Focus
July 25, 2025 | 13:29
The Golden State Still Has Some Glitter
Economics
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Economics
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Economics
Economics
The Golden State Still Has Some GlitterScott Anderson, Ph.D, Michael Gregory, CFA and Priscilla Thiagamoorthy |
California’s economy has surpassed Japan’s, making it the fourth-largest in the world. In 2024, the Golden State’s nominal GDP topped $4 trillion for the first time and now only trails Germany, China and the entire United States, in US$ terms, according to the IMF. (Canada remains within the top 10, but at $2.2 trln, lags by quite a bit.) Last year, California’s real GDP growth punched in at 3.6%, the fastest among any of these countries (and ranked Top 10 among U.S. states). Although 2025 started on a much weaker note, we still see some shine left on the Golden State’s economic prospects. Below, we look at several factors impacting these prospects. GDP expanding, albeit at a slower pace |
After a burst of strength last year, California’s economy lost steam at the start of 2025. Real GDP contracted at an annualized 0.2% rate in Q1, the first quarterly decline in more than two years. Still, that was better than the national average of -0.5%. And the Q1 data were likely distorted. First, major wildfires temporarily disrupted consumer and business activity in January. Second, imports surged in the quarter as businesses proceeded to front-run potential hefty tariff increases (imports act as a drag on growth). That large upward swing more than offset front-loaded consumer spending and business investment. Notably, despite the Q1 contraction, California still ranked as the 15th best-performing state with 35 other jurisdictions seeing an even deeper decline (Chart 1). |
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Besides the perennial headwinds of high state taxes and an onerous regulatory environment, any rebound in the coming quarters will probably be restrained by federal government policies. Higher tariffs, more restrictive immigration policy (particularly via mass deportations) and hefty spending cuts (such as to Medicaid and by DOGE) could weigh a little heavier on the California economy compared to other states. Home to the nation’s two biggest seaports, the dampening of import volumes will ripple through the transportation and warehousing sectors. Federal tax cuts (the One Big Beautiful Bill Act’s other shoe) along with eventual Federal Reserve rate cuts (which we expect by this autumn) will counter these headwinds. And specific to the state, the information industry (information technology, software, and entertainment) has already made solid strides in the early innings of the AI revolution and is very likely to forge ahead in the coming quarters. Meanwhile, the hospitality sector—though still 10% below pre-pandemic levels—is likely to receive some support in the years ahead amid the 2026 FIFA World Cup, 2027 Super Bowl and 2028 Olympic Games. On balance, we are expecting California’s economic expansion to continue this year, but at just over 1%, it marks a notable downshift from the 3.6% rate in 2024 (Table 1). Growth should pick up slightly next year as trade policy stabilizes, and as lower Fed policy rates and federal tax cuts work their way through the economy. |
Labour market soft but stabilizingWhile the U.S. labour market remains resilient, California’s has been more sluggish. This is clearly visible in the state’s jobless rate which bottomed at a low 3.8% in August 2022 but has since moved up to 5.4% in June, a full 1.2 ppts above the U.S. average. On a brighter note, the jobless rate has held in the 5.3%-to-5.5% range for the past 13 months, mirroring the stability seen at the national level (Chart 2). The state’s payroll growth has also underperformed the national norm. After hitting a record high in December, California payrolls have dropped, at least a bit, in four of the past six months. Jobs are down a net 21k through June (-0.1%) losing 50k in Q1 (all three months dropped) before gaining 29k in Q2 (only June dropped). Meantime, headwinds in the labour market have grown stronger as the U.S. Administration steps up its protectionist trade policies and immigration raids. Undocumented workers make up 8% of the Golden State’s workforce, according to the University of California. That will have major impacts on agriculture, construction, and hospitality. Although labour market conditions remain soft in some industries, many other sectors continue to create new jobs. The healthcare sector, for example, remains a key pillar of support, adding more than 500k positions since pre-pandemic times. State and local government hiring has also been strong, despite policies to cut the federal workforce. Although employment growth looks to slow to 0.4% this year, from 0.7% in 2024, growth in 2026 is likely to pick up as the economy broadly improves. Population growth returnsCalifornia’s population increased in 2024, extending gains for a second straight year after the exodus that emerged during the pandemic (Chart 3). Last year, the population rose by more than 200k to hit 39.4 million. (For context, Canada’s population is at just over 41 million.) There are a couple of explanations for the nice turnaround. First, fewer people are now able to work remotely from other states and out-migration has slowed since the Covid peak. Second, legal immigration picked-up in 2024 especially for high-skilled tech workers, even as the crackdown on illegal migrants continues at full force. International migrants moving to California last year hit the highest in decades. Meantime, the number of Californians leaving the state fell to a net 240k, much less than the steep 478k outflow in 2021. Improving demographic conditions are expected to increase foot traffic in several key metro areas, shoring up retail trade, restaurants, commercial real estate and the housing market in 2026. |
