be fairly weak as leisure and hospitality and tourism remain challenged in light of the increasing spread of the Delta variant in unvaccinated populations. High and rising housing costs and cost of doing business increase the incentive for more workers and firms to relocate to lower cost areas of the state and country.

Housing Outlook
Bay Area home sales have rebounded strongly since last July. Year-over year increases have been over 30.0% for the last four months. Sturdy demand for larger suburban homes, historically low mortgage rates, and record high household wealth and robust income growth are supporting elevated Bay Area home sales.

Base effects were quite evident in the Bay Area housing market with robust existing home sales growth across most counties from a year earlier in June, with particularly noteworthy gains in San Francisco (+87.1%), Napa (52.8%) and Santa Clara (+47.0%). Home sales were flat in Marin and fell 7.8% in Solano Counties. Outsized homebuyer demand has generated accelerating home prices in the Bay Area with the median home price rising 35.0% from a year ago through June. A dire shortage of existing homes for sale continues to support further home price increases. The Unsold Inventory Index in the Bay Area was just 1.4 months in June – the lowest of the four major California regions – down from 2.3 months in June of 2020.

Bay Area home prices are projected to surge 16.1% this year and then moderate to 5.8% in 2022 as demand eases and more homes come on the market. Bay Area housing starts are forecast to climb a vigorous 16.5% in 2021 and then slow to 13.3% in 2022 as builders try to fill the demand for housing.

Tech Exodus from The Bay Area?
The pandemic has profoundly changed the way people work, with large offices in San Francisco empty and tech workers making an exodus out of the city to places like Texas for cheaper rent and low or no state income taxes. Some prominent companies have shifted their headquarters or expanding to cities outside the Bay Area. Even more troubling, recent data from Initialized Capital show that start-up tech companies may no longer see the Bay Area as a fertile landscape to grow. The percent of companies surveyed who said the Bay Area would be their first choice to headquarter a tech company dropped to 28.4% in 2021 from 41.6% in 2020.

Clear, this is a downside risk to the Bay Area’s long-term growth prospects that deserves close attention by local and state policymakers in the years ahead.

SOUTHERN CALIFORNIA

Employment Outlook
The combined Southern California region includes Los Angeles, Orange, San Bernardino, San Diego, Riverside, and Ventura counties that is home to nearly two-thirds of Californians.

Southern California’s total nonfarm employment increased moderately over the last two months with a gain of 5.3% from a year ago in June, down from 8.8% in April.

Although job gains have slowed, the region still had the strongest job growth from a year ago of all four regions of California in June. Unsurprisingly, the largest job advances once again were in the sectors most battered by business restrictions in June of 2020: leisure & hospitality (+21.3%), information, which includes sound recording and motion pictures (+8.6%) and other services (+7.9%).

Trade, transportation & utilities employment increased 6.7% year-on-year, supported by robust activity at the region’s two largest ports. The only job categories that contracted in June were manufacturing (-0.1%), mining & logging (-0.2%) and government (-0.4%). These three sectors together are more than 21% of total employment in the region, but the declines were so small they did not hold back the overall solid gains.

So. California Employment Rose in Most Sectors

Total nonfarm payrolls in Southern California is projected to rebound 2.1% this year and 3.8% in 2022. A relatively high concentration of jobs in leisure and hospitality, entertainment, recreation, and television and film production will contribute to an acceleration in employment growth this year as service sector businesses approach full capacity operations.

The Southern California unemployment rate has remained stubbornly high during the pandemic relative to the other three regions of the state at 8.8% in May. Indeed, the region has had the highest jobless rate for 14 straight months, a stark reminder that Southern California lost a higher percentage of jobs during the height of the pandemic.

The Southern California unemployment rate is expected to average 8.4% in 2021 and then improve to a comparatively high 6.7% next year as the region’s labor market recovery continues lag the spending recovery. The region’s unemployment rate is forecast to be the highest of the four main regions this year, mainly due to Southern California’s relatively higher exposure to service industries most impacted by COVID.

Housing Outlook
The Southern California housing market cooled off considerably in June with existing home sales rising 35.1% from a year ago, less than half of the sizzling 81.0% pace in May. Despite the sharp deceleration, the region had the strongest gain of all four regions with the Bay Area a close second at 34.1%.

Home sales jumped at extremely strong rates from a year ago in Orange (+61.6%), Los Angeles (+42.4%) and Ventura (+40.7%) Counties, while sales grew at a more modest pace of 17.0% in Riverside and San Bernardino.

