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Construction Spending Forecasts for 2020 Do Not Support Jobs Growth

1-31-20

A current article and several others, based on a sentiment survey, state that there will not be enough construction workers to support growing construction activity next year. I dispute that claim. 

Construction is in demand – but who’s going to do all the work?

I’ve been writing about the disparity in jobs growth exceeding construction activity growth for more than two years. Construction activity has NOT been increasing to support jobs growth.

Spend Sector Constant2017 monthly 2015-2021 1-31-20

2020 Construction Spending Increases, but Volume is Down

Expect Construction Jobs Growth to Slow in 2020

To Support Construction Jobs, We Need Volume

There are other construction forecasts that support my argument. It’s important to point out that my forecast is the HIGHEST for 2020. So, just keep in mind, if you consider any other forecast, the condition gets worse.

Seven of the eight firms that provided a forecast for the AIA Consensus Forecast are lower than Construction Analytics forecast for nonresidential work in 2020. AIA Consensus > marked slowdown for nonresidential building

ConstructConnect’s forecast is lower than my forecast for all sectors ConstructConnect’s Winter 2019-20 Put-In-Place Construction Forecasts

FMI’s forecast is lower for all sectors FMI U.S. Engineering and Construction Outlook: Third Quarter 2019 Report

Overall, Construction Analytics 2020 forecast shows a volume gain of 0.6%. Spending increase 4.6%, but average inflation is 4%. Therefore volume increases only 0.6%. That would support growth of about 50,000 jobs. Residential and Non-building Infrastructure show slight gains in 2020 but Nonresidential buildings volume is in it’s 4th year of decline.

ConstructConnect shows a total spending increase of 1.9% and FMI shows a total spending increase of 1%. Both show a slight gain in volume in at least one sector, but with expected inflation of around 4%, both would indicate an overall decline in volume and a decline in jobs.

Spending needs to increase greater than inflation to realize an increase in volume. If volume does not increase, there is no support to add jobs.

Summary of 2020 Construction Outlook

Construction Analytics 2020 Construction Economic Forecast – Jan 2020  (Excerpt from the complete economic report)

For the full report see 2020 Construction Economic Forecast – Jan 2020

 

Summary of 2020 Construction Outlook

Total of All construction spending in 2019 is forecast to decrease -0.2% to $1.305 trillion. For 2020, spending increases by 4.6% to $1.365 trillion.

Spend Forecast 2018-2022 1-21-20

Nonresidential Buildings construction spending is forecast to finish 2019 at $455 billion, level with 2018. For 2020 the forecast is a gain of 3% to $467 billion. Educational and Commercial/Retail held down gains in 2019. Office (which includes data centers) and Lodging gained 7% each. Office, Healthcare and Educational all support growth in 2020.

Residential construction spending forecast is down 5% to $521 billion in 2019 and up 6% to $552 billion in 2020. New starts are recovering from a 10% drop in the 1st half of 2019 and are now expected down only slightly for 2019 after the latest three-month average starts were the highest ever. Residential spending peaked in Q1 2018 and dropped 11% to a low in July 2019. Although spending has since recovered half of that drop, growth in 2019 slowed to less than inflation. Residential construction volume in 2019 dropped 8%, the largest volume decline in 10 years. 2020 volume is forecast to increase 2%.

Non-building Infrastructure construction spending is forecast to increase 7% to $329 billion in 2019 and 5% to $345 billion in 2020. Transportation spending gets strong growth from three years of record new starts. Half of all transportation spending in 2021 comes from projects that started in 2017-2019. Both Public Works and Highway starts have been increasing modestly to reach new highs in 2019. Non-building Infrastructure projects have the highest share of multi-billion dollar projects that spread spending out over longer duration.

Spend Sector 2015-2021 1-5-20

In July of the following year the spending data for the previous two years gets revised. Those revisions are always up, although some markets may increase while others decrease. So, even though the current forecast for 2019 spending is down -0.2% to $1.305 trillion, that will most likely increase to a net gain.

