Economic Developments - July 2016 

© 2016 Fannie Mae. Trademarks of Fannie Mae. 7.19.2016 1 of 4 

Prolonged Uncertainty Weighs on the Outlook

We upgraded our expectations for second quarter 2016 economic growth by three-tenths to 2.4 percent, mainly reflecting 

the surprisingly strong pickup in consumer spending through May. Our forecast for second-half economic growth of about 

2.0 percent is the same as in the prior forecast. The full-year real gross domestic product (GDP) growth forecast is revised 

one-tenth higher to 1.8 percent, reflecting the slight upgrade in first quarter growth in the government’s third estimate and 

our improving view for the second quarter. Heightened uncertainty and financial volatility associated with Brexit, as well as

the uncertainty ahead of the U.S. presidential election, point to elevated downside risks to our forecast and will likely 

reinforce the Fed’s cautious stance. 

Brexit’s Direct Economic Impact on the U.S. Is Likely Limited

Financial markets were surprised and reacted swiftly to the

U.K.’s decision to leave the European Union (EU). Global stock

indices plummeted, risk spreads widened, market volatility

indices surged, and the dollar appreciated sharply against the

British pound and, to a lesser extent, against the euro. Strong

safe-haven flows into Treasuries led to a decline in long-term

yields. This has been reinforced by the decline in short-term

rates resulting from the expected slower path of Fed hikes and

by investors’ search for yield amid low and negative rates in

Europe and Japan. The 10-year Treasury yield fell to a record

low intra-day of 1.32 percent on June 6 and closed at 1.37

percent. The 10-year yield was little changed after the

surprisingly strong June jobs report on July 8, but moved up to

slightly more than 1.5 percent at the time of this writing.

Increasingly flat yield curves are another reflection of investors’ 

concerns. The spread between the 10-year and the 2-year 

Treasury yields is at its narrowest since 2007. Investment-grade 

U.S. corporate bond yields and mortgage rates have declined as 

well. Some of the adverse conditions have since unwound, but

some, including the depreciation of the British pound and 

downward pressure on long-term Treasury yields, have 

persisted. Because the U.K.’s actual exit from the EU will occur 

in 2019, the two-year window for negotiations will result in

heightened uncertainty in the financial markets regarding the 

economic impact of the exit. 

In terms of Brexit’s economic impact, a moderate recession in 

the U.K. is likely as the resulting uncertainty affects businesses’ 

hiring and investment decisions. This is especially important for 

large multinational companies and financial institutions that use 

London as a base of operations to serve the EU market. Some of 

these organizations are now likely to relocate their activities to cities on the Continent. Economic growth in the Eurozone,

which is about 30 percent of the world economy, will likely slow as well. Countries around the globe are also adjusting the

amount of credit exposure they will have in the U.K. Moody’s estimates that the U.S. banking system's total exposure to

the U.K. is $920 billion, which dwarfs its exposure to other major European countries, including France and Germany.

From a direct trade perspective, the economic impact of the U.K.’s exit on the U.S. should be limited because the U.K. 

accounts for less than 5.0 percent of U.S. exports. However, the Eurozone accounts for 15 percent of U.S. exports, 

making it the third biggest market behind Canada and Mexico. Slower global growth, combined with a stronger dollar, 

suggests worsening net exports; however, exports account for only about 12 percent of U.S. GDP. Barring concerns that 

will lead to a significant tightening of financial conditions, the negative impact of Brexit on the U.S. economy will likely be 

small. 

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The spread between the 10-year and the 2-year Treasury yields is at its flattest since 2007

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'08 '09 '10 '11 '12 '13 '14 '15 '16 Yields on 10-Year Government Bonds

Yields on Government Bonds Drop Sharply Following Brexit

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© 2016 Fannie Mae. Trademarks of Fannie Mae. 7.19.2016 2 of 4 

One of the downside risks of Brexit is the potential instability in 

the Chinese Yuan. The currency depreciated 1.5 percent during 

the last week of June and the first week of July to the lowest 

level since November 2010. So far, China’s financial markets 

have responded reasonably well compared to the stock market 

turmoil of last August, but there is evidence that capital flight has 

accelerated. The biggest risk of Brexit may be that other 

countries might be emboldened to leave the EU as well. It is 

also possible that Scotland will push for a referendum in 2019 

before the U.K. formally leaves the EU and vote to leave the 

U.K. Other risks include tensions in the Italian and German 

financial sectors, which have come under more pressure since 

Brexit. Estimates of loan delinquencies in the Italian banking 

sector run to 17 percent. At least one German bank is at risk. 

EU troubled bank treatment rules will get a test. 

