2-15-18, updated 3-10-18
When construction is very actively growing, 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.
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 properly adjust the cost of construction over time you must use actual final cost indices, otherwise known as selling price indices.
ENRBCI and ENRCCI are prefect examples of commonly used indices that DO NOT represent whole building costs, yet are widely used to adjust project costs. An estimator can get into trouble adjusting project costs if not using appropriate indices.
CPI, the Consumer Price Index, tracks changes in the prices paid by urban 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 never be used to adjust construction pricing. Historically, Construction Inflation is about double the CPI, but for the last 5 years construction inflation averages 3x the CPI.
Producer Price Index (PPI) Material Inputs costs to all construction (which exclude labor) are up +4.2% in 2017. More specific input costs for nonresidential structures in 2017 are up 4.3%. Infrastructure cost are up over 5% and single-family residential inputs are up 4.3%. But material inputs accounts for only a portion of the final cost of constructed buildings.
Labor input is currently experiencing cost increases. When there is a shortage of labor, contractors may pay a premium to keep their workers. Unemployment in construction is the lowest on record. The JOLTS ( Job Openings and Labor Turnover Survey) is at or near all-time highs. A tight labor market will keep labor costs climbing at the fastest rate in years.
Inflation can have a dramatic impact on the accuracy of a construction budget. Usually budgets are prepared from known current costs. If a budget is being developed for a project whose midpoint of construction costs is two years in the future, you must carry an appropriate inflation factor to represent the expected cost of the building at that time.
The level of construction activity has a direct influence on labor and material demand and margins and therefore on construction inflation. 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. In 2018 spending from nonresidential backlog will be up nearly 8%-10%. In the last three years nonresidential buildings spending from backlog is up more than 25%, non-building infrastructure up only 10%.
Most spending for residential comes from new starts. Residential new starts in Q1-2017 reached an 11 year high. For Q1-2018 starts are up another 4% over Q1-2017. Spending from new starts is up 100% in the last 6 years, 30% in the last 3 years.
Current indications are that 2019 backlog will be up 6%-8% across all sectors.
Taking into account the current (Jan 2018 12 mo) CPI of 2% and the most recent 5 years ratio of Construction Inflation to CPI, along with accelerated cost increases in labor and material inputs and the high level of activity in construction markets, I would consider the following forecasts for 2018 inflation as minimums with potential to see higher rates than forecast.
Residential construction saw a slowdown in inflation to only +3.5% in 2015. However, the average inflation for five years from 2013 to 2017 is 5.8%. It peaked at 8% in 2013. It climbed back over 5% for 2016 and reached 5.8% in 2017.
Anticipate residential construction inflation for 2018 at least 5% to 6%.
Nonresidential Buildings indices have averaged 4% to 4.5% over the last five years and all have reached over 5% in the last three years. Nonresidential buildings inflation totaled 18% in the last four years. My forecast shows nonresidential buildings spending in 2018 will reach the fastest rate of growth in three years, which historically has led to accelerated inflation.
Recent news of a steel tariff needs to be addressed as an added factor to inflation. In another article on this blog, (see steel cost increase), I calculated the 25% tariff on steel would cost nonresidential buildings 1%. Some Infrastructure could be much more, i.e., bridges 4-5%. Residential impact would be small. A 25% increase in mill steel could add 0.65% to final cost of building just for the structure. It adds 1.0% for all steel in a building. If your building is not a steel structure, steel still potentially adds 0.35%.
Anticipate construction inflation for nonresidential buildings during the next two years, excluding steel impact, of 5% to 5.5%, rather than the long-term growth average of 4%. Adjust for steel impact.
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, dropped 2% in 2015-2016, then increased 2% in 2017. Inflation for refineries and petrochemical facilities has dropped 5% in the last 4 years.
Input costs to infrastructure are down slightly from the post-recession highs, but most costs have increased in the last year. Input cost to Highways are up 4.7% and to the Power sector are up 5.8% in 2017. Work volume in Transportation and Pipeline projects is increasing rapidly in 2017 and 2018. Expect inputs in these markets to show large increases in 2018.