In October, Dodge Data forecast their 2019 construction starts to total $809 billion, down 1% from 2018. However, starts are always revised up in the following year. In just the last three years, nonresidential starts have been revised up by 7.5%/yr and residential starts by 2.4%/yr. I expect revisions will show 2019 starts increased by 3% to 4% over 2018. However, even with revisions, 2019 starts will post the slowest annual growth since 2011.

Dodge Data and Analytics new construction starts for November 2019 advanced to the highest seasonally adjusted annual rate ever, resulting in the three months Sep-Oct-Nov 2019 posting the highest 3-mo average ever, 10% higher than the total average for 2018.  Several long duration projects started, so a lot of the spending from these new starts will occur in 2021-2022.

Dodge is forecasting 2020 starts down 4%. This forecast includes only 1% to 2% growth in new starts for 2021-2022.

Starting backlog, which increased 5% leading into 2020 is currently at an all-time high, up 20% since 2017. 80% of all Nonresidential spending within the year will be generated from projects in starting backlog. More than 20% of all spending in 2020 is from projects that started more than 3 years ago. 

While a few markets will outperform in 2020 (transportation, public works, office), predicted cash flow (spending) from backlog is up only 1% to 2%. Long duration projects added to backlog and will spread spending out over the next few years. Current indications are that 2020 backlog will be up 4% for residential work, 6% for nonresidential buildings and 7% for infrastructure work.

  • Starts increased 8%/yr. in 2016 and 2017, but only 4% in 2018.
  • Starts are forecast to decline slightly in 2019 and 2020.
  • Spending increased 9%/yr. from 2012 to 2016, then slowed to 4%/yr. in 2017 and 2018.
  • Spending declined 1% in 2019 and is forecast up 4% for 2020 and 1% in 2021.
  • Backlog reaches a post-recession high in 2020, up 20% from 2017, up 100% from 2013.

Since early 2018, jobs have been increasing while construction volume is declining. A declining volume of work does not support jobs growth. When volume of work decreases, jobs should also decrease. If jobs increase, then it results in more workers to produce the same amount of work. In other words, productivity is declining. This could result in one or more of these outcomes:

  • Labor demand on hiring drives labor cost up by unexpected amounts.
  • New labor coming into the workforce has less experience, lowering productivity.
  • Contractors cannot meet schedules, extending project duration.
  • Contractors work overtime to meet schedules, adding cost.

All scenarios either extend project duration or drive up the cost of projects or both, which could lead to some unforeseen inflation.

General construction cost indices and input price indices that don’t track whole building final cost do not capture the full cost of inflation on construction projects. Residential and Nonresidential Buildings inflation indices developed by Construction Analytics are final cost selling price indices.

Nonresidential buildings inflation, after hitting 5% in both 2018 and 2019, is forecast for the next three years to fall from 4.4% to 3.8%, lower than the 4.5% average for the last 4 years.

Residential construction inflation in 2019 was only 3.6%. However, the average inflation for six years from 2013 to 2018 was 5.5%. It peaked at 8% in 2013 but dropped to 4.3% in 2018 and only 3.6% in 2019. Forecast residential inflation for the next three years is level at 3.8%.

Non-building infrastructure indices are so unique to the type of work that individual specific infrastructure indices must be used to adjust cost of work.

This link points to comprehensive coverage of the topic inflation. Click Here for Link to a 20-year Table of 25 Indices

This link points to articles related to the Construction Outlook for 2020. Click Here for Link to Construction Economic Outlook 2020

 

Construction Inflation 2020

1-28-20   Inflation excerpt from the complete economic report – Construction Analytics 2020 Construction Economic Forecast – Jan 2020

8-25-20 See also Pandemic #14 – Impact on Construction Inflation

Click Here for Link to a 20-year Table of 25 Indices

Construction Inflation

The level of construction activity has a direct influence on labor and material demand and margins and therefore on construction inflation.

Nonresidential buildings inflation, after hitting 5% in both 2018 and 2019, is forecast for the next three years to fall from 4.4% to 3.8%, lower than the 4.5% average for the last 4 years.

Residential construction inflation in 2019 was only 3.6%. However, the average inflation for six years from 2013 to 2018 was 5.5%. It peaked at 8% in 2013 but dropped to 4.3% in 2018 and only 3.6% in 2019. Forecast residential inflation for the next three years is level at 3.8%.