Overall, increased political and economic uncertainty could weigh further on business spending and hiring plans, which 

already faced considerable headwinds from shrinking profitability, low productivity, and rising labor costs prior to the 

referendum. 

Fed Keeps Target Rate Low for Longer 

Prior to the U.K. referendum, concerns regarding the marked slowdown in job growth and the outcome of the Brexit vote 

contributed to the Fed’s decision to remain on hold in June. Post-referendum, global headwinds from increased financialmarket volatility and heightened uncertainty have reinforced the case for a cautious approach in the removal of monetary 

policy accommodation, which has been reflected by more dovish recent Fed communication. Prior to the Brexit vote, our 

expectation had been that the Fed would raise interest rates once this year, with the timing likely in September. However, 

in the aftermath of the vote, the risks are skewed toward an even slower rate hiking cycle. We now believe that the next 

rate hike will likely be in June 2017. The fed funds futures market is not fully pricing in an increase until the end of 2018. 

Major central banks, including the European Central Bank and those in Japan, the U.K., New Zealand, Australia, China, 

and India, are in easing mode. Many other central banks abroad will likely engage in additional quantitative easing and 

monetary stimulus. About 13 trillion U.S. dollars equivalent of global debts now have negative rates, and this total will 

likely grow substantially during the second half of the year. Near-term monetary tightening in the U.S. would lead to 

increased divergence between the Fed and central banks in other advanced economies, which would strengthen the 

dollar again after its downtrend earlier in the year. This Fed is unlikely to want to increase the force of that headwind. 

Consumers Save the Day 

Consumer spending rose a solid 0.3 percent in May following an 

upward revision for April, which now shows a 0.8 percent 

increase, the strongest monthly gain since August 2009. The 

saving rate fell 0.7 percentage points during March and April to 

5.3 percent in May. While the rate is well below its long-term 

average of over 8.0 percent (the average rate between 1960 and 

the mid-1980s was more than 11 percent), it is still above its 

2013 to 2015 average of 4.9 percent, providing some cushion for 

future spending. 

The headline and core personal consumption expenditures 

(PCE) deflators, the Fed’s favored measures of inflation, showed 

muted price pressures in May, supporting the Fed’s gradual 

approach amid increased downside risks. The core PCE, which 

excludes food and energy, was up 1.6 percent on a year-ago 

basis, the same as the prior month’s gain. 

Spending may have cooled in June, however, as auto sales dropped 4.5 percent, putting second quarter sales below the 

first quarter’s pace. Even with the drop in auto sales, real consumer spending growth likely accelerated to 4.2 percent 

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'09 '10 '11 '12 '13 '14 '15 '16 Personal Consumption Expenditures (SAAR, Chn.2009$, M-o-M % Change)

Solid Gains in Consumer Spending Help Lift Q2 2016 Economic Growth

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Price of 1 $USD in Yuan (Inverse Scale)

The Chinese Yuan Depreciates to a Six-Year Low against the U.S. Dollar
© 2016 Fannie Mae. Trademarks of Fannie Mae. 7.19.2016 3 of 4 

from the lackluster 1.5 percent annualized in the first quarter. This would be only the fourth time during this expansion that 

real spending growth has exceeded 4.0 percent. We expect real consumer spending growth to moderate to about 2.3 

percent in the second half of the year, with labor market conditions key to the forecast. 

Strong Rebound in Payrolls Isn’t a Game Changer

The sharp rebound in nonfarm payroll employment, which rose 

287,000 in June, helped to allay recession worries but has not 

changed the outlook. The large gain came on the heels of a 

downward revision to May payrolls to a gain of just 11,000. 

While the hiring trend picked up in June, with the three-month 

moving average rising to 147,000 from 114,000 in May, it has 

slowed substantially from 240,000 at the start of the year. The 

household survey showed the unemployment rate rose twotenths to 4.9 percent, as a large increase in the labor force 

outpaced a small increase in household employment. 

For the second quarter, it appears that consumer and 

government spending contributed to GDP while net exports 

was neutral. Business investment, inventory investment, and 

housing should be a drag, with the latter likely to be a payback 

from a very strong performance in the first quarter. The last 

time residential investment subtracted from GDP was in the 

first quarter of 2014. For all of 2016, consumer spending is 

expected to drive growth, with some support from government 

spending and residential investment. Nonresidential 

investment, inventory investment, and net exports will drag on 

growth. 

Housing Roundup 

Brexit should be a positive for the housing and mortgage 

market in the near term because it has helped bring down U.S. 

long-term interest rates. Home sales through May point to 

continued modest housing expansion. New home sales pulled 

back 6.0 percent from April, but the drop was a payback from a double-digit surge in the prior month, with the end result 

being that May sales remained elevated at the second-best level of the expansion. Existing home sales rose 1.8 percent 

from April to the highest level in more than nine years. The number of homes for sale fell 5.7 percent from a year ago, 

marking the largest year-over-year drop since last October. 

