Soft visitor arrivals, federal downsizing in the state and a slower-than-anticipated construction revival are muting growth prospects for Hawaii’s economy.

And while construction remains the most likely driver of expansion over the next several years, a mixed global economic environment and limited visitor industry capacity will keep a lid on future gains, according to a report from a group of University of Hawaii economists.

"Measured by visitors or job gains, the pace of expansion in Hawaii has decelerated to a lower level than we have seen in the recovery so far," the University of Hawaii Economic Research Organization said in a report due out Friday. "Simply put, none of the three legs of Hawaii’s growth — tourism, federal spending and construction — are delivering the goods this year. The first two are mostly done growing for now, given the lack of visitor industry headroom and the miserable federal budget outlook. We are still waiting on the third, but expect it to make a significant contribution over the next several years."

The pace of hiring in the construction sector has been limited this year, said UHERO, attributing the slowdown possibly to recent temporary changes in the excise tax treatment of subcontractors and the decline of photovoltaic work. The report said the value of total commitments to build rose just 11 percent statewide through August compared with 14 percent growth during the same period in 2013.

Neighbor islands have led the way with home building beginning to resume after several years of extremely weak conditions, the report said.

"The strongest growth has been on the Big Island, where the value of residential permits is up more than 140 percent in the year through August, overtaking the admittedly low total for all of last year," UHERO wrote.

Statewide, however, permit issuance has slowed in recent months because of deceleration in residential building on Oahu.

"Despite the large number of residential projects that are working their way through the pipeline, very few new projects have broken ground this year, especially over the past several months," the report said. "During the first half of 2014, only 513 new residential units were permitted on Oahu, nearly 60 percent fewer than were permitted during the same period in 2013. As a result, the value of permits issued for new residential structures on Oahu is down more than 45 percent through August."

Still, UHERO is optimistic about the construction sector despite the slowdown on Oahu.

"This does not change our view that significant increases in construction activity are coming, based on known plans for development and additional building that will be needed to meet the demands of a growing population, although we have pushed back by one year the anticipated peak of this construction cycle," UHERO wrote. "We expect construction job growth to accelerate from about 1 percent this year to roughly 6 percent in 2015-2016. After declining more than 2 percent this year, the inflation-adjusted contracting tax base will surge 15 percent next year."

UHERO is now projecting a 1.2 percent increase this year in visitor arrivals, which were up 0.1 percent through the first eight months of this year. In its August report, UHERO had forecast a 1.0 percent increase. But UHERO revised lower its 2015 forecast to 1.9 percent growth from 2.2 percent growth predicted in its earlier report.

"We expect marginally faster visitor industry growth in 2015," UHERO wrote. "Arrivals will rise by nearly 2 percent principally because of anticipated firming in the U.S. market. This reflects our view that the recent improvements in U.S. economic performance will continue into the new year. The Japanese market should recover most of the losses experienced this year, firming by 1 percent."

UHERO revised upward its forecast for gross domestic product, the broadest measure of economic activity, to 2.9 percent growth this year and 3.5 percent growth in 2015. Those were up from 2.5 percent and 3.3 percent, respectively, in UHERO’s August report.

Job growth was forecast to rise 1.4 percent this year, up from the previous forecast of 1.3 percent, but is seen only matching that 1.4 percent rate in 2015, down from the 1.5 percent growth that UHERO forecast in August. The report noted that federal government employment in the state has fallen by nearly 2,000 jobs since peaking in late 2012.

Most of the losses have been concentrated in civilian Department of Defense positions.

UHERO sees personal income rising 2.8 percent this year, matching its previous forecast, and rising 2.8 percent again in 2015, down from 3.1 percent in its earlier forecast.

The report said the state unemployment rate, which in September dropped to a six-year low of 4.2 percent, should average 4.4 percent this year and drop further to 4.1 percent next year.

Both numbers match the earlier forecast.

Inflation should remain benign and rise at a projected 1.3 percent this year before increasing by 2.1 percent in 2015, UHERO said. That is lower than the 1.8 percent and 2.9 percent respective forecasts in UHERO’s August report.

"Price pressures will mount, particularly as rising home prices drive up shelter costs in coming years," UHERO said.

However, the report noted, the recent drop in world oil prices, if sustained, would lead to lower inflation in Hawaii.

ECONOMIC OUTLOOK
Projected year-over-year percentage changes