Infrastructure indices registered 2% to 4% gains in 2017. Anticipate a minimum of 3% to 4% inflation for 2018 with the potential to go higher in rapidly expanding markets. Tariff impact adds to this. Refer to Infrastructure Indices.
Watch for unexpected impacts from steel tariffs, potentially adding 5% to bridges. Also impacted, power industry, pipeline, towers, transportation.
- Long term construction cost inflation is normally about double consumer price inflation (CPI).
- Since 1993 but taking out 2 worst years of recession (-8% to -10% total for 2009-2010), the 20-year average inflation is 4.2%.
- Average long term (30 years) construction cost inflation is 3.5% even with any/all recession years included.
- In times of rapid construction spending growth, construction inflation averages about 8%.
- Nonresidential buildings inflation has average 3.7% since the 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/suppliers 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.
The two links below point to comprehensive coverage of the topic inflation and are recommended reading.
Articles Detailing 2018 Construction Outlook
Links will open in a new tab
These links point to articles here on this blog that summarize end-of-year data for 2017 and present projections for 2018.
Most Recently Published
2018 Starting Backlog & New Starts
2018 Spending Forecast
See pages 379-386 for indices
See page 387 for start of Housing
During the period including 2011 through 2017, we had record construction spending, up 50% in 5 years, moderate inflation reaching as high as 4.6% but averaging 3.8%, record construction volume growth (spending minus inflation), up 30% in 5 years and the the 2nd highest rate of jobs growth ever recorded.
Residential spending was up 90% in 5 years, but real residential volume up only 50%. Residential inflation, at 6%/year, was much higher than all construction. Jobs increased only 33%.
Construction added 1,339,000 jobs in the last 5 years. The only time in history that exceeded jobs growth like that was the period 1993-1999 with the highest 5-year growth ever of 1,483,000 jobs. That same 93-99 period had the previous highest spending and volume growth. 2004-2008 would have reached those lofty highs but the residential recession started in 2006 and by 2008 spending had already dropped 50%, offsetting the highest years of nonresidential growth ever posted.
The point made here is the period 2011-2017 shows spending and jobs at or near record growth. Although 2017 slowed, there is no widespread slowdown in volume or jobs growth.
This 2011-2017 plot of Construction Jobs Growth vs Construction Volume Growth seems to show there is no jobs shortage. In fact it shows jobs are growing slightly faster than volume. But that just does not sit well with survey data from contractors complaining of jobs shortages. So how is that explained?
There have been cries from some quarters, including this blog, that the answer lies in declining productivity. There seems to be plenty of workers, but it now takes more workers to do the same job that took fewer in the past. As we will see, that is part of the answer, but doesn’t explain why some contractors need to fill vacant positions. To find data that might answer that question about a jobs shortage we must dig a little deeper.
The total jobs vs volume picture masks what is going on in the three major sectors, Residential, Nonresidential Buildings and Non-Building Infrastructure. A breakout of jobs and volume growth by sector helps identify the imbalances and helps explain construction worker shortages. It shows the residential sector at a jobs deficit.
7 years 2011-2017 – % Jobs growth vs % Volume growth
- Totals All Construction Jobs +31%, Volume +30%
- Nonres Bldgs Jobs +27%, Volume +19%
- Nonbldg Hvy Engr Jobs +21%, Volume +12%
- Residential Jobs +40%, Volume +54%
The totals show jobs and volume almost equal, data that supports the 2011-2017 totals plot above and what we would expect in a balanced market. But severe imbalances show up by sector. Both nonresidential sectors jobs growth far outpaced volume growth. Residential stands out with a huge deficit, with jobs way below volume growth.
Just looking at 2017 growth shows the most recent imbalances.