Nonresidential Buildings and Non-building Infrastructure backlog are both at all-time highs. 75% to 80% of all nonresidential spending within the year comes from starting backlog. Most spending for residential comes from new starts in the year.

2020 starting backlog is up 5.5% across all sectors. However, while a few markets will outperform in 2020 (transportation, public works, office), predicted cash flow (spending) from backlog is up only 1% to 2%. Long duration projects added to backlog and will spread spending out over the next few years.

Residential new construction starts in 2019 (number of units started) gained 4% over 2018. In 2018, starts dropped every quarter after Q1, but then increased every quarter in 2019 and closed out the 2nd half of 2019 at 9% higher than the average of the previous six quarters. New starts measured in dollars dropped slightly in 2019. Spending from new starts fell 5% in 2019 but is forecast up 6% for 2020. Residential construction volume (spending after inflation) in 2019 dropped 8%, the largest volume decline in 10 years. Volume in 2019 dropped to a 4-year low. A volume gain of 2% in 2020 leaves residential still at a 4-year low.

General construction cost indices and Input price indices that don’t track whole building final cost do not capture the full cost of inflation on construction projects.

To differentiate between Revenue and Volume you must use actual final cost indices, otherwise known as selling price indices, to properly adjust the cost of construction over time.

Selling Price is whole building actual final cost. Selling price indices track the final cost of construction, which includes, in addition to costs of labor and materials and sales/use taxes, general contractor and sub-contractor margins or overhead and profit.

Consumer Price Index (CPI), tracks changes in the prices paid by consumers for a representative basket of goods and services, including food, transportation, medical care, apparel, recreation, housing. This index in not related at all to construction and should not be used to adjust construction pricing.

Producer Price Index (PPI) for Construction Inputs is an example of a commonly referenced construction cost index that does not represent whole building costs. Engineering News Record Building Cost Index (ENRBCI) and RSMeans Cost Index are examples of commonly used indices that do not capture whole building cost.

Producer Price Index (PPI) Material Inputs (which excludes labor and margins) to new construction increased +4% in 2018 after a downward trend from +5% in 2011 led to decreased cost of -3% in 2015, the only negative cost for inputs in the past 20 years. Input costs to nonresidential structures in 2017+2018 average +4.3%, the highest in seven years. Infrastructure and industrial inputs were the highest, near 5%. But input costs for 2019 are coming in at less than +1%. Material inputs accounts for only a portion of the final cost of constructed buildings.

Materials price input costs in 2019 slowed to an annual rate of less than 1%.  

Labor input is currently experiencing cost increases. The National construction unemployment rate was recently posted below 4%, the lowest on record with data back to 2000.  The average has been below 5% for the last 18 months. During the previous expansion it hit a low average of 5%. During the recession it went as high as 25%. An unemployment rate this low signifies a tight labor market. This may cause contractors to pay premiums over and above normal wage increases to keep valued workers from leaving. Some premiums accelerate labor cost inflation but are not recorded in published wage data, so aren’t easily tracked. Lack of experienced workers and premiums to keep labor drive labor cost increases higher than wage growth.

Although many contractors report shortages due to labor demand, labor growth may slow due to a forecast 2019-2020 construction volume decline. We might see a jobs decline lag spending/volume decline.

When construction activity is increasing, total construction costs typically increase more rapidly than the net cost of labor and materials. In active markets overhead and profit margins increase in response to increased demand. These costs are captured only in Selling Price, or final cost indices.

Construction Analytics Building Cost Index, Turner Building Cost Index, Rider Levett Bucknall Cost Index and Mortenson Cost Index are all examples of whole building cost indices that measure final selling price (for nonresidential buildings only). The average annual growth for all these indices over the past five years is 4.7%/year. For the last two years, average nonresidential buildings inflation is 5.3%.

