Sequels, in movies and in life, are rarely as good as the original. Such is the case with the economy of 2006. After several very solid years of economic growth, we foresee a modest slowdown in economic activity with detached housing prices rising, on average, no more than 5 percent and attached housing flat or in some instances down.

The local economy has been driven by real estate (no surprise there) for more than a decade now. The multiplier effect of the construction industry is fairly remarkable. It’s 2.5 times the multiplier of manufacturing.

In San Diego, every time someone buys a new home or condominium, four resale homes are sold. And those five homes together generate an amazing revenue stream involving lenders, escrow, title, real estate agents, home improvement and other related services. It’s a massive machine, creating thousands of new jobs.

Last year marked another year of great success in the construction industry in San Diego, with the industry in 2005 providing more than 15,000 new homes for a growing San Diego population.

In 2006, there will be a modest slowdown of that delivery system, as the ability to provide moderate priced homes is restrained. It is likely that 2006 will be the first year in two decades when multifamily permits overtake single-family permits.

The last time that happened was in the mid-1980s when there was an enormous burst of garden apartment construction. This time around it is because of a burst of condominium construction. The change also relates to a declining availability of subdivision lots. In each of the past three years, the number of new single-family home permits has declined.

The residential permit volume in this cycle peaked in 2003 when 18,061 units were permitted. In 2004, it was 15,590 and in 2005 it will likely equal 2004.

In 2006, the output of residential construction will total 14,000 to 15,000 units, some 7,000 to 7,500 of which will be single family and the balance multifamily. Most of the multifamily units will be condominiums. As noted earlier, multifamily permits may outnumber single-family permits, a situation largely dependent on the permit activity in Downtown San Diego and the near-in suburbs.

In addition to the new construction activity, there will be another 2,500-plus apartment units converted to condominiums. That will reduce the countywide inventory of 360,000 apartments by less than 1 percent.

Jeopardizing Affordable Housing

We anticipate that the anti-conversion contingent in the city of San Diego will cause a gradual grinding halt to this most affordable housing category. The latest and most bizarre effort to kill off our only form of affordable sale housing is a lawsuit that contends that every conversion must honor the California Environmental Quality Act and have an environmental impact report. This suit completely ignores the California state law that says that all conversions are exempt from EIRs. Hopefully, our rational city council and no-nonsense new mayor will side with state law, but we fear their attention to matters involving the city budget and pension deficit could benefit the anti-conversion crowd.

Not to harp on the benefits of conversions to the community, but it does represent the only entry level opportunity remaining, aside from commuting to Riverside County, Tijuana or El Centro or Yuma. And the property tax benefits to the government coffers are substantial, often yielding a 400 percent increase in property tax from the original property owner to the ultimate conversion unit buyer.

The price of housing here continues to be a grave problem (unless, of course, you already own a home).

As of the third quarter of 2005, our MarketPointe Residential Trends survey shows that the base price of an average new single family home here was $861,000, up from $755,000, or $106,000 more than the year before. That’s a jump of 15 percent. If you don’t believe those numbers, go out this weekend and visit a few tracts.

New condominiums averaged $508,000 in the third quarter compared to $489,000 a year earlier. Blessedly, condominium conversions offered some relief from the onerous prices of new product. The typical conversion unit sold for $337,000, up a modest $27,000 from the year prior.

Resales Lull

In the resale market, there’s a bit of a lull, as buyers are taking a breather, waiting to see whether there is going to be a bust and an opportunity for a real killing. Those who are waiting for blood to run down the street will likely find that the blood is anemic.

What typically happens in this situation is there are more listings than the market can absorb in most areas of the county; hence, spirited negotiating and longer days on market. When the negotiating gets too spirited, homes are pulled off the market and the balance between supply and demand is re-established. This will happen by spring.

Folks who bought at the peak of the market last year may not be able to break even if they want to resell immediately. They may have to wait a few years. The best buys will be in large condominium projects, where there may be 20-30 identical units listed for sale at one time. There, the competition will drive down prices from their peaks by as much as 10 percent. Sorry. That’s just the way it is. No sense pussyfooting around it.

Overall resale activity in 2005 was strong, almost matching the 40,000 sales of 2004. Resale prices were up 7.1 percent on single-family homes and 9.3 percent on condominiums. The respective year-end average prices were $657,000 on single family and $446,000 on condominiums. Most of the price gains were in the early part of 2005. Looking to 2006, most folks think it will be almost flat.

At the upper end of the market, strong demand still exists for quality product as out-of-town buyers and locals with loose change see this as a good time to buy. The trouble with buying McMansions is that there are rarely exact comparables with which to establish value. San Diego is now a vacation home player in the world market and the world market is amazingly affluent and large. And we don’t have hurricanes, oppressing humidity or monster mosquitoes like that state in the southeast corner of the United States.

Apartment Equilibrium

Apartments deserve a mention here. The latest San Diego Apartment Association Survey shows the county vacancy rate is nearing 5 percent. In the business, that’s known as equilibrium. On any given day, there are more than 15,000 vacant apartments in all rent ranges throughout San Diego County. Rents have barely kept pace with inflation over the past three years.

Despite our continuing population growth, homebuying has kept apartments at a supply/demand balance. After all, 72 percent of conversion buyers came directly out of apartments in the county.

In 2006, the apartment market may tighten a little if new home sales slow down. The situation for renters has been eased by the production of a substantial number of new market-rate units in the 2004 and 2005. Slightly more than 1,000 units are now being completed and will join the inventory this year.

Let’s talk about jobs. 2006 is going to be a modest slowdown year for San Diego, both in terms of job gains and construction. Although 2005 enjoyed a large gain in employment – something in excess of 30,000 new civilian jobs – few of the gains were in the basic industries that drive the economy. The only basic job gains were in tourism, a category that is not known for munificent wages.

Of all wage and salary jobs (the ones that receive W-2’s), fully one-third resulted from gains in construction. We take the position that construction is a support industry, not a basic one and that it reacts to demand rather than generating it. Therefore, even though we are pleased that San Diego added more than 4,000 new jobs in construction in 2005, that figure is certain to abate, given the absence of gains in the basic job structure.

This modest slowdown in new job gains relates heavily to the possibility of rising interest rates, even though we suspect that long-term rates will only go up another 1/2 percent to 1 percent this year.

You could say the bloom is off the rose, but not really. The rose is still very much alive and with a little nourishment will prosper.

Alan N. Nevin is director of economic research with MarketPointe Realty Advisors (marketpointe.com), a consultancy providing real estate and demographic statistics, feasibility studies and litigation support to the California land use industry and legal professions. Nevin can be reached by e-mail at anevin@sandiegometro.com.