2017 % jobs growth vs % volume growth
- Totals All Construction Jobs +3.4% Volume -0.8%
- Nonres Bldgs Jobs +3.3% Volume -1.6%
- Nonbldg Hvy Engr Jobs +1.7% Volume -6.0%
- Residential Jobs +3.5% Volume +4.2%
Census recently released initial construction spending for 2017, totaling $1.230 trillion, up only 3.8% from 2016. What is somewhat disconcerting is that 2017 construction spending initial reports growth of 3.8% do not even match the total inflation growth of 4.6% for 2017, indicating a -0.8% volume decline. However, as does always occur, I’m expecting upward revisions (estimated +2%) to 2017$ construction spending on 7-1-18. If we don’t get an upward revision, then 2017 will go down as the largest productivity decline since recession. Even if we do get +2% upward revision to 2017$ spending, 2017 volume would be revised up to +1.2% and jobs growth will still exceed volume growth.
Let’s look a little deeper at the data within the sectors. Each chart is set to zero at Jan 2011 so we can see the change from that point, the low point of the recession, until today. At the bottom of each chart is shown a Balance at start. That represents the cumulative surplus or deficit of jobs growth compared to volume growth for the previous 10 years prior to Jan 2011. If there are no changes in productivity, or no surplus or deficit to counteract, then jobs should grow at the same pace as volume.
There are slight differences between the data in the three sector charts and the total construction chart. The sector charts use annual avg data and the totals chart uses actual monthly data.
Nonresidential Buildings and Non-building Infrastructure, over seven years and the most recent three years, show jobs increasing far more rapidly than volume. Nonresidential Buildings started 2011 with a surplus of jobs after the recession, but Infrastructure started 2011 with a substantial deficit of jobs. Only in this last year did Infrastructure jobs reach long-term balance with work volume.
Nonresidential Buildings started 2011 with a 13% surplus of jobs and more than doubled it in the seven years following. I’ve suggested before it could be that a part of this surplus is due to companies hiring to meet revenue growth, and not inflation adjusted volume. Although nonresidential spending actually increased 43%, volume since 2010 has increased only 12%. Since 2010 there has been 30% nonresidential buildings inflation, which adds zero to volume growth and zero need for new jobs. A 43% increase in spending could lead companies to erroneously act to staff up to meet spending, or revenue, more than needed for the 12% volume increase.
This plot for residential work shows from 2011 to the end of 2017, we’ve experienced a 20% growth deficit in jobs. How many residential jobs does this 20% growth deficit represent? From Jan 2011 through Dec 2017, residential jobs increased from approximately 2,000,000 to 2,700,000. So the base on which the % growth increased over that time is calculated on 2,000,000. An additional 20% growth would be a maximum of 400,000 more jobs needed to offset the seven year deficit. But what about the imbalances that existed when we started the period?
During the residential recession from just 2005 through 2010, residential volume declined by 55%, but jobs were reduced by only 38%. For the entire period 2001-2010, total volume of work declined by 14% more than jobs were reduced. Some of the surplus jobs get absorbed into workforce productivity losses and some remain available to increase workload. It’s impossible to tell how much of that labor force would be available to absorb future work, so for purposes of this analysis an estimate of at least 5% seems not unreasonable. That would mean for 2011-2017, instead of a need for an additional 20% more jobs, the need could be reduced by 5% or 100,000 jobs.
This analysis shows a current deficit of 300,000 to 400,000 residential construction jobs. While it does also show nonresidential buildings jobs far exceed the workload and there are more than enough surplus jobs to offset the residential deficit, there would be several questions of how transferable jobs might be between sectors.
- Are there highly technical specialty jobs in Nonresidential Buildings that would not be transferable to Residential?
- What is the incidence of specialty workers engaging in work across sectors? i.e., job is counted in one sector but working in another sector.
- What has been the impact of losing immigrants from the construction workforce?
- Is the ratio of immigrant workers in Residential much higher than Nonresidential?
- Is the pay more attractive in Nonresidential construction?
- What, if any, percentage of the Residential workforce is not being counted? Day labor?
