Office Insights

Highlights

·        Durable labor shortage

·        Job growth to persist

·        College-premium intact

·        Understanding AI

·        Office demand to remain

Welcome back readers! This week, we return to our intra-quarter deep-dives into a particular commercial real estate (CRE) property type and its connection to the macroeconomy, with a focus on office, including medical office. Though to many it remains the most confusing, or at least unclear property type, we still see numerous positives, especially over a longer horizon. What should we focus on? What are the narratives the market is getting wrong? And what could it all mean for the future of the office market?

Not This Time

First, there are three things we are not going to discuss in detail this week:

1. The government shut down. The media is wasting enough ink (or electrons) on this topic. We have seen this movie before and we know how it ends, at least from an economic point of view. There is short-term disruption, a bit of hysteresis (some economic activity that gets permanently lost), and then adjustments once the government reopens. But unless something completely unprecedented occurs (always a possibility in 2025), the impact on the overall economy should be small.
2. RTO. Similarly, there is a lot of discussion around this topic already. While some questions remain unanswered, the market has largely settled into a new equilibrium where most people work from an office part of the time, with the median about 75%. Relatively few people commute on Mondays and very few on Fridays. Net, probably a one-time adjustment to demand.
3. Supply. We and others have also written about how the market is now likely overbuilt and uncompetitive and obsolete space will need to move offline to right-size inventory, like what happened to retail over the last 15-20 years. This will also occur over a prolonged period.

Demand a Recount

The more interesting and nuanced story lies on the demand side of the market. Many have taken a rather dour view of the outlook for office demand in a post-pandemic world. But that seems overblown. In many markets around the world, including some key markets in the US, office usage has returned to near or above pre-pandemic levels. And despite what you’ve likely read about the future of work, education, and artificial intelligence (AI), the outlook for labor demand overall remains generally healthy, which bodes well for office demand. Why?

What follows are some key points:

1. The US and other major developed economies are going through a structural labor shortage. As Baby Boomers age out of the workforce there are too few people to replace them, especially as the economy continues to grow. This churn will create demand for labor. Throw in an expanding economy, where labor remains by far the key input to production, and workers aren’t going away anytime soon.
2. Although projections vary, most jobs (likely 70%-75%) will require a college degree. Despite attitudes turning against education in recent years, most of the demand for labor will be for workers with a higher education. While much has been made of the recent high in the unemployment rate for young college graduates (22-27 years of age) relative to the overall population, that is only part of the story. The part that doesn’t get mentioned is that their unemployment rate is 260 basis points (bps) below the unemployment rate for all young workers. Which means it is roughly 400-500 bps below the unemployment rate for young workers without a college degree. All young workers face a challenging environment due to the combination of policy changes and uncertainty. But job growth will almost certainly continue for the foreseeable future. And most of these jobs, including in healthcare, will utilize some kind of office space.
3. The college wage premium remains large and widens over the course of a career. This is not to downplay careers that don’t require a college education. But Census Bureau data shows that households headed by someone with a bachelor's degree had a median income of roughly $133,000 while households headed by someone with a high school diploma earned a median of roughly $58,000. And as stated above, the data can be misleading because while the wage difference seems relatively narrow at the earliest stages of a career, that widens considerably over time.
4. What about AI coming to take away everyone’s job? Again, as mentioned above, recent college graduates have much lower unemployment rates than young workers without a college education. And lost in the conversation about AI is the fact that automation has been taking jobs away from non-college graduates for decades. It is the main culprit behind manufacturing employment in the US peaking in 1979 and subsequently declining by more than 7 million jobs, even as employment for college graduates significantly expanded. And automation continues to improve. For example, studies evaluating tens of millions of miles driven by Waymo have found that, compared with humans, the company’s cars are involved in 96% fewer vehicle-to-vehicle crashes, 92% fewer pedestrian injuries, and 88% fewer property damage claims. Anyone who thinks automation doesn’t also put the jobs of non-college grads at equal or greater risk than those of college grads clearly isn’t paying attention. None of this is to say that AI won’t have an impact on the labor market. Like any new technology it almost certainly will, and sometimes in unpredictable ways. But those who stand to gain the most from whatever AI holds are those who can utilize this technology and benefit from it. And those people are more likely to be college graduates than not. Higher order skills like critical thinking, problem solving, communication, interpersonal relationships, and leadership – all hallmarks of college grads - will remain in demand, even in a world immersed in AI.

In sum, the labor market should continue to expand over the medium term. This should create millions of jobs that require higher education which command a large enough premium that will still attract students to obtain an education. These workers will have skills that will very likely remain in demand despite AI’s ascension. And most of these jobs will require office space, even if the average worker is not physically present in their office 100% of the time. That never happened before the pandemic, but it still bears mentioning. Therefore, the current moment feels uncertain but as we have emphasized before, CRE is a longer-duration asset, and we remind everyone not to get too fixated on the present at the expense of the future. Through numerous cycles and various property types, this has repeatedly occurred. We should not make the same mistake with office.

Thought of the Week

Electricity prices have risen by more than 7% over the last year and by roughly 17% since the launch of ChatGPT.

That's all for this week, but be sure to check back in soon for much more from the BGO research desk. Thanks for sharing your time with me!

Ryan S.

BentallGreenOak (“BGO” or “BentallGreenOak”) includes BentallGreenOak (Canada) Limited Partnership, BentallGreenOak (U.S.) Limited Partnership (“BGO U.S.”), their worldwide subsidiaries, and the real estate and commercial mortgage investment groups of certain of their affiliates, all of which comprise a team of real estate professionals spanning multiple legal entities.

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