On Wednesday, Fitch Ratings downgraded the U.S. government’s top credit rating from AAA to AA+. The agency said the move was brought on by repeated debt ceiling negotiations and fiscal concerns that have led Fitch to doubt the country’s ability to pay its bills.
“I don’t think the Fitch rating downgrade means anything,” Zandi said to Walker & Dunlop CEO Willy Walker on this week’s Walker Webcast. “I don’t think it’s going to affect or change the minds of global investors in any meaningful way. At the end of the day, the U.S. is still the AAA credit on the planet, whether it has a AAA rating by Fitch or not.”
Zandi stressed that he isn’t in Moody’s rating agency, so he wasn’t speaking for the company, though Moody’s is now the only outstanding rating agency with a AAA rating on U.S. debt after Standard & Poor’s lowered its rating in 2011. He acknowledged the country has complex fiscal and political issues, but despite having faced those issues since its inception, the U.S. has always made good on its debt, and he said there is no reason to suspect it won’t continue to do so.
According to Zandi, a recession is, at its core, a loss of faith that occurs when consumers begin to lose confidence in their jobs and businesses begin to lose faith in the economy and commence layoffs. However, he didn’t predict that will occur as a result of this downgrade, since most Americans don’t follow the rating system or understand its significance.
Increased interest rates are also not a huge concern, Walker and Zandi said. But that could change.
Walker said that while it may seem like we are in uncharted territory with the recent actions of the Federal Reserve, these adjustments are far from unprecedented and were seen in the 1980s, ‘90s and early 2000s.
“We’re sort of in a normalized cost of debt capital market,” Walker said. “It just happens to be that, for the last 12 years or so, we’ve been in this zero-to-low-interest-rate environment.”
Zandi said his intuition is that the 10-year yield should equal the nominal potential growth rate of the economy or nominal gross domestic product growth, which is 4% — 2% real potential plus 2% inflation.
He said that at this point, the Fed definitely doesn’t need to raise interest rates further. Zandi said the stress the banking and financial systems more broadly are under is consequential, and that stress boiled over in March and required an aggressive policy response. However, the reasons the banking system got into trouble haven’t gone away, and it goes back to the yield curve, the inversion of the curve, and the effects they are having on their operating environment and net interest margin.
“I view that as a significant risk or threat to my optimism about the economy, that they keep putting pressure on the system,” Zandi said. “If they continue to raise rates and cause the curve to go even more inverted, at some point they’re going to break something that they’re not going to be able to fix quickly, and we will go into recession.”
Another issue that Zandi said shakes his confidence in the economy is the price of oil because it is driven by several factors, including geopolitical turmoil like the war in Ukraine. He said that as long as the price of a barrel stays where it is — hovering around $80-$90 — then things will be fine. However, if the price soars to $100 per barrel or more, prices will rise significantly at the pump and consumer confidence will drop.
Walker said that while Zandi might not think the U.S. is in an economic recession, he has said that the country is in a housing recession that will only ease when more affordable options are brought to market. Walker showed a slide from Zelman & Associates that showed the percentage of new home sales under $300K over the last several years. In 2010 and 2011, more than 70% of new homes were being sold at that price point, but over the last decade, prices have skyrocketed. Today, new homes being sold for less than $300K represent 13% of the market.
Zandi said people are holding onto their homes since many were purchased at a much lower interest rate than what is available today. This is one of the things blocking the availability of affordable homes. However, these people will not be able to hold onto their properties forever, and eventually those sales will happen, and they will happen at a lower price point, he said.
As for the multifamily market, Zandi said there is more supply on the way to meet the booming demand, and as those units hit the market, they will weaken rents. However, many of these properties are on the higher-end side, so finding workforce and affordable housing will still be difficult.
Zandi closed out by saying the next curveball he anticipates hitting the economy will be a government shutdown, which, while it may not cause a recession, is still something Americans need to prepare for.
“I think we can get through without a recession, but I don’t think it’s going to be easy,” he said.
This article was produced in collaboration between Walker & Dunlop and Studio B. Bisnow news staff was not involved in the production of this content.
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