I think most of these would have a more negative impact on Residential jobs. However, there is some possibility that the overall deficit may not be quite as high as available data show (points 2 and 6). And there is always the possibility that we’ve crossed a threshold that has led to new gains in productivity, although to some extent, the stark differences between Residential and Nonresidential Buildings data might counter that proposition.
These two following report references both document that there is a large unaccounted for shadow workforce in construction. This workforce is probably mostly residential.
Unemployment and productivity includes only jobs counted in the official U.S. Census Bureau of Labor Statistics (BLS) jobs report. Both these reports document a large, unaccounted for shadow workforce in construction. By some accounts, 40% or more of the construction workforce in California and Texas are immigrant workers. Immigrants may comprise between 14% and 22% of the total construction workforce. It is not clear how many within that total may or may not be included in the U.S. Census BLS jobs report. However, the totals are significant enough that they would alter some of the results commonly reported.
The best way to see the implications that the available data do show is to look at productivity. The simplest presentation of productivity measures the total volume of work completed divided by the number of workers needed to put the volume of work in place, or $Put-in-Place per worker. In this case, $ spending is adjusted for inflation to get a measure of constant $ volume, and jobs are adjusted for hours worked.
As the Residential jobs deficit increases vs workload, this plot shows that $PIP is increasing. That makes sense. The workload continues to increase and the jobs growth is lagging, so the $PIP per worker goes up. For Nonresidential Buildings, the rate of hiring is exceeding the rate of new volume and therefore the $PIP is declining.
In boom times, residential construction adds between 150,000 and 170,000 jobs per year and has only twice since 1993 added 200,000 jobs per year. In the most recent several years expansion, residential has reached a high of 156,000 jobs in one year but has averaged 130,000 per year over 5 years. So it’s pretty unlikely that we are about to start adding residential construction jobs at a continuous rate of 200,000+ jobs per year.
If residential jobs growth were to increase by 50,000 jobs per year over and above current average growth, it would take 6 to 8 years to wipe out the jobs deficit in residential construction.
This problem is not going away anytime soon.
For more history on jobs growth see Is There a Construction Jobs Shortage?
For more on the imbalances of Res and Nonres jobs see A Harder Pill To Swallow!
For some hypotheses as to why nonresidential imbalances continue to increase see Construction Spending May 2017 – Behind The Headlines
1-26-18 updated 3-5-18
Dodge Data posted December construction starts on 1-25-18, showing total starts increased 3% from 2016. However, this compares unadjusted 2017 starts to upwardly revised 2016 starts. Starts are always revised upward in the following year. I expect revisions will show 2017 starts increased by more than 6% over 2016. January starts, released 2-22-18 dropped 2% from December, but Residential starts hit the highest SAAR$ in 11 years and total starts SAAR$ went over $725 billion for 6th time in the last year and the only times since 2007.
Total starting backlog for 2018, currently at an all-time high, has increased on average 10%/year the last three years. 80% of all Nonresidential spending within the year will be generated from projects in starting backlog.
Total All 2018 construction spending is projected to increase 8% to $1.330 trillion.
Spending measured in current 2018$ will reach an all-time high, however, measured more appropriately in constant inflation adjusted dollars, will still come in 14% below the 2005 high. When comparing inflation adjusted constant dollars, 2018 spending is still lower than all years from 1998 through 2007.
In constant inflation adjusted dollars, which more closely reflects volume, 2018 Infrastructure spending will reach a new high but nonresidential buildings is still 4-5 years away from a new high and residential spending is 6-8 years from a new high.
Read more about Constant Dollar Construction Growth
Non-building Infrastructure starts in 2017 are down 2%. However, we can expect post-year revisions to infrastructure starts. I expect, when all revisions are posted, that 2017 will show infrastructure starts increased a few percent from 2016. Starts peaked in 2015 and are still near that high-point. 2018 starting backlog is the highest ever, up 10%+ each of the last 3 years. Spending reached an all-time high in 2015 and stayed within 0.3% of that high for 2016. Although 2017 shows a spending drop of 3.6%, spending is also prone to large upward revisions, particularly in Power, the largest market in Infrastructure. Starting backlog is up 25% in the last two years. Spending for 2018 is projected to increase 8% to an all-time high.