  • Long-term construction cost inflation is normally about double consumer price index (CPI).
  • Average long-term nonresidential buildings inflation excluding recession years is 4.2%.
  • Average long-term (30 years) nonresidential construction cost inflation is 3.5% even with any/all recession years included.
  • In times of rapid construction spending growth, nonresidential construction annual inflation averages about 8%. Residential has gone as high as 10%.
  • Nonresidential buildings inflation has average 3.7% since the Great Recession bottom in 2011. It has averaged 4.2% for the last 4 years.
  • Residential buildings inflation reached a post-recession high of 8.0% in 2013 but dropped to 3.4% in 2015. It has averaged 5.8% for the last 5 years.
  • Although inflation is affected by labor and material costs, a large part of the change in inflation is due to change in contractors/supplier margins.
  • When construction volume increases rapidly, margins increase rapidly.
  • Construction inflation can be very different from one major sector to the other and can vary from one market to another. It can even vary considerably from one material to another.

Residential construction inflation in 2019 was only 3.6%. However, the average inflation for six years from 2013 to 2018 was 5.5%. It peaked at 8% in 2013 but dropped to 4.3% in 2018 and only 3.6% in 2019. Residential construction volume in 2019 dropped 8%, the largest volume decline in 10 years. Typically, large declines in volume are accompanied by declines in inflation. Forecast residential inflation for the next three years is level at 3.8%.

A word about Hi-Rise Residential. Probably all of the core and shell and a large percent of interiors cost of a hi-rise residential building would remain the same whether the building was for residential or nonresidential use. This type of construction is totally dis-similar to low-rise residential, which in large part is stick-built single family homes. Therefore, use the residential cost index for single family but a more appropriate index to use for hi-rise residential construction is the nonresidential buildings cost index.

Nonresidential inflation, after hitting 5% in both 2018 and 2019, is forecast for the next three years to fall from 4.4% to 3.8%, lower than the 4.5% average for the last 4 years. Spending needs to grow at a minimum of 4.4%/yr. just to stay ahead of construction inflation, otherwise volume is declining. Spending slowed dramatically in 2019. However, new starts in 2018 and 2019 boosted backlog and 2020 spending will post the strongest gains in four years.

Several Nonresidential Buildings Final Cost Indices averaged over 5% per year for the last 2 years and over 4% per year for the last 5 years. Nonresidential buildings inflation totaled 22% in the last five years. Input indices that do not track whole building cost would indicate inflation for those five years at only 12%, much less than real final cost growth. For a $100 million project escalated over those five years, that’s a difference of $10 million, potentially underestimating cost.

Notice in this next plot how index growth is much less for ENR BCI and RSMeans, both input indices, than for all other selling price final cost indices. From 2010 to 2019, total final price inflation is 110/80 = 1.38 = +38%. Input cost indices total only 106/85 = 1.25 = +25%, missing a big portion of the cost growth over time.

 Nonresidential Buildings Selling Price Indices vs Input Indices

BCI 2010-2020 Firms 12-9-19

Non-building infrastructure indices are so unique to the type of work that individual specific infrastructure indices must be used to adjust cost of work. The FHWA highway index increased 17% from 2010 to 2014, stayed flat from 2015-2017, then increased 15% in 2018-2019. The IHS Pipeline and LNG indices increased 4% in 2019 but are still down 18% since 2014. Coal, gas, and wind power generation indices have gone up only 5% total since 2014. Refineries and petrochemical facilities dropped 10% from 2014 to 2016 but regained all of that by 2019. BurRec inflation for pumping plants and pipelines has averaged 2.5%/yr since 2011 and 3%/yr the last 3 years.

Anticipate 3% to 4% inflation for 2020 with the potential to go higher in rapidly expanding Infrastructure markets, such as pipeline or highway.  This link refers to Infrastructure Indices.

 Construction Analytics Building Cost Index

BCI 2005-2022 12-9-19

In the following plot, Construction Analytics Building Cost Index annual percent change for nonresidential buildings is plotted as a line against a bar chart of the range of all other nonresidential building inflation indices. Bars represent the predicted range of inflation from various sources with the solid line showing the composite final cost inflation. Note that although 2015 and 2016 have a low end of predicted inflation of less than 1%, the actual inflation is following a pattern of growth above 4%. The low end of the predicted range is almost always established by input costs (ENR BCI is plotted), while the upper end of the range and the actual cost are established by selling price indices.

