The Recovery is Stronger than Appreciated

By Marshall J. Vest
Forecasting Project Director

September 1, 2010

So far, recovery in Arizona’s economy is proceeding nicely and is much better than one might think.  It will take a while for many to see the improvement, and it will take time to repair all the damage done.  But the good news is that the economy is improving.  Longer term, we continue to expect nation-leading growth to return and for Arizona to become one of the most populous states.  Our annual update of the 30-year forecast is little changed from a year ago: Arizona will have nearly six million additional residents 30 years hence.

Business news flowing from national sources in recent weeks has offered a downbeat assessment of the recovery’s strength.  The slowing of second quarter GDP growth to 1.6% is an example.  Reports blamed weak consumer spending that’s dampened by uncertainty and sluggish job growth. 

In Arizona, retail sales bounced up nicely in the second half of 2009 before giving up some of prior gains in recent months.  The pattern no doubt reflects the “cash for clunkers” and homebuyer credit programs, both of which moved sales forward, thereby borrowing from future months.  Both programs have ended and that accounts for the recent “giveback.”  Since bottoming in July 2009 (and with 10 months data through May), sales have grown at a 1.9% annual rate.  This is not a “dead-cat bounce” and we expect sales to turn up again during the second half.  All considered, what we’re seeing is a much quicker rebound than following the prior recession (Exhibit 1).

Interpretation of recent sales data is complicated by a coding error that affected the allocation of sales tax collections between categories.  The revised data presented in Exhibit 1 shows sales being weaker in 2008-09 and stronger in recent months than originally reported.  Proper adjustment of the data is critical to properly assess current conditions.  The as-reported data suggests that spending is collapsing once again and another down-leg in the business cycle is at hand.  With the appropriate adjustments, we see that the recovery in consumer spending is progressing nicely.

We’ve reduced our near-term forecast for consumer spending for a multitude of reasons.  Basically, we think the deleveraging process still has a way to go, and that credit creation will proceed slowly, thereby limiting consumers’ willingness and ability to spend freely.  For all of 2010, retail sales are expected to show a gain of 2.7%, followed by 6.4% next year and a double-digit gain in 2012.

Another bellwether measure shows that nonfarm employment nationwide dropped 131,000 in July.  The drop largely reflected layoffs of temporary Census workers along with more cuts at the state and local level.  Private sector jobs grew by only 71,000, a disappointing result.

In Arizona, recovery continued to gain strength during the second quarter.  Since bottoming in November 2009, nonfarm employment has grown by nearly 40,000 and is growing at a 3-4% annual rate.  That’s more than twice the pace that jobs were added during the “jobless recovery” of 2002 (Exhibit 2).

Most encouraging is that employment gains are widespread across industries with only information, financial services, three manufacturing components, a couple retailing components, and state and local government still declining.  Leading the way with increases in staffing levels include health care, professional & business services, leisure & hospitality, some retail components (including clothing, building materials, and wholesaling), and transportation and warehousing.

Job growth for the remainder of this year will not be fast enough to offset the rapid declines experienced in 2009, so the annual average for 2010 will still be negative (-1.9%).  Next year will bring a modest gain of 1.2%, followed by gains in the 3.5%-4.5 range the following two years.

Our forecast for 2010 shows personal income growth reentering positive territory.  Quarterly data statewide shows personal income growth at a 4.4% annual rate in the first quarter.  Compared to a year earlier, that’s 1.0% higher.  We are forecasting growth of a little over 2% for all of 2010 on an annual average basis, then twice that rate in 2011.

It’s as if we have hiked to Phantom Ranch at the bottom of the Grand Canyon and have just started the long climb back up to the rim.  It’s a long slow slog back up, but fortunately, the journey has begun.  It will be 2013 or early 2014 before all the damage suffered during the recession is repaired; it’s a long way back up to the Rim.  Recent data show that good progress is being made – and we expect that to continue even though some momentum will likely be lost in the second half.  Detailed forecasts for Arizona are presented in the adjoining table.

Long-Term Outlook

The recent recession wiped out a decade’s worth of progress, but Arizona’s growth will return and once again rank amongst the leading states.  In our annual update of our 30-year projections, we show Arizona’s population topping 12.6 million in the year 2040.  That’s virtually unchanged from last year’s projections.  By 2040, nearly six million more people will call Arizona home than live here today.  By nearly doubling, Arizona may well become the seventh largest state in the U.S., trailing only California, Texas, Florida, New York, Illinois, and Pennsylvania.

Projections for each 10-year interval for selected aggregate measures are presented in it Exhibit 3.

Highlights of the 30-year forecast include the following:

• Over 2.5 million new jobs will be created in Arizona over the next three decades, boosting the total to 4.9 million.
  
  
• Per capita personal income relative to the nation will continue its downward slide from 84% today to nearer 77% thirty years from now.  This ratio peaked at 95% in 1971.  Per capita income is an aggregate measure comprised of demographics (age structure), wage levels, industry mix, and labor force participation rates.  The downward trend keeps Arizona near the bottom of all states on this measure.
  
  
• Arizona’s employment to population ratio plunged during the current recession and will remain well below its peak established in 2000 (43.4%) and after dipping below 35.5% next year, finishes in 2040 at 39.0%.  Arizona’s ratio consistently runs 4-5 points lower than nationwide (Exhibit 4).
   
  
• As the population continues to age, an increasing share of personal income will come from transfer payments, of which social security is the largest component.  The share will rise from 21% today to 27.5% by 2040.  Per capita transfers in Arizona however remain relatively steady at 95-96% of the corresponding nationwide measure, so Arizona is simply mirroring national trends.
  
  
• Retail sales relative to income will continue to fall, dropping to only 18.5% from nearly 45% in the mid-1960s.  An aging population that spends more on services (especially health care) and a smaller portion on goods accounts for the drop.  This has serious implications for a tax system heavily reliant on retail sales.
  
  
• Migration flows will continue to account for the lion’s share of population growth.  On average, natural increase (births minus deaths) accounts for one third while net migration provides the remainder.  The latter varies significantly, of course, over the business cycle.  In 2009, at the depths of the recession and with mobility rates at a 60-year low, migration flows dropped below the number added by natural increase.  By 2014 net migration will rebound and exceed 120,000 annually while natural increase will add 60,000 new residents.
  
  
• The annual number of net migrants continues its upward trend to reach nearly 160,000 per year in 2040, roughly the same as in 2005.  As a percent of the standing population, net migration falls from2.8% in 2005 to 1.3% in 2040 (Exhibit 5). 
                
• Manufacturing, government, utilities, retail trade and mining will represent smaller shares of total jobs 30 years from now.  Manufacturing’s share will decline from 6.3% to 3.9%, government from 17.3% to 13.6%, utilities from 0.5% to 0.3%, and retail trade from 12.4% to 11.2%.  Mining jobs will all but disappear.
  
  
• Sectors that will gain the largest shares are professional and business services (from 14.3% to 17.4%), health care & social assistance (from 12.1% to 14.4%), and financial services (from 6.9% to 8.3%).
• In our “high” scenario, Arizona’s population reaches 13.9 million in 2040.  In the “low” scenario, it is 11.7 million, compared to 12.6 million in the “most likely” scenario.  Pennsylvania, the sixth largest state, today has 12.5 million (Exhibit 6). 
         
• Today, Arizona’s 6.7 million population ranks 13th, just ahead of Washington and Massachusetts.  In thirty years, Arizona will overtake Virginia, New Jersey, North Carolina, Georgia, Michigan, and Ohio to become the seventh largest state.
  
  
• The range for 2040 metro Phoenix population is 9.3 to 9.9 million.  Metro Tucson’s range is 1.6 to 1.8 million people.   The “Sun Corridor” megapolitan population (both metros -- three counties combined) ranges from 10.9 to 11.7 million.
  
  
• By 2040, 74% of Arizona’s population will reside in the Phoenix metro area (Maricopa and Pinal counties).  Metro Tucson (Pima County) will account for 13.6%.  Today, the shares are 66.3% and 15.5%, respectively.

Arizona has been the second-fastest growing state over the past several decades, and is expected to continue riding the crest for at least the next few decades.  Over the next 30 years, Arizona will add six million residents, nearly doubling in size.  We can only guess what Arizona will be like, but it’s clear that a great deal of change lies ahead.  Much remains to be determined.

Will Arizona be a leader in the industries of the future, or become an economic backwater?  Will per capita personal income relative to the U.S. continue on its downward trajectory of the past 30 years?  Or will the slide be arrested?  Either way, Arizona will be near the bottom of all states on this measure of economic wellbeing.  Today (2009 data) Mississippi is at 76.9% followed by Utah (78.9%), Idaho (80.8%), South Carolina (81.2%), Kentucky (81.5%), Arkansas (81.6%), West Virginia (82.3%), and Arizona (84.2%).

Will Arizona continue to be marketed as the low cost leader?  Will it become an exclusive place to live, or become the Ellis Island of the Southwest?  Only time will tell. 

 

 

 

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