Transportation terminals 2017 new starts jumped 120%. Rail project starts increased more than 100%. Starting backlog for all transportation work, including terminals, runways, rail and dock work is the highest ever, up 80% from 2017, up 100% in the last two years. Spending has been within few % of the 2015 all-time high for 4 years. Spending is projected to increase 20-25%/year for the next two years.
Power plant new starts are down for the 2nd year but had hit an all-time high in 2015, up nearly 150% from 2014. Pipeline starts were up more than 125% in each of the past two years. Starting backlog for all power projects has nearly doubled in the last three years. Spending is projected to increase 5% and 7% in 2018 and 2019.
Highway spending is not projected to change by much, up only 2% in 2018, but it has been within a few percent of the all-time high for the last three years. Backlog from new starts has increased on average 6%/year for the last four years.
Nonresidential Buildings new construction starts in 2017 are up 7%. When all revisions are in, I expect that to climb over to 10%. Total starts for the last 6 months are 10% higher than any time since 2007. Starts are up 60% in four years. 2018 starting backlog is the highest ever, 10% above 2008, up 15% from 2017. Spending for 2018 is projected to increase 8% to 9%.
Office new starts hit an all-time high in 2016 and just missed surpassing that mark in 2017. Starts increased on average 22%/year from 2013 through 2016, but 2017 starts dropped 2%. Starting backlog increased dramatically during that 2013-2016 growth period and backlog is up 50% in the last two years. Spending followed with three years of growth over 20%/year from 2014 through 2016. The 3% spending growth currently recorded for 2017 is an unexplained anomaly. All other data indicates 2017 spending should have followed the pattern set in 2014-2016. Spending in 2018 is forecast to climb 8% and 2019 could increase 12%.
Educational new starts hit an eight year high in 2016 and increased another 6% in 2017. Total new construction starts for the last 6 months are 13% higher than any other 6-month total since 2008. Starting backlog has increased 10%/year for the last three years. The last three years we’ve seen spending increases of 6%, 5% and 3%. For 2018, spending is projected to increase 14%, the strongest growth since 2007.
Healthcare starts jumped 13% in 2016, the first significant increase in nearly 10 years. 2017 starts maintained even level with 2016. Coming into 2018, starting backlog is up 16% over the past two years, a sign for slow moderate growth. 2017 is the first time in 5 years Healthcare spending increased, up 4.3%. For 2018, spending is projected to increase 4%.
Manufacturing posted several very large project starts in 2017, increasing total starts 20% over 2016. This increased starting backlog 8% for 2018. Although still well below the banner years of 2015 and 2016, spending is projected to increase 12% in 2018 and 10% in 2019.
Amusement/Recreation new starts increased only 5% in 2017, but that follows a 30% increase in 2016, to reach a new high in 2017. New construction starts for the last 6 months is the highest 6-month total new starts ever recorded, 1/3rd higher than any time in last 10 years. This will help drive Amuse/Rec spending to double digit growth next two years. Starting backlog has doubled from 2014 to 2018. Spending increased only 5% in 2017 but spending is up 40% in the last 3 years, also reaching a new high in 2017. Spending is forecast to increase 20% for 2018 and 15% in 2019.
This spending category includes sports stadiums which by some accounts may fall 40% in 2018, but that is hard to envision, considering the record new starts over the last 6 months. Sports stadiums is 1/3rd of Amuse/Rec so that would lower my forecast by about 10%. I’m sticking with my forecast.
Lodging experienced six consecutive years of massive growth in starts and spending after losing 75% of its pre-recession market. Starts grew 30%/year from 2011 through 2016. In 2017 starts posted a decline of 5%. Spending averaged 25% growth from 2012 through 2016, but posted only 7% growth in 2017. Backlog is still up slightly to start 2018. Spending is projected to come in at 8% growth for 2018. But backlog drops off 15% for 2019 and spending is expected to follow suit.
