Hell to Pay In the Morning: Commercial Real Estate

The collapse of the residential market was led by massive defaults in ill-conceived “sub-prime loans”. Millions of American homes are now in default and in the process of loan modification, abandonment or foreclosure. There is no end in sight as Prime, Alt-A, and Option ARM loan resets come due beginning in 2010.

Lurking around the corner, literally unnoticed by the average American worried about keeping his home, is a similar crisis in commercial real estate. For over a year commercial property values have been plummeting and have not begun to recover. A drive through both major cities and suburbia tells the story. Vacant stores, empty shopping malls, cancelled mixed use developments and eerily empty car lots presage bad things to come. _NewGeography

The collapse of the 1990s - 2000s housing bubble occurred while US unemployment was still relatively low. But now that US unemployment is well above 10% -- and approaching 20% by some meaningful measures -- the nation lacks the "consumer power" it needs to pull itself back up by its bootstraps. The private sector is being sucked dry by the government sector, and everything the government has done for the past year to halt the decline, has had unfortunate and largely unintended consequences.

Depository institutions hold about half of the $3.2 trillion of debt on US commercial property. The default rate in the first quarter of 2009 was just 2.25%. Sounds OK until you do the math and realize that $36 billion was in default and it is just beginning. The FDIC puts troubled banks on “the problem list”. In early 2008, there was one bank on the list. At the end of June 2009 there were 416, up from 305 at the end of the first quarter when the default rate was just 2.25%. Total assets at these problem institutions total $299 billion. The problem is that the total reserves of the FDIC are just $42 billion. The FDIC has closed over 100 banks and one good estimate is that they will close around 10% of US banks, 500 to 1,000, before the crisis runs its course. The losses will dwarf the $394 billion of the RTC and may surpass a trillion dollars. _NewGeography

The collapse of October 2008 was just the opening bell on an extended economic recession in the US and much of the rest of the world. Misbegotten government economic policies have reached around and stung the American economy in the asp. Indeed, damaging government policies are just getting started under the Obama / Pelosi reich.

Old, tired, and mostly vacant Class C office buildings line the crumbling freeways of Detroit, Cleveland, Youngstown, and countless smaller rust belt cities where excess capacity has eliminated the need for new development.

A year from now, the landscape of America will be forever changed. The office and retail markets will be vastly different than they look today. Not much of it will be good. Five years from now, will empty shopping centers and auto dealerships remain shuttered or will they be rebuilt or torn down and their use converted to something more productive? Will our politicians cease their meddling in the market and allow the market to heal itself? These are questions that will haunt our economy for the next decade. _NewGeography