Southern California’s existing home price growth slowed slightly to 33.4% from a year ago in June, down from 35.5% in May. Despite the deceleration, home price gains have exceeded 30.0% for three consecutive months.

While home prices increased at solid rates in every county in the Southern California region over the last 12 months - San Bernardino (+33.8%), Orange (+30.8%) and Los Angeles (+30.5%) Counties led the way higher. Home price growth was more modest in Riverside (+27.8%) and Ventura Counties (+20.0%).

Home prices in the region are forecast to rise 18.1% in 2021 and moderate to 4.8% next year on increased housing supply with housing starts forecast to expand by double-digit rates over the next two years.

Region’s Ports Add To Growth
Traffic at the large ports of Los Angeles and Long Beach began to rebound last July after declining by double-digit rates for five consecutive months at the start of the pandemic. Import growth was particularly robust as U.S. households increased their spending on goods as fear of infection and business restrictions forced them to curtail their spending on services. In fact, import volumes have increased by an average of nearly 33.0% year-on-year over the last 12 months. The Port of Los Angeles had two of its highest-performing quarters in the Port’s 114-year history.

The surge in imports over the last year is poised to continue over the near term on robust consumer spending growth. Indeed, consumers are well-positioned to increase their spending due to record-high household wealth, a high level of personal savings, and an improving labor market outlook.

Increased traffic at Southern California ports is expected to remain an important growth driver and job creator for the region over the forecast horizon.

CENTRAL COAST

Employment Outlook
Total nonfarm payroll growth in the Central Coast region slowed to 5.2% from a year ago in June. Despite the moderation, the pace of growth is on par with the state average and the second-fastest of the four economic regions of California, trailing only Southern California. Job losses since the pandemic began have been severe because of the region’s dependence on tourism and the leisure and hospitality sector. So even with a three-month job recovery, total nonfarm jobs are still over 9% below the pre-pandemic levels in the Central Coast, pointing to a more prolonged labor market recovery than other regions of California.

Central Coast job gains from a year ago have been strongest in Santa Barbara (6.9%) and Monterey (+6.0%). The Santa Barbara labor market also proved to be more resilient during the early stages of the pandemic with a peak-to-trough decline of just 16.2%, the smallest of any metros in the region. In the case of Monterey, the peak-to-trough decrease was the largest of any metro in the Central Coast, so the return to peak employment will likely be protracted.

Recent Performance and Outlook
The Central Coast region is comprised of Santa Barbara, Monterey, San Luis Obispo, and Santa Cruz counties.

Central Coast job gains have been supported by strong recoveries in professional & business services (+13.9%), leisure & hospitality (+12.8%) and other services (+8.2%) jobs over the past twelve months. Together, these three sectors were responsible for nearly 70% of total job gains despite accounting for just over 30.0% of total nonfarm employment. Job growth was solid in information services (+6.3%) and trade, transportation & utilities (+6.1%), while mining & logging (-0.5%), government (-0.6%) and financial activities (-2.8%) shed jobs.

The number of unemployed in the region ticked up 2.0% month-on-month in May, pushing the jobless rate up to 6.7%. Despite the increase, the region had the second lowest unemployment rate among the four California regions behind the Bay Area.

Central Coast Jobless Rate Down Sharply
Total nonfarm employment in the Central Coast is expected to rebound 1.5% this year and then improve to a healthy 2.9% in 2022. Pent-up demand for travel is expected to be unleashed, supporting the region’s crucial tourism industry.

The Central Coast unemployment rate is forecast to average 6.4% in 2021 – down sharply from 9.2% last year – and 5.1% next year as service sector job growth comes roaring back.

Housing Outlook
Central Coast existing home sales grew 26.6% from a year ago in June, the second slowest gain of all four California regions, topping only the Central Valley. The solid growth in home sales is being supported by historically-low mortgage rates and easy comparisons. Home sales surged in Monterey (+48.0%) and San Luis Obispo (+40.9%), while gains were decidedly more moderate in Santa Barbara (+5.6%) and Santa Cruz (+14.7%).