Commercial construction is being supported by new starts for warehouse construction which have increased seven consecutive years. In 2010 warehouse construction was only 20% of this market. From 2010, stores grew 50% to a peak in 2015, but warehouses grew 500% to peak in 2017 and are now 50% of the total market. Warehouses are increasing and stores are declining. In 2018, warehouses will make up 60% of the market. Total commercial starts for 2018 will remain equal to 2017 and 2016. The years of big backlog growth occurred from 2012 to 2017. Backlog remains constant from 2017 to 2018 and declines slightly in 2019. After 6 years of spending growth averaging more than 12%/year, spending will increase by only 4% in 2018 and 1% in 2019.
Public share of new construction starts are up only 10% in 3 years. But due to long duration job types, 2018 starting backlog is up 30% in the last 3 years. In 2018, 40% of all spending comes from jobs that started before 2017. Leading 2018 spending growth are Educational and Transportation with a combined total forecast 20% growth. Expect 2018 public spending to increase 6% to 8%, the best growth in 10 years.
Residential spending is more dependent on new starts within the most recent 12 months than on backlog from previous starts. New construction starts for January 2018 are the highest in 11 years. Total starts for the last 6 months are the highest since 2006. Residential starts in 2018 are projected to increase 7% over 2017, almost all of that coming from new single family starts. Residential spending in 2018 is projected to increase only 6% after five years of increases over 10%.
In What Category is That Construction Cost? explains where some specific costs are carried, which may vary between sources. Take particular note of Transportation, Office and Commercial.
Starts Trends Construction Forecast Fall 2017 for a much more thorough handling of the starts forecast.
The Producer Price Index (PPI) for material inputs to construction gives us an indication whether costs for material inputs are going up or down. The PPI tracks producers’ cost to produce the product and supply finished products to retailers or contractors. However, that is far from the total cost from the contractor.
A good example is steel. The producer price for steel from the mill might be $750/ton for long beams and columns. The only increases captured at the producer level might be the changes in cost for raw material, energy to manufacture and the producers labor and markup. But the structural steel contractor is then responsible for delivery to shop, detailing, shop fabrication, transport to construction site, load and unload, cranes and welding equipment needed to install, installation crews and finally overhead and profit accounting for at least eight more points of potential cost change. Finally the steel subcontractor must then assess the market conditions, whether tight or favorable to higher profits, to adjust the bid price or selling price. The final cost of steel installed could be $3000/ton.
The PPI for Construction Inputs IS NOT an indicator of construction inflation. It does not represent the selling price, nor does it give any indication of the trend, up or down, of selling price.
In 2009 PPI for inputs was flat but construction inflation, as measured by final cost of buildings, was down 8% to 10%. In 2010, the PPI for construction inputs was up 5.3% but the selling price was flat. Construction inflation, based on several decades of trends, is approximately double consumer inflation. However, from mid-2009 to late 2012, that long-term trend did not hold up. During that period, PPI ranged from 0% to +6.8%, but construction inflation/deflation ranged from -10% to +2.3%, lower than PPI for all four years, something which seldom occurs. Construction inflation/deflation was primarily influenced by depressed bid margins, which had been driven lower due to diminished work volume.
The following table shows the differences between the PPI Inputs from 2011 to 2017 and the actual inflation for the major construction sectors. This table shows clearly that PPI Inputs and Inflation not only can vary widely but also may not even move in the same direction.
The PPI tables published by the Bureau of Labor Statistics do include several line items that represent Final Trades Cost or Whole Building Cost. Those PPI items don’t give us any details about the producer price or retail price of the materials used, but they do include all of the contractors costs incurred, including markups, on the final product delivered to the consumer, the building owner. I would note however that those line items in the PPI almost always show lower inflation than final Selling Price inflation indices developed separately from the PPI. Follow this link to table of inflation values which includes the PPI final cost for trades and buildings.
