Houston 2018 Economic Forecast: Acceleration

 Houston 2018 Economic Forecast: Acceleration
By Ray Niekamp

The annual economic forecast event in Houston was overshadowed by one major occurrence: Hurricane Harvey. What effect would Harvey have on Houston’s economy? Would the area suffer an economic downturn after so much ground to a halt as it cleaned up from the flooding? The answer, from Dean Peter Rodriguez of Rice University: chances for a decline in GDP are fifty/fifty.

The reason, he said, is that economic activity accelerates after a natural disaster. “You are going to spend money you didn’t plan to spend rebuilding buildings, roads or highways,” he said. That spending offsets the decline in economic activity in the immediate wake of the storm.

Dean Peter Rodriguez, Jones Graduate School of Business, Rice University

The experience with hurricanes Katrina and Rita support his view. People tapped into their savings, so consumption was still occurring. Outside funding from sources such as FEMA added to the surge in economic activity.

“In terms of actual GDP decline, I’d be surprised if it were anything but modest,” Rodriguez said. “We could even see GDP increasing over current forecasts because it will accelerate.”

Housing prices are a good indicator. Houston has seen nearly 50 percent growth in home prices, and that’s been in the face of lower oil prices. “So the rebuilding will take place with very high asset prices on home values,” he said. “Nothing in the home market shows an abatement in the rapid path of growth—this is pretty unusual.”

Although oil prices turned down in 2015, Houston’s economy has been strong, coming back steadily from the recession of 2008 and 2009. “That may sound like an old story, but that eight- or nine-year-old story cast a very long shadow over the economy, and we’re really just now getting back to 2007 statistics,” Rodriguez said. “Our local economy looks strong, and right now there are not enough headwinds to give me pause.”

If Rodriguez does have any concerns, they’re about the Federal Reserve. The Fed pumped a lot of money into the economy to deal with the 2008 financial crisis. Since then, their balance sheet has gone to over $4 trillion. That means the Fed has fewer options to deal with the next recession.

But aside from that, Rodriguez thinks the Houston economy looks good. “Harvey seems to have had a less severe impact than we imagined, and in general, given what we’ve seen from natural disasters in the past, I’m a little more optimistic than perhaps some others,” he concluded.

Oil & Gas

Harvey didn’t damage Houston’s place as the energy city. Janeen Judah, General Manager of Chevron’s South African Business Unit is also the president of the Society of Petroleum Engineers, and she said the engineering community thinks stabilizing oil prices mean the worst is over. Companies are starting to increase capital spending, and are basing their projections on a price of fifty dollars per barrel of oil.  That “lower for longer” attitude is bringing back hope, fear is subsiding and money is going back into the industry, Judah said.

Janeen Judah is the President of the Society of Petroleum Engineers and General Manager of Chevron South Africa.

That increase in capital spending is happening mostly in the United States, Judah said, and it’s led by onshore and unconventionals (oil shales, oil sands, gas to liquid and other methods), with rig counts going up in the Permian Basin. “That is mostly driven by the different big plays in Wolf Camp and Bone Spring,” she said. “We also expect Bakken to come back.” Offshore activity is still slow, because they have a harder time making projects profitable when oil is priced at fifty dollars.

Horizontal rig count is expected to remain relatively flat. “They are actually becoming equipment constrained, and the contractors and the service side are reluctant to add more capacity,” Judah said. “They have been burned too many times, and they are going to continue at the full capacity with what they’ve got.”

To plan for “lower for longer” oil prices, Judah said the big, international oil companies are focused on efficiency—shedding high cost assets and developing new energy sources. “When we were drilling like crazy, people didn’t want to be distracted by things like new ideas,” she said. “Now, on the service side, we’re all interested in low-cost product development, and on the operators’ side, they’re focused on things like cost efficiency and increasing reserves, and they are very open to ideas and innovation that you didn’t see three or four years ago.”

The Chinese, she said, are into resource capture, and they’re everywhere. “They are selling into our markets, they’re doing government-to-government deals, they are still extremely active in the global oil market and they are all about resource capture,” she said. “They are everywhere.”

On the personnel front, Judah said the petroleum industry has nearly completed “the big crew change.” People who entered the field in the late 1970s and 1980s are retiring. “There are very few people left in the large firms over the age of fifty-five,” Judah said. “When the upturn happens, it will be with mostly millennial employees, and there is a very different mindset in those younger MBA types.” For instance, she said, they’re more entrepreneurial. They’re interested in starting their own businesses. They’re open to using new technology.

At the same time, there’s growing interest in technical employees. “With these thirty-year guys leaving the building, a lot of brain power has left and they are going to have to deal with that,” she said.

Judah highlighted three trends in the petroleum business in 2018. The first: M&A. “There’s still a lot of money out there,” she said. “There is still a lot of private equity capital available to make the right deal. There will be more deals being done in the next eighteen months.”

Digital is also attracting attention, especially in the realm of big data. “Nobody is sure what big data really is, but they all think it’s going to help streamline their businesses and help make better decisions,” Judah said. She predicted more automation and robotics getting people off offshore rigs, both to control expenses and to enhance safety.

The third trend is visualization and simulation. Gaming and virtual reality technology is being used to train employees in drill floor operations and production and refining operations. “It’s both cheap enough and robust enough—and you can use it with a Samsung phone and goggles, and you can use it globally,” Judah said. “These technologies are also helping with the big crew change issues.”

Even though the big European oil companies are moving heavily toward renewable resources, Judah said there is still a place for oil and gas. “There are over a million people in the world who still don’t have access to electricity,” she said, “and we want to be part of that solution.”

Health Care

The pace of change is quickening in health care, said Dr. Tony Lin of Kelsey Seybold Clinic. He cited three trends as well, the first being the growth of physician groups—both in number and in size. The number of practices with fewer than ten physicians is diminishing, while group practices are increasing in number. Why? Employment. New doctors are loaded with debt from medical school.

