Forecasting the economy

Dr. Charlie Hall, professor and Ellison Chair at Texas A&M University, was one of the featured speakers at NGMA’s Spring Meeting. He gave presentations discussing the economic trends affecting the industry and provided his outlook on the economy. Hall discussed many of these points with Greenhouse Management in June.

Greenhouse Management: Which economic factors are affecting the industry right now?

Charlie Hall: Well, of course, there’s a number of them. I think one of the key economic indicators that we’re looking at right now is, what’s going to happen to the interest rates? This week, the FOMC [Federal Open Market Committee] met and increased interest rates by only about 25 basis points. We are likely to get another one or two increases before the end of the year, but they too are likely to be small increases. Interest rates are important because they affect CapEx [capital expenditure] investments on the part of growers. And part of those CapEx investments, of course, are greenhouses and greenhouse equipment. So that’s why that indicator is of particular importance to the greenhouse manufacturers.

Some of the other factors — obviously we’ve got a keen eye on what’s going to go on in terms of tax reform, particularly in terms of any value-added taxes and how that may influence imports, because right now, we don’t have a value-added tax, or border adjustment tax, on very many imported goods that we use in the green industry. Of course, our industry uses quite a bit of stuff that is imported from other countries — peat moss [being] one of the primary ones. So honestly, we’re keeping a close eye on that, as well.

One of the good things is that the leading economic index — it’s a foretelling of the economy in the next nine to 11 months — is usually a good indicator and that’s still going up. As I said back in April [at the National Greenhouse Manufacturers Association Spring Meeting], that’s a good thing, and we should look at the rest of the year and probably next spring, to be kind to us economically. But — is it going to be kind to us weather-wise? That’s a good question.

GM: How will the weather affect the economy?

CH: That’s where the climate change discussions right now come into play, because President Trump just said we’re going to leave the Paris Agreement (against the wishes of many prominent manufacturing business CEOs), so we’re going to be rolling back some of the environmental regulations that have been put into place over the last decade. It may help alleviate some costs on the part of the industry, but who knows what that’s going to do in the long-term. That’s the issue. The reason many manufacturing businesses wanted to stay in the Paris Agreement is that they at least knew the rules of the game. Now, there is more uncertainty and making CapEx investments in the midst of uncertainty is not an easy thing.

GM: The current political situation has had a widespread effect on the economy. You presented your view in a presentation slide during the Spring Meeting as a “non-partisan paradigm.” Can you explain that a little bit?

CH: Whenever you read a forecast by an economist, it helps to know which side of the political fence they lean because it can affect what they say. All I meant was that I try to talk about policies and stay away from specific mentions of one platform versus another. For example, one of the things I mentioned there at the meeting was that Trump had a six-point platform during his campaign, and he just can’t do all those things at the same time, in spite of the promises he made, because we don’t have the money for it. How do you justify a tax cut, and then turn right around and spend $1 trillion on infrastructure spending? It just doesn’t work. You can’t have money not coming in, and then send more money going out than what you can afford. So that’s pretty much the situation we have. It’s going to be interesting to see which ones of these policies win out.

GM: You mentioned CapEx investments. Can you explain how what happens with those could affect the greenhouse industry?

CH: Growers have a certain amount of money in terms of retained earnings, or excess profits, that they spend on buying inputs. Or they can use some of that to purchase equipment and long-term assets. That’s what’s referred to as capital expenditures, or CapEx. Growers, when they’re evaluating whether they’re going to build a new greenhouse or implement some new greenhouse technology — maybe a new climate control system or maybe a new piece of equipment that automates various greenhouse functions — they’ve got to weigh the long-term benefit in terms of either added revenues or reduced costs, against the cost of the money.

It’s called a net present value analysis. If the net present value of all the discounted streams of revenue or reduced costs is greater than zero, it makes sense, financially, to pull the trigger on that investment. Interest rates have a lot to do with the discount factor — that is that we’re putting into today’s dollars — because when you build a greenhouse, you don’t just use it for one year and then build a new greenhouse. You use it over 15, 20, 25 years. And so the value of the dollar 25 years from now is not the same as the dollar today. We use a discount factor to put that into today’s dollars. The interest rate affects that discount rate. That’s why that’s important, because if the interest rates start increasing, then obviously the expected revenues — or the additional revenues, or the expected cost savings — have got to be greater, because you’re discounting them by a larger factor to put them into today’s dollars. That’s why the interest rate matters.

GM: At the Spring Meeting, you presented information regarding housing starts. Is that a major factor in this outlook?

CH: Well sure, because when people build houses, they put landscapes around them. When they have a landscape, they’re going to plant flowers, shrubs and trees and so forth, and if they’re not building houses, obviously that affects the final demand for plants, which then affects the derived demand for greenhouses, because if we’re not selling as many bedding plants, we don’t need as much greenhouse space.

That final demand is pretty critical in terms of selling greenhouses indirectly. That’s why I call it a derived demand versus a final demand [when describing the end consumer]. Derived demand is derived from final demand. So as consumers go, we tend to go.

The good news is that the housing industry has been building houses left and right, and part of the problem now is the shortage of houses. The supply of existing homes is less than four and a half months worth of supply, where it was 14 months at the height of the recession. So we don’t have as many houses for sale, as what we used to have. And part of it is because of the speculation market in housing, but be that as it may, builders can’t quite keep up.

Of course, one of the drags on the housing market has been the fact that the Millennials now have $1.3 trillion in student loan debt, so a lot of first-time home buyers have not been able to [buy homes] because they saddled up with too much debt, and they couldn’t get a mortgage. But there were three policies that Fannie Mae just passed for first-time homebuyers, which may help alleviate some of that concern.

GM: What else should growers know about the economy right now?

CH: Well, the big thing is that the current growth rate isn’t anything to write home to mama about, but it is growing steadily. The economy is kind of like a plow horse — it’s kind of slow and steady and plodding along, versus the racehorse that is racing off at 8 to 10 percent growth. It’s just not going to be at that level anymore. The new normal is the plow horse kind of economy. At any extent, as we used to say back in the days when I used to work in the hayfield, “It’s time to make hay.”

There aren’t a lot of economic headwinds in front of us, so we’ve got to take advantage of this time period, because at some point, there is going to be another economic downturn. We are pushing the law of averages. We usually have a recession every six and a half years, but it’s been well beyond that now, pushing eight years. It was June of 2009 when our recovery started. The law of averages says that we’re kind of pushing the envelope, and so when that downturn does occur, whether it be next year, or the year after, we need to be ready for it. In my mind, it’s about managing your working capital — you’ve got to manage that. You can’t be overinvested, you can’t be overleveraged with the bank having too much skin in the game. The best thing for growers to do right now is to focus on what they do best — their value proposition. Focus on what you do best and don’t worry about the rest.