Construction Managers responsible for working with the client to manage project cost, part of which includes preparing a full building cost estimate, should not rely on PPI values as an indication of inflation. Selling price inflation indices are more appropriate indices to use to adjust project costs.
It is always important to carry the proper value for cost inflation. Whether adjusting the cost of a recently built project to predict what it might cost to build a similar project in the near future, or answering a client question, “What will it cost if I delay my project start?”, the proper value for inflation (which differs by sector and differs every year) can make or break your estimate.
Contractors responsible for a particular building material, although the PPI Inputs will not track market conditions sale prices from producer to the contractor, can get some indication of whether material prices are rising or falling. Contractors should be aware of PPI trends to interpret the data throughout the year.
PPI TRENDS HELP TO INTERPRET THE DATA
- 60% of the time, the highest increase of the year in the PPI is in the first quarter.
- 75% of the time, two-thirds of the annual increase occured in the first six months.
- In 25 years, the highest increase for the year has never been in Q4.
- 60% of the time, the lowest increase of the year in the PPI is in Q4.
- 50% of the time, Q4 is negative, yet in 25 years the PPI was negative only four times.
So when you see monthly news reports from the industry exclaiming, “PPI is up strong for Q1” or “PPI dropped in the 4th Qtr.” it helps to have an understanding that this may not be unusual at all and instead may be the norm.
I’ve read several articles recently describing, Why 2018 could be a boom year for construction spending. Several reasons being given to support a potential boom, when we look a little deeper, actually may not be good indicators at all to predict the trend for a strong year in 2018. In my Fall Forecast I do predict 8% growth in 2018 construction spending, but let’s take a look at what gets us there.
Data that doesn’t tell us much about the future trend in construction spending.
Jobs increased in 2017 up 35% over 2016. In 2017 construction added 210,000 jobs, growth of 35% over 2016, but in 2016 jobs growth decreased by 55% from 2015. 2016 growth was the lowest in 5yrs. In 2013 jobs growth increased by 85% and in 2014 by 71%, but in 2015 and 2016 jobs growth slowed. Yet 2015 was one of the best construction spending years on record. And in 2017, jobs growth increased over 2016 but spending growth slowed. The direction of jobs growth is not an indicator of the future trend in spending.
Nov 2017 spending was higher than expected, and YTD is up 4.2%. This is a slippery slope. Actually we won’t know any particular monthly spending until several months after the initial release. All monthly spending values are subject to revision three times after initial release. However, residential spending is higher than expected for the YTD and nonresidential buildings spending is below expectations for YTD. But more importantly, construction spending normally fluctuates. For instance, in the 2nd half of 2015, spending was down 4 out of 6 months, lower than forecast three times, posting a total decline of 2.5%. Yet 2015 finished the year up 10%. Then, in the 1st half of 2016, spending was up 5 out of 6 months, far exceeding forecast 3 times, posting a total increase of 6% in 6 months. 2016 finished up 6.5% for the year. Neither half performance predicted final results within the year or the forecast for the future. Furthermore, after inflation, 2017 spending is currently flat with 2016$, so all we are seeing in the 4.5% spending growth in 2017 is inflation. Current and past spending is not an indicator of the future trend in spending.
What data does give an indication of the future trend in construction spending?
Construction Starts (Dodge Data & Analytics DDA), Backlog, Cash flow from Starts, the Architectural Billings Index (ABI), The Dodge Momentum Index (DMI) and New Residential Permits and # of Units Construction Starts all give an indication of the future trend in spending.
Residential Permits and # of new units started gives a fairly immediate indication of residential activity. The ABI gives an indication of nonresidential building to start construction about 9 months out and the DMI about 12 months out. The ABI and DMI give some indication as to whether future starts will increase or decrease. DDA Starts give an indication of the percent growth in future work, but not when the spending will occur, so cannot be used directly to predict spending. A good example is the