Why we believe there are reasons for optimism
This article is part of JLL’s Global Real Estate Outlook 2023
Global economic outlook remains exceptionally uncertain
The global economy faces numerous headwinds as it enters 2023. High inflation remains with us (and probably for some time) and the war in Ukraine continues, as does Covid-19, which is still causing significant disruption in some Asian markets. Further challenges are also emerging, many as a consequence of these headwinds. Central banks are maintaining their tightening cycles to rein in inflation, governments are stretching tight budgets further to insulate against unprecedented energy prices, and investors are standing back as real estate markets adjust to the changing dynamics.
Europe remains in the center of the energy storm. Despite widespread measures to mitigate damage, the spike in energy prices has driven much of the region into recession. At the same time, rising interest rates have pushed up the cost of borrowing, with more rises expected, weighing upon demand and appetite for leverage.
Positive dynamics in Asia and some signs of recovery in the U.S.
In Asia the ongoing rebound from Covid lockdowns lies behind the positive growth story, though the economic picture continues to be challenging in China. While offices elsewhere are refilling and supply lines are recovering, the severe response of the Chinese authorities to escalations in Covid cases leaves day-to-day life in the country unpredictable and subject to sudden new conditions.
In the U.S. the narrative is turning more positive and there is now a broader consensus for a softer landing. Declining inflation has eased forecasts for Federal Reserve tightening, which in turn has buoyed sentiment and markets.
A wide range of scenarios for Global GDP forecasts
As we enter a new year, the outlook is exceptionally uncertain. This is not a reference to unforeseen shocks such as Covid or the war in Ukraine. The uncertainty arises from the continuation and binary natures of these shocks. For instance, if the war in Ukraine escalated and spilled over to its neighbors, this would mark a severe deterioration in the outlook. But if there were a resolution and sanctions were lifted, prospects would take a sharp turn for the better. The situation is similar with Covid in China. The net result is an unusually wide range of economic assumptions across forecasters and a surprisingly broad distribution of forecasts.
According to the latest Consensus Economics survey of forecasters, the range for five of the G7 countries includes a contraction and an expansion of greater than half a percentage point. The average spread of forecasts around the median is 2.7 points, compared to 0.8 at the same time ahead of 2019.
Entering the slowdown from a position of strength
If we just consider the storm clouds rolling in, we are missing many of the positives that should give cause for optimism. We have been saying for some time that we are entering this slowdown from a position of strength, with labor markets tight and household and corporate balance sheets in good shape.
However, there is more to it than that. There is emerging anecdotal evidence that employers have learnt from their mistakes in the pandemic; for example, when some let go of workers quickly then struggled to recruit when conditions improved. The disruption at airports and in baggage terminals is a cautionary tale and one that employers appear to be learning from: they are considering new strategies to retain workers in similar scenarios, such as at temporarily lower wages, thus reducing the costs of redundancies and rehiring.
Slowdown likely to be short and shallow
Furthermore, the slowdown is expected to be relatively short and shallow, meaning that we can already see light at the end of the tunnel. Eurozone economies are forecast to suffer two or three quarters of contraction before growth resumes, and the U.S. just one quarter, if at all. This suggests that economies will have turned a corner as they enter the second half of 2023. Continued strong rates of expansion across Asia and among commodity exporters will help keep global growth positive and provide export opportunities.
What happens next?
The short-term outlook for real estate is challenging to say the least.
For investors the implication of a short and shallow recession is a sharp adjustment. Real estate pricing adjusted considerably in some markets in 2022 and this repricing is likely to continue into early 2023. Rapid yield shifts are challenging for owners if they result in margin calls and forced sales, but are still better than a long, slow phase which leaves transactions stagnant and buyers sitting on the sidelines. Seeing light at the end of the tunnel provides some certainty and will allow for a quicker realization of change and return to the market.
Occupiers’ budgets are being stretched by sharp cost increases and firms will continue to assess their office space requirements in the new hybrid working environment. The leasing market remained robust into the fourth quarter but will probably see slowing activity in early 2023. In the U.S., expiring leases will help to boost tenant demand, while relatively low vacancy rates across much of Europe will partially mitigate slowing demand.
Overall, there are reasons for optimism. There will be pain in the adjustment, but it is expected to be short-lived and we can soon shift our attention to the next turn in the real estate cycle.
24 January 2023
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