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Existing Home Sales (SAAR, Millions of Units)

Existing Home Sales Climb to Expansion Best

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Existing Homes Available for Sale (NSA, Year-over-Year % Change)

Existing Home Sales Inventory Post Largest Year-over-Year Drop Since October 2015

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Change in Total Nonfarm Employment (SA, Thousands)

Job Creation Jumps in June, but Hiring Trend Remains Tepid

Change in Total Nonfarm Employment

3-Month Moving Average

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New Single-Family Home Sales (SAAR, Millions of Units)

New Home Sales Pull Back from Expansion High
© 2016 Fannie Mae. Trademarks of Fannie Mae. 7.19.2016 4 of 4 

Year-to-date new and existing home sales through May were 

7.1 percent and 5.6 percent, respectively, higher than sales over 

the same period in 2015. Leading indicators for existing home 

sales presented a mixed picture of sales in the summer. 

Pending home sales fell 3.7 percent in May from a decade high 

reached in April and posted a year-over-year drop for the first 

time in almost two years. On the other hand, after a drop in May, 

average purchase mortgage applications for June rose to the 

highest monthly reading since April 2010, boosted by the surge 

during the first week of the month. Purchase applications 

dropped in the last three weeks of June but rebounded during 

the first week of July. 

One downside risk for housing is single-family homebuilding, 

which appears to have lost momentum in the second quarter. 

Spending on new single-family construction fell in May for the 

third consecutive month, and single-family permits declined for the second time over the last three months. By contrast, 

multifamily permits rose in May for a second consecutive month. (For more information on multifamily market conditions, 

read the July 2016 Multifamily Market Commentary). Without relief from new construction, single-family housing inventory 

will likely remain tight, boosting home prices and constraining affordability. 

Our forecast for the path for mortgage rates through the end of 

2016 is about 20 basis points lower than the prior forecast, with 

30-year fixed mortgage rates averaging just 3.5 percent during 

the fourth quarter of 2016. We believe low inventory is 

translating interest rate declines into strong home price 

appreciation. We don’t expect a big boost in home sales from 

the recent drop in mortgage rates. We did revise our home sales 

forecast modestly higher, largely because of stronger-thanexpected spring sales, which sent the trajectory higher for third 

quarter sales. The drop in rates should boost refinance 

originations in the second half of the year. In the first week 

following the U.K. referendum, refinance applications soared to 

the highest level in almost a year and half, jumping nearly 21 

percent. We now project a 2.2 percent rise in total mortgage 

originations to $1.75 trillion in 2016, versus a projected 2.8 

percent drop in the prior forecast. The refinance share should come in at 42 percent in 2016, compared with 40 percent in 

the prior forecast and 46 percent in 2015. While the mortgage market is tilting more toward purchase originations, the 

change is much more gradual than we had originally thought at the start of the year. 

Economic & Strategic Research (ESR) Group 

July 11, 2016 

For a snapshot of macroeconomic and housing data between the monthly forecasts, please read ESR’s Economic and 

Housing Weekly Notes.

Data source for charts: Bloomberg, Bureau of Economic Analysis, Bureau of Labor Statistics, Census Bureau, National Association of REALTORS®, 

Mortgage Bankers Association, Freddie Mac 

Opinions, analyses, estimates, forecasts and other views of Fannie Mae's Economic & Strategic Research (ESR) Group included in these materials 

should not be construed as indicating Fannie Mae's business prospects or expected results, are based on a number of assumptions, and are subject to 

change without notice. How this information affects Fannie Mae will depend on many factors. Although the ESR group bases its opinions, analyses, 

estimates, forecasts and other views on information it considers reliable, it does not guarantee that the information provided in these materials is 

accurate, current or suitable for any particular purpose. Changes in the assumptions or the information underlying these views could produce materially 

different results. The analyses, opinions, estimates, forecasts and other views published by the ESR group represent the views of that group as of the 

date indicated and do not necessarily represent the views of Fannie Mae or its management.

ESR Macroeconomic Forecast Team 

Doug Duncan, SVP and Chief Economist Mark Palim, VP 

Orawin T. Velz, Director Frank Shaw, Economist 

Hamilton Fout, Director 

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Leading Indicators Send Mixed Messages About Upcoming Existing Home Sales

Mortgage Loan Applications for Purchase Index (SA)

Pending Home Sales Index (SA, Right Axis)

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Plummeting Mortgage Rates Post-Brexit Spark a Fresh Wave of Refinance Demand MBA Refinancing Volume (Left Axis) FRE 30-Year Fixed Mortgage Rate (Right Axis)