“No one wants to borrow more money and take on more debt to start a practice,” Lin said. “As a result, they are looking at joining hospital systems or large groups for employment.”

Tony Lin, M.D., Chairman & Managing Director, Kelsey-Seybold Clinic

Large groups, he said, will continue to grow and will become more organized. Hospitals and medical groups have a 501a structure (a non-profit health care group) to manage the health care environment.

Hurricane Harvey is contributing to that growth, Lin said. “I would tell you from my first-hand experience of going through Harvey, I saw the resources, effort and time it takes to manage the preparation, to manage through the storm taking care of patients and through recovery afterward,” he said. “That’s a luxury small group practices just don’t have the resources to do.” He said Harvey will push small physician groups to join larger groups because they will have difficulty surviving.

Trend number two is technology. Lin was surprised to learn 87 percent of medical practices in the United States use electronic health records, since doctors are slow to adapt to new technology. Telemedicine, video, devices and processes are all showing technological advances. “My cardiologist showed me a pacemaker that’s the size of a coffee bean last week,” he said. “It’s already available. No longer are pacemakers put in through a surgery in the operating room, but instead on a catheter delivered to your heart with a battery that can last up to ten years.”

Lin said technology is also affecting the hiring of doctors. “I need physicians who can translate what’s on that phone or on that computer for their patients so they can make the best decision at their bedside,” he said. “The primary care physician is the quarterback of health care. Those groups with primary care physicians as their emphasis, and ACOs, will be prime for advances in health care.”

The Harvey effect on medical technology is that technology will be used more in disaster recovery plans in the future. Lin said physicians were able to keep in touch with their patients over the Internet during the storm. “It will be a big part of our future as we deal with disaster planning,” Lin said.

The third trend is value-based purchasing. For health care to consume 18 percent of GDP is not sustainable, he said. So far, what has been tried hasn’t worked: discounting fees for service, reducing benefits and not covering certain specialties and shifting costs to patients to keep premiums down resulting in deductibles of $2,000 to $3,000. None of these are long-term solutions, Lin said.

“We’re seeing the movement of paying for value,” Lin said. “What are we getting out of the care we’re paying for?” He sees the Accountable Care Organization (ACO) as the way to get value out of health care through capitation. Capitation pays per employee, as opposed to paying for a volume of services and being paid for everything done for the patient.

But ACOs are not the only ones pushing for value. Lin says the government, through its Medicare Access and CHIP Reauthorization Act of 2015 is also getting away from fee-for-service models. “Every health insurance plan we know of is now adding contract language on quality and other measures they want to grade you by,” he said.

The Harvey effect? Lin said before Harvey, he heard from employers that they wanted more value for their health care dollars. “With Harvey,” he added, “I know that pressure to get value out of our health care dollars is even higher.”

Venture Capital

BuildGroup co-founder Jim Curry said we’re living in a world of two economies: the mature economy that sees low levels of innovation, rising prices and limited productivity gains—think health care, senior care, education and construction—and a fast moving, digitized economy with lots of innovation, greater productivity and more value for less money.

“It’s important to have both economies,” Curry said. “You need a vibrant, mature economy from businesses and traditional industries. But you also need a certain number of people who want to disrupt that and build new and innovative business models around it.”

Jim Curry is Co-founder of the BuildGroup.

In Curry’s opinion, Texas is lagging at attracting those innovative companies. Venture capital spending in Texas was about $800 million last quarter. But in California, the number was $9 billion. “We’re not getting our share of venture capital funding,” Curry said.

The problem, as he sees it, is not a lack of venture capitalists in Texas. Rather, it’s a lack of the kinds of companies venture capitalists want to fund. “Rackspace got funded in 2001, and we were based in San Antonio,” he said. “You think it’s hard to build a company in Austin? Try building a technology company in San Antonio—it’s very difficult.” But Rackspace was a well-run company with a great offer, he said.

Curry would like to see more “unicorn” companies start up in Texas. He said Rackspace was a good example of a unicorn, a private company in the technology sector worth $1 billion or more. Rackspace grew by going public, but the trend now is to grow by staying private. “I don’t know if that’s good or bad,” he said. “But I do know that one of the things folks have started to focus on, which is frustrating to me, is more about building your company through funding, as opposed to just building a great company.” He said Texas must focus on building companies that have products people want.

To get those great companies in Texas, Curry said we have to focus on making Texas a place where technical graduates want to come. While Austin has been successful in recruiting from both in state and out of state, Curry said many University of Texas graduates head for California.

“You want to help someone who is twenty-two years old who is an engineering graduate go and work on problems that can change the world,” Curry said. “They don’t want to go work in the back office of a big company. They want to work on something that is meaningful.”

He said California and Massachusetts have both done a better job than Texas at building collaboration between universities and the business world. “We have not historically been great at this in Texas,” he said. “The University of Texas is not great at that, probably because it’s a public institution.” He cited Stanford and MIT as two places where universities and businesses are active collaborators.

“We need more flywheel companies,” Curry said. A flywheel company provides the training ground and staff to scale a company. He cited Dell, which not only created lots of “Dellionaires” but also created people who knew how to build teams. “You need companies that can help spin off that talent,” he said.

Curry wrapped up by addressing Houston specifically. “The first two speakers talked a lot about the technology their industries are using,” he said. “What frustrates me is that they are not being created here in Houston. Oftentimes those technologies are being created in California.” He urged Houston to build on its reputation as an energy and medical capital and attract people who want to serve those industries. “Let’s bring in those companies here, build them and disrupt the industries and capture the market here,” he said. “We’re not doing a great job of that as a state, so far.”

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