GERARD CASSIDY ‘Seeing stabilization’

Economic recovery in 2003 is dependent upon monetary stimulus, fiscal stimulus, business outlays and consumer spending, Gerard Cassidy told those in attendance at the Massachusetts Mortgage Bankers Association’s quarterly luncheon last Wednesday at the Burlington Marriott in Burlington.

Cassidy, managing director of RBC Capital Markets in Canada, spoke on the slumped economic conditions of the nation and New England, and provided his thoughts on what will save the economy this year.

While Cassidy’s expertise lies in banking and bank stocks, he said his predictions could change and would be impacted by the possible events taking place in the Middle East.

“Our primary responsibility is to make our clients money and my area of expertise is in bank stocks, but to understand the bank stocks, you have to under the economy in which they operate,” said Cassidy.

Cassidy said three factors would drive the gross domestic product’s growth force for 2003 and 2004 – consumer spending, business spending and exports.

The strongest sector of the economy, according to Cassidy, has been the housing industry, but Cassidy warned investors that the real estate boom will eventually end.

“The strongest part of the economy over the last two years has been the housing industry, which has been influenced by a number of factors including development of land, interest rates and bank lending policies. This is really where the strength has been, but the question is how long will it last,” said Cassidy.

Cassidy said the housing market tends to be less volatile when the equity stock market or other asset classes depreciate in value.

“As long as the refinancing index starts to weaken, then those origination values will drop and … what drives a refinancing index is long-term interest rates, and as long as long term interest rates don’t rise, this index will remain robust,” said Cassidy. “But, if this economy comes back as we think it will, we expect [interest] rates to go higher.”

Cassidy said one variable for businesses to watch is the tax change because “tax changes change people’s behavior.”

According to Cassidy, the 1997 changes in the real estate tax laws contributed to the strength in the housing market.

“Even before the stock market crashed, you saw a rise in housing prices because everyone likes to make a profit tax-free,” said Cassidy. “Clearly, this has been a preferred income area and the tax change laws have certainly contributed to it.”

But Cassidy said the Bush administration has an effect on economic growth as it relates to tax laws because of Bush’s initiative for tax-free dividend income.

“If [Bush] is successful, I will bet you that more people will be buying dividend income stocks in two years than they are today,” said Cassidy. “That is going to take some money away from the real estate market because for some people, it’s a little more challenging to buy a house or rental property and trade it for tax purposes than it is to buy a stock that has high-dividend income.”

‘Hot Area’

But what will help predict a recovering marketplace is the employment rate. Cassidy said employment numbers are stabilizing, and that is good news for local economies.

“We are seeing stabilization and I think we will see some growth, but there are still very large layoff announcements, especially in the investment industry because of a weakness in equity markets,” said Cassidy. “The unemployment rate is really not that high as compared to prior recessions – though it has risen, we are not terribly worried about it just yet.”

Particularly for the New England economy, Cassidy said the region is feeling unemployment pain from the fallout of the technology boom. But because of universities in the Bay State, he said, employment rates will rise.

“This area is very vibrant because of its universitys … the talent tends to stay here and they create companies or work with companies, and that creates spinoffs,” said Cassidy. “We need to see the national economy start to grow more, and see the demand for technology start to increase … and that is going to filter down through New England and Massachusetts and employment numbers will start to grow.”

But for bankers, Cassidy hinted caution.

While retail banking was the hot spot for the economy because of the 12 interest-rate cuts made by the Federal Reserve Bank this year, Cassidy said bankers should be cautious of a harrowing end.

“Community banks in this country have had record profitability over the past couple of years and that is directly correlated with what the Federal Reserve has done with interest rates,” said Cassidy. “Retail banking, in our view, is the hot area for banking and it is our view that it is going to come back and haunt banks because they are opening too many branches.”

Cassidy said the banking industry is “over-expanding from a retail perspective.” When interest rates rise, he predicted, the banking industry will lose deposits and face costly expenses to keep branches open.

However, analysts at RBC say that in order for the economy to show strength, the consumer confidence numbers are going to have to show strength, and Cassidy predicts the consumer will ultimately mend this recession.

Cassidy said that while consumers are concerned about what is going on in the Middle East, analysts at RBC believe the number one determining factor of consumer spending is employment.

“As long as people believe they are going to keep their job, they are going to spend money,” said Cassidy.