The robust demand for homes in the Central Coast drove the median home price up 20.8% from a year ago in June. While solid, the increase in home prices last month was the weakest of all four regions in the state. Home prices surged in Santa Barbara (+39.2%), Santa Cruz (+29.8%) and San Luis Obispo (+23.8%) while annual home price growth was solid but more restrained in Monterey (+16.6%)

Home Prices Rose Sharply in all Metros in June

Delta Variant A Downside Risk
The recent resurgence of positive Covid cases – largely from the more contagious Delta variant – is a downside risk to the Central Coast outlook given the region’s reliance on tourism as a driver of job growth. Consumer services employment – the sum of retail trade and leisure & hospitality as a percent of total jobs in the region is considerably higher than the state average at 24.9% compared to 18.9%.

If Covid cases continue to surge, households could once again become reluctant to travel, resulting in slower job and income growth for the Central Coast region than projected.

CENTRAL VALLEY

Employment Outlook
The Central Valley labor market has performed much better than the other major economic regions of California. As other regions of California suffered double-digit employment growth declines, the Central Valley job decline average only 6.6% over the same period. The Central Valley economy is less exposed to the leisure and hospitality sector and benefitted from the strong demand for groceries as work from home and stay at home orders, and pandemic stockpiling, helped drive demand for the Central Valley’s agricultural and food production industries.

The relatively shallower job losses during the worst of the pandemic suggests the job rebound in the region will not be as strong. Nonfarm employment increased 4.2% year-on-year in June, weaker than all of the other major California regions. Job sectors with the largest percentage gains were other services (+10.1%), construction (+8.5%) and leisure & hospitality (+7.2%) from a year ago. Job growth was nearly flat in financial activities (+0.4%) and education & healthcare (+0.8%). Recent Performance and Outlook

The Central Valley region is comprised of San Joaquin, Fresno, Madera, Sacramento, Placer, El Dorado, Yolo, Stanislaus, and Kern counties Employment Increased in All Sectors in June

Total nonfarm jobs are forecast to grow just 1.8% this year and then accelerate to 3.2% next year.

The unemployment rate in the Central Valley declined to 7.9% in May 2021, after peaking at 16.0% in April 2020. The unemployment rate in the Central Valley is the second highest of the four regions, below only Southern California’s 8.8% rate. However, the Central Valley tends to have higher unemployment rate than other regions of California even during strong economic expansions due to stronger in- migration and the seasonal nature of the region’s agricultural labor market.

The Central Valley jobless rate is forecast to average 7.9% in 2021 and then dip to 6.8% in 2022 as job growth continues.

Housing Outlook
The Central Valley housing market continued to underperform in June, with existing home sales rising just 10.5% from a year earlier, by far the slowest growth of any of the four regions. While growth was solid in four of the five metro areas – ranging from 12.4% in Fresno to a robust 21.6% in Bakersfield – sales declined 4.6% in Modesto, limiting overall home sales growth in the region.

Home Sales Higher in Most Central Valley MSAs
Consistent with the smallest gain in home sales across the four regions, home price growth in the Central Valley underperformed most regions with prices rising a comparatively modest 23.8% from a year ago in June, beating out the Central Coast (+20.8%) but trailing Southern California and the Bay Area by a wide margin. Home price growth has been fairly uniform in the Central Valley, ranging from a low of 18.2% in Bakersfield to a high of 25.9% in Sacramento. Home price gains in the remaining three metros were close to or over 20.0%.

Central Valley home prices are projected to rise 15.6% this year - the strongest growth since 2013. Home price gains are forecast to moderate to 4.4% in 2022 as demand weakens and housing starts increase at double-digit rates, reducing the region’s housing inventory shortfall.

Severe Drought Clouds The Outlook
Just two years after California celebrated the end of its last devastating drought, the state is facing yet another one. The snowpack has melted to virtually nothing, and the state’s 1,500 reservoirs are at about 50% of their average levels and agencies have begun to implement water restrictions.

According to a study by the Public Policy Institute of California, the San Joaquin Valley is projected to lose 535,000 acres of agricultural production by 2040 – more than 10% of available farmland – because of climate change. And if the drought persists, nearly double that amount of land could go idle, with potentially dire consequences for the nation’s food supply since California supplies nearly two-thirds of the country’s fruits and nuts and over one-third of the country’s vegetables.

Even if just 10% of available farmland is idled, it will be a significant shock to the Central Valley’s income and job growth on reduced food production and fewer workers needed to harvest the crops. This would be an important downside risk to the Central Valley’s economic and job growth outlook over the longer-term.

To learn more, check out this week’s U.S. Outlook Report.

 

 

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