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Housing outlookCalifornia’s housing market continues to rebalance from a sustained period of strong demand and a shortage of supply over the post-COVID period. A 20-bp decline in mortgage rates in June, and a greater availability of homes on the market, led to a rare 4.0% seasonally adjusted annualized increase in existing home sales, according to the California Association of Realtors, halting three consecutive months of decline. Still, housing demand has been relatively stagnant this year, with the state’s single-family existing home sales increasing only 0.2% year-to-date and dropping 0.3% from a year ago in June. We expect existing home sales at the end of the year to be around 5.0% lower than a year ago. |
Additional signs of weak California housing demand and increased housing supply abound. Active listings are 40% above year ago levels, a 68-month high. The median time-on-market increased to 24 days in June, the highest time-on-market for a June since 2016. At the same time, unsold inventory held at 3.8 months in June, the highest level for a June in California since 2011. So far, California home sellers have been reluctant to slash home prices, with median single-family home prices at $899,560—off just 0.1% from a year ago. California’s All-Transaction House Price Index hit an all-time record in Q1, more than 9.5 times the level in 1980 (Chart 4). But with available housing supply continuing to rise, we expect sellers to show a greater willingness to negotiate on price, concessions, and other terms. The proportion of homes closing above asking price has declined, signalling further home price declines could be ahead for the state. We forecast median single-family existing home prices will be off about 1.5% in December from the year before, even as the Fed starts cutting interest rates again. |
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Regionally, rapidly falling home prices in the Far North (down 5.9% from a year ago) and Central Coast (-3.9%) regions of the state appear to be attracting new buyers. Existing home sales have increased the most in these two regions of California with both seeing double-digit sales gains from a year ago. In comparison, housing demand in the far larger Southern California and the Bay Area remain stagnant with existing home sales rising a meagre 1.9% and 1.0% respectively from a year ago as home prices remain stubbornly stuck at much higher levels. Food for thoughtCalifornia’s agriculture sector might have a small share of the state’s economy, but it has a large national economic footprint. Unlike other high-ranking regions (which have just a few dominant commodities), California’s sector is remarkably diverse. The state supplies more than one-third of all vegetables consumed by Americans and more than three-quarters of fruits and nuts. And it’s also the nation’s largest exporter ($24.3 billion in 2023), led by tree nuts, dairy products, and wine. While the sector continues to struggle with water issues (cost, availability, and sustainability) and climate change, new risks are emerging from the Trump Administration’s trade and immigration policies. Agriculture is among the industries with the highest numbers of undocumented workers (along with construction and hospitality). |
Meanwhile, agricultural products tend to be among the first casualties in any trade war. For example, Canada has employed both counter-tariffs and non-tariff barriers on U.S. citrus fruit and wine. For many U.S. agriculture products, California is the dominant—if not the only—state exporter, and could be caught disproportionately in the middle of a trade war (Table 2). In the above case, California produces 72% of oranges (and products), 89% of lemons, and 86% of U.S. wine. However, there is a flip-side: to the extent tariff threats result in trade deals, the agreements often include commitments to buy more U.S. agriculture products or reduce the levies on them. On balance, despite the flip-side, California’s farmers now seem to have even more to worry about. Bottom Line: Despite strong—and possibly growing—headwinds, at both the state and national level, California’s economy is expected to continue expanding this year and see even stronger performance next year, maintaining its rank as the world’s fourth-largest economy. The rapid expansion and adoption of artificial intelligence is a very real bright spot for the state’s economic outlook. AI venture funding and investment is already a major driver of the Bay Area economy and new California companies are sprouting up and growing rapidly to meet the challenge. |
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