 Construction Analytics Nonresidential Buildings Cost Index

vs Range of Input Indices

Inflation Range 1993-2020 plot vs ENR 1-18-20

As noted above, some reliable nonresidential selling price indexes have been over 4% since 2014. Currently most selling price indices are over 5% inflation since 2018.

 

Reference Inflation PCT 12-17-19

Every index as published has its own base year = 100, generally the year the index was first created, and they all vary. All indices here are converted to the same base year, 2017 = 100, for ease of comparison. No data is changed from the original published indices.

Reference Inflation INDEX 12-17-19

Non-building Infrastructure indices are far more market specific than any other type of index. Reference specific Infrastructure indices rather than any average.

A word about terminology: Inflation vs Escalation. These two words, Inflation and Escalation, both refer to the change in cost over time. However escalation is the term most often used in a construction cost estimate to represent anticipated future change, while more often the record of past cost changes is referred to as inflation. Keep it simple in discussions. No need to argue over the terminology, although this graphic might represent how most owners and estimators reference these two terms.

Inflation Escalation with text

This link points to comprehensive coverage of the topic inflation and is recommended reading. Click Here for Link to a 20-year Table of 25 Indices

Construction Volume Growth

For the last three years 2017-2018-2019, construction spending increased 8%, but inflation was 14%. Volume DECREASED 6%. BUT Jobs increased 11%. This ought to leave some people concerned. In this plot of monthly data since 2015, the shaded box shows the period of concern, 2017-2019.

Jobs vs Volume 2015-2020 monthly 1-10-20

And average job openings was 70,000+ the last two years. The only other time a divergence like this has ever occurred is the years leading into the last recession.

Spend-Volume-Esc-Jobs 1-10-20

In 2004-2005-2006, spending increased 30%, but inflation was 28%. Volume increased only 2%. BUT Jobs increased 13%. And job openings increased 20,000/yr. After 15 years of near balanced growth, by the end of 2006 jobs growth exceeded volume growth by 15%. In the next 10 years that disparity never corrected.

Jobs vs Volume 1991-2020 2006 deficit 11-19-19

We can reset the zero baseline to 2006 to see what has happened since 2006.

From 2007 through 2017, jobs and volume were balanced. Since then, the plot below for 2017-2019 looks exactly like 2004-2006 above. So this could raise concern, because,

Jobs vs Volume 1991-2020 2006 deficit reset 11-19-19

if we have just experienced a period in which jobs and volume have been nearly in balance (2007-2016), then if the volume of work is no longer increasing, there is no support for adding jobs. Remember, we started this period with 15% excess jobs, but after 10 years, we swallowed that lump.

This plot is the same data as the first plot, only annually vs monthly. This plot of annual data since 2011 shows not much out-of-balance from 2011 to 2017. The shaded box shows the period of concern, 2017-2019.

Jobs vs Volume 2011-2020 1-10-20

I had been predicting that jobs growth would slow and it has since Q4 2018. The plot below shows the average jobs growth rate for the preceding 12 months. The rate of jobs growth is now at a seven-year low. It could go lower. It probably should go lower, but nonresidential volume declines in 2020 while residential volume increases slightly, so there is a net growth. Non-building infrastructure work is expected to have strong spending  and volume in the next two years due to years of backlog growth.

Jobs trailing 12mo growth 2013-2020 1-10-20

In almost 30 years of data, only six years are way out of balance, 2017-18-19 and 2004-05-06. Current data sure does not indicate there is a lot of construction work out there in need of additional workers. And if jobs are still growing, it certainly does not indicate there should be an increase in job openings, because volume is decreasing. In fact, by all measures, it should indicate job losses.

1-17-20 Job Openings dropped from a recent average near 350,000 to 214,000 in Nov.

The deficit created in the last three years, a 17% disparity in jobs vs volume growth, is similar to the 15% deficit in 2006, preceded by a long period of jobs and volume growth in balance, then going quickly and hugely out-of-balance. That has major implications for labor cost inflation and productivity which could affect schedules, and that’s not the kind of inflation easily tracked in wages. But it’s real.

SEE ALSO

2020 Construction Spending Increases, but Volume is Down

Expect Construction Jobs Growth to Slow in 2020

To Support Construction Jobs, We Need Volume

Construction Jobs and JOLTS

 

 

 

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