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U.S. Macro Outlook: Mild Recession ≠ Pleasant

We break down our baseline economic forecast and the nuanced implications it will have on CRE property sectors over the next couple years.   

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The economy entered 2023 with a cloud of uncertainty stemming from decades-high inflation, rising interest rates, and warning signs for a potential recession. While there is plenty of evidence to suggest a tougher road ahead—we are expecting a mild recession to occur in 2023—the outlook is balanced by resilience in certain sectors and more challenging headwinds in others. 



U.S. Economy: Defying Gravity for Now 

Various indicators are flashing warning signs that signal slowing in parts of the economy, pointing to a downturn occurring relatively soon.  

  • macro-outlook-section-economyTreasury yield curves have been deeply inverted for months—this has been a historically reliable predictor of recessions.  
  • The ISM Manufacturing Index fell below the expansionary threshold of 50 in November and continued to weaken in February, for a fourth consecutive month. 
  • As of January 2023, existing home sales were down 37% year-over-year (YoY), and new home sales were down by 19%. Home prices have already fallen by 5% since peaking in May 2022. 
  • An uptick in layoff announcements has not yet resulted in net job losses. Labor market data continues to reflect an economy that is still expanding in the aggregate, despite emerging pockets of weakness.   


Office Sector: The Age of Trifurcation is Here  

U.S. office-using industries catapulted out of the pandemic recession with significant job gains; there are now more than 1.9 million more office jobs than there were prior to the pandemic. Unfortunately, despite strong job creation by office firms, the office real estate market has experienced a different situation since the pandemic hit, and the historically strong correlation between jobs and demand decoupled. 

  • macro-outlook-section-officeThe U.S. office sector has shed 189 million square feet (msf) of occupied space since the pandemic began, and remote working effects took hold. For context, this is nearly double the amount of space shed during the Great Recession and the dot-com recession. 
  • A bright spot: new construction and office space that caters to hybrid workplace strategies remains in high demand. Over the last three years (2020-2022), this segment of the market registered over 100 msf of positive absorption. 
  • While we expect that national aggregate measures of office fundamentals will continue to soften this year, the “flight-to-quality” dynamic will result in many product types and geographies outperforming these measures significantly. Our research conclusively shows that demand for office space is distinctly trifurcated.  



Industrial Sector: Fundamentals Set to Rebalance  

The pandemic boom in consumer goods spending pushed demand for industrial CRE through the roof. Absorption had averaged 287 msf from 2015 to 2019, but fast forward to lockdowns and consumers unable to spend on services, and absorption surged to 561 msf in 2021—the highest ever recorded—followed by 477 msf in 2022. As 2022 unfolded, a few important trends emerged that will define the undercurrents of the outlook in 2023. 

  • macro-outlook-industrialGoods spending started to taper back toward pre-pandemic trend levels as stimulus and excess savings were spent, either increasingly on services like travel and entertainment, or on absorbing high inflation. 
  • E-commerce growth reverted to its pre-pandemic trend.
  • Higher interest rates began to weigh on demand for items sensitive to financing conditions, especially durable goods. U.S. manufacturers are adjusting to this new demand backdrop. 




Multifamily Sector: Looking Past the Near-term Headwinds, the Other Side Is Strong

New supply is emerging as the predominant theme for the apartment market. With more than 900,000 units under construction—many of which are slated for completion in the next few years—there are more units underway than at any point since the 1970s.  

  • macro-outlook-section-multifamAs a percentage of overall inventory, the next two years’ rates of supply growth would be stronger than any time over the past two decades. 
  • Development is concentrated in high-growth Sun Belt markets, such as Austin, Miami, Nashville, Charlotte and Phoenix, though several markets like Seattle, Boston, Minneapolis and Denver rank highly as well. These are the same markets that have registered record demand for apartment units in recent years (both pre and post pandemic.
  • An economic recession—even a mild one—should give pause to further new supply, especially if development costs remain elevated in a high interest rate environment. 



Retail Sector: Not Bulletproof, but This Time IS Different  

Consumers led the way for the U.S. economic recovery in 2021 and remained a relative bright spot last year, despite high inflation, pessimistic consumer sentiment and weakening income growth. These challenges will persist this year as the economy enters a mild recession, but resilience thus far is an encouraging sign that consumer demand may hold up better than other segments of the economy. 

  • macro-outlook-section-retailConsumer price inflation has steadily retreated from its mid-2022 peak and is destined to moderate further this year, bringing some relief to purchasing power. 
  • The gloomy outlook reflected in corporate earnings and weaker economic data have not yet decreased retail tenant demand in a meaningful way. 
  • Inflation is a challenge that consumers can manage by adjusting spending habits, such as trading down to value goods—job loss is not. The labor market will be the main factor to watch in 2023.   



Capital Markets: The Ripple Effect of Rising Interest Rates  

No part of the CRE world has been as immediately impacted by the shift in interest rates as the capital markets. The FOMC increased the target federal funds rate by a cumulative 425 basis points (bps) in 2022, followed by a 25-bps increase in February 2023—the fastest rate-hiking cycle since the early 1980s. Despite recent signs of optimism in bond futures markets, we believe that elevated inflation in services (excluding housing) and an extremely imbalanced labor market will support the Fed’s higher interest rates and result in ongoing financial market volatility.  

  • macro-outlook-section-capmktsThe era of significant cap rate compression over the last few years has ended, and the market is transitioning into an “income-focused” phase.  
  • Fortunately for CRE, income returns have proven to be durable and reliable, underscoring a key facet of its attractiveness as an asset class. Assuming our base-case scenario plays out, and assuming the Fed begins to cut rates in 2024, we expect capital markets conditions to bounce back quickly. 
  • Although pricing will continue to adjust to the higher interest rate environment, we expect to see tighter cap rate spreads relative to benchmark rates than in prior historical periods—and perhaps more on par with those observed in the 2015-2019 period. 



Rebecca Rockey New York Research
Rebecca Rockey

Deputy Chief Economist, Global Head of Forecasting
Washington, United States

+1 (212) 841-7508

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James Bohnaker

Senior Economist
Boston, United States

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