Copyright © 2007 Global Insight, Inc. The U.S. Economic Outlook: How Much Fallout from The Housing Meltdown? Nariman Behravesh Chief Economist NAHB April 26, 2007

Copyright © 2007 Global Insight, Inc.2 A soft landing despite the housing recession Sluggish Growth in the U.S. Economy The economic environment is still benign The housing market decline will extend into 2008 Consumer spending will be supported by rising incomes, but saving will increase as home values erode Business investment plans have turned cautious, despite record profits Global growth and dollar depreciation will boost exports Core inflation will hover around 2%, leaving little room for interest rate cuts

Copyright © 2007 Global Insight, Inc.3 The “Great Moderation” – G7 Inflation (G-7 GDP price deflator, percent change)

Copyright © 2007 Global Insight, Inc.4 The “Great Moderation” - Long-Term Interest Rates (10-year government bond yields, percent)

Copyright © 2007 Global Insight, Inc.5 Source: The Economist, March 10, 2007 One Result: Home Prices Have Soared in Many Countries * New series, data not available

Copyright © 2007 Global Insight, Inc.6 (Annual percent change, 2000 dollars)(Percent) U.S. Economic Growth Has Slowed

Copyright © 2007 Global Insight, Inc.7 (Percent change, annual rate) Housing Is the Major Drag on U.S. Growth

Copyright © 2007 Global Insight, Inc.8 The Subprime Mess: How Big of a Problem? About 65% of homeowners have mortgages – 76% of which are fixed-rate About 13% to 14% of all mortgages are subprime Subprime ARMs are about 8% of total mortgages Roughly 7% of homeowners have negative equity, while 60% have equity of 30% or more So far, there has been very little impact on the prime mortgage market Compared with the S&L crisis, the U.S. banking system is in very good shape

Copyright © 2007 Global Insight, Inc.9 (Year-over-year percent change) Home Prices Will Decline in 2007 and 2008

Copyright © 2007 Global Insight, Inc.10 (Index, higher values=better affordability*) * A value of 1.0 indicates a household earning the median income can afford a median-priced single-family home. A Slight Recovery in Housing Affordability

Copyright © 2007 Global Insight, Inc.11 (Millions of units) Cycles in the Single-Family Housing Market

Copyright © 2007 Global Insight, Inc.12 Cross-Currents Affecting Consumer Finances Positive Forces Steady Job Growth Accelerating Wages Moderating Inflation Negative Forces Declining Home Sales Declining Housing Wealth Mounting Debt Burdens Negative Saving Rate

Copyright © 2007 Global Insight, Inc.13 (Percent of disposable income) Mortgage Equity Withdrawal Will No Longer Fuel Consumer Spending Source: Federal Reserve Board

Copyright © 2007 Global Insight, Inc.14 (Percent of disposable income)(Ratio to disposable income) The Household Saving Rate Will Rise as Falling Home Values Erode Net Worth

Copyright © 2007 Global Insight, Inc.15 (Percent change in outstanding loans) Growth in Household Debt Has Slowed

Copyright © 2007 Global Insight, Inc.16 (Percent of disposable income) Energy Spending Will Take a Smaller Share of Household Income

Copyright © 2007 Global Insight, Inc.17 (Percent change, annual rate) Moderate Growth in Payroll Employment

Copyright © 2007 Global Insight, Inc.18 Wage Growth Is Finally Outpacing Inflation (Percent change from a year earlier)

Copyright © 2007 Global Insight, Inc.19 (Percent change) Consumer Spending Will Be Supported by Strong Disposable Income Growth

Copyright © 2007 Global Insight, Inc.20 (Percent change) The Corporate Profits Boom Is Over

Copyright © 2007 Global Insight, Inc.21 But U.S. Economic Profits Still at Very High Levels (Percent of GDP)

Copyright © 2007 Global Insight, Inc.22 Corporate Cash Flow Has Hit Record Levels; But Next Step Is Down (Net corporate cash flow, percent of GDP)

Copyright © 2007 Global Insight, Inc.23 (Manufacturing production, annualized rate of growth) Manufacturing: Inventory Correction in Progress

Copyright © 2007 Global Insight, Inc.24 (Percent change from a year earlier, real spending) The Business Capital Spending Cycle: Construction Has Taken the Lead

Copyright © 2007 Global Insight, Inc.25 (Percent of GDP, fiscal years, unified budget) Closing the Federal Budget Gap Will Require Spending Restraint and Higher Taxes

Copyright © 2007 Global Insight, Inc.26 (Billions of dollars)(Percent of GDP) A Record U.S. Current Account Deficit in 2006

Copyright © 2007 Global Insight, Inc.27 U.S. Export Performance Has Tracked the Exchange Rate (Percentage points)(FRB broad index, March 1973=100)

Copyright © 2007 Global Insight, Inc.28 (Real Trade-Weighted Dollar Index, 2000=1.0) The U.S. Dollar Will Depreciate Further

Copyright © 2007 Global Insight, Inc.29 (Year-over-year percent change) Core Consumer Price Inflation Is Topping Out

Copyright © 2007 Global Insight, Inc.30 (Year-over-year percent change) Core Inflation Is Topping Out

Copyright © 2007 Global Insight, Inc.31 Oil and Gasoline Have Retreated from Their Peaks ($/barrel)($/gallon)

Copyright © 2007 Global Insight, Inc.32 (Percent change) Productivity Growth Has Slowed Recently average = 2.1%

Copyright © 2007 Global Insight, Inc.33 (Percent) Interest Rates on a Steady Course

Copyright © 2007 Global Insight, Inc.34 (Percent change, annual rate) Real GDP Growth in Alternative Scenarios

Copyright © 2007 Global Insight, Inc.35 Conclusion: Still a Soft Landing U.S. economic growth will stay below trend through 2007 The housing market will decline further Consumer spending will benefit from growth in employment and real wages The boom in corporate profits is ending Strong export gains will bolster the U.S. economy Inflation is moderating, but the Federal Reserve has little room to cut interest rates