1. 1 The North Bay Economy: Real Estate Markets and Outlook August 27, 2009Petaluma, CA Robert Eyler, Ph.D. Chair, Economics Department Director, Center for Regional Economic Analysis Sonoma State University eyler@sonoma.edu

2. 2 The Agenda National and state situations affect our regional economy –Banking of key importance now in facilitating a turnaround –CA continued budget failures the current, major uncertainty –Point of sale ordinances one of many possible ways governments will look at real estate for revenue Economic outlook –Recession continues but signs of a turnaround exist –Long-term outlook still strong in North Bay Need to seize innovative ideas Real estate markets –Regional economic development dictates housing markets

3. 3 International and Domestic Asia on the rebound –Productivity continues as exports slowly turnaround –Will Asian and European wealth provide demand for real estate? Fiscal stimulus starting to help –Job creation the aim (including saving jobs) Stimulating innovation not consumption Monetary policy at a natural endpoint –Why have banks not started lending again? –Expect regulation will encompass all lending and slow the speed of real estate transactions

4. 4 The Important Role of Banking Credit is a large part of economic growth models –Investment from savings begets economic growth –Lending should be for investment, not consumption Expected risk remains high for banks in current market –Following charts show bank nervousness Real estate markets grow more slowly in short-term –New regulatory environment contributing to slow movement –Banking has been very risk averse since Summer 2008

5. 5 Source: Federal Reserve Board

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9. 9 Long-Term Effects of Policies Inflation threat is real –Current “monetary” package is fueled by a combination of debt and money printing –Speed and magnitude the only questions Permanent cuts have larger short-term effects than temporary –Temporary cuts or spending provide better long-term signal of discipline –Expect interest rates to rise in late 2009 or early 2010 Defined benefits packages the next major budget issue everywhere Outlook for 2010 better than 2009 if nothing unknown changes the economic outlook –Not necessarily for state and local budgets which lag national economy

10. 10 California Model of public finance in California broken –Many are pointing at Prop 13 as the culprit 2/3 vote on taxes Lack of movement on property taxes –Deficit rising every day: now $60 billion by 2010??! –Federal spending has filled void partially $5 billion of Federal Stimulus used already to plug the hole –Other issues Pension systems to be stretched soon: largest defined packages School spending in CA now 50 th in nation (  $18K per pupil) –Issue now and in the future for California

11. 11 What may happen Budget gap closed through borrowing –Borrow, if and when possible May 19 showed CA voters do not want more taxes –What about Prop 13? –Need a change to 2/3 vote and term limits? Effects on real estate –Higher tax rates slow down transactions Coming in every way possible, so prepare –Commercial real estate threatened by changes in corporate and worker’s compensation taxes just for starters –Glacial economic movement upward slows progress

12. 12 Signs of Hope Rather Than Apocalypse Link between S&P 500 and labor markets –Historically, S&P 500 index and national unemployment linked –When S&P 500 hits bottom, 5 – 6 months later is when unemployment peaks on average since 1948 –S&P 500 trough was on March 9, 2009: about 47% growth since Federal stimulus and stable interest rates remain as incentives: need to be seized Asia rebound means export opportunities rising Auto and home sales rising also Must have innovation take place –Cannot rely on consumer to pull economy

13. 13 S&P 500 Monthly Close, Jan 1990 – July 2009 Vertical lines represent bottom of cycle Source: Economagic.com

14. 14 US and CA Monthly Unemployment, Jan 1990 – Jul 2009 Source: California EDD

15. 15 Unemployment for Marin, Napa and Sonoma Counties, Jan 90 – Jul 09 Source: California EDD

16. 16 Residential Real Estate Unemployment puts both supply and demand pressures on market –Supply: as unemployment rises, number of units rise –Demand: as unemployment rises, fear over lost jobs reduces demand Interdependence: 96.6% correlation between Sonoma and Marin County median home price since 1995 –Similar across North Bay: which county is the driver? Two big questions the market has yet to answer –Was the old pricing correct? –Is the current pricing correct?

17. 17 Residential (cont.) Foundations –Is demand stable? Tourism and retirement purchases, what %? –What are the supply conditions? Those that remain in their homes will reap long-term gains. –Lake and Mendocino Counties likely to be longer-term growth areas Commercial space –Demand should remain, worse case as a movement from Bay Area otherwise. –Supply naturally to contract, especially as a reaction to recession Financial literacy a big deal going forward in residential real estate Following graph compares counties and their growth of real estate prices since 2002.

18. 18 Median Home Prices Indices: Sonoma, Marin and Napa counties, Jan 2002 – June 2009, Jan 2002 = 100 Source: CAR.org

19. 19 Commercial Real Estate Construction of new commercial property likely to be project-specific rather than anticipatory –Likely to see a foreclosure wave in commercial by 2010 –Still need to fill them and keep them occupied Rents falling for some time now, market reaction –Were rents too high to start? –Was commercial overbuilt locally? Demography shifting toward locally-serving companies Economic paradigm shift: auto dealers an example Economic Development a large part of real estate forecast for commercial

20. 20 Economic Development Economic development must link commercial real estate to business opportunities –Need to have a regional development plan –Need to think beyond city and county borders Three “E’s” the current mantra –Economic Vitality –Social Equity –Environmental Balance How economic development takes place affects real estate markets: get involved!

21. 21 Example A new business is wooed to Novato –Occupies commercial space and creates jobs –New jobs mean new demand for residential real estate New business may be asked to engage in community project –Non-profit may occupy commercial space and expand as a result Environmental regulations provide two prongs of opportunity –AB 811 to retrofit homes for energy and water efficiency Keeps contractors locally before next building or renovation boom –New businesses engage in innovative solutions More jobs = commercial space and residential demand Which leads to economic vitality: the wheel rolls on

22. 22 Economic Outlook Recession for through 2009 for California –Bottom to hit soon: thud not heard for a few months Indicators show economy is slowly turning around CA budget throws uncertainty into game Residential real estate markets picking up momentum Commercial likely to continue a rough patch Housing should be seen as a follower not leader –Exposure of North Bay to real estate markets is a microcosm of local economy Services and population-serving first Recognize regional connections –All counties are going to scramble for firms –Housing markets should react not drive