The $5.2 Trillion Commercial Real Estate Market Withstood Pandemic Pressures, Yet Risks Are Emerging

Despite the 2020 economic downturn and uptick in remote work, the U.S. commercial real estate (CRE) market held strong. While the $5.2 trillion CRE loans market has historically posed risks to banks and other financial institutions during recessions, most of these institutions weren’t forced to absorb large CRE-related credit losses this time, which helped maintain financial stability. We explore the economic conditions, financial environment, and policy decisions that supported CRE after the 2020 recession in our OFR Brief released today.

  • The 2020 recession was more benign than previous economic downturns
    The U.S. economy rebounded faster in 2020 than it did after previous recessions. Unemployment, in particular, recovered more quickly. Despite the U.S. unemployment rate reaching 14.7% in April 2020, the labor market recovered by August. This 16-month recovery was much quicker than other recessions.
  • Traditional CRE lenders kept lending
    CRE lenders kept lending throughout the pandemic as demand for CRE space remained robust and occupancy rates remained strong, supporting property cash flows. As a result, CRE loans performed well, and CRE lenders, including commercial banks and life insurers, reported historically low charge-off and delinquency rates. The healthy CRE fundamentals of 2020 markedly different from previous recessions when financial institutions with CRE loan exposures, such as commercial banks and life insurers, faced higher delinquencies and losses on their CRE portfolios. In some cases, these losses resulted in financial risks and failures.
  • Policy initiatives to support economic growth also helped CRE
    The economic and policy initiatives undertaken during and after the 2020 recession supported current economic growth and CRE lender solvency. For example, through measures such as the CARES Act and the American Rescue Plan, mass infusions of cash were provided to American households and businesses. As a result, disposable income grew during the 2020 recession, enabling consumers to spend more, supporting CRE demand.

To date, CRE has posed little risk to the financial sector. This is because the limited credit losses recognized so far have been easily absorbed. However, emerging risks could pressure the loan performance, causing issues for lenders and, if the severe, systemic financial risk for the U.S.

Changes in lessee and consumer preference could reduce long-term occupancy in certain CRE, such as office buildings and regional malls, resulting in lower cash flow and more difficulty in servicing debt. In addition, properties with shorter term leases such as hotels (nightly) or apartments (annually) can more rapidly adjust rents in reaction to inflation, but properties subject to long-term fixed rental rates have less rent flexibility.

Our analysis shows how these emerging risks to the CRE market could have a detrimental impact on CRE loan performance leading, and thus continued monitoring of the future performance of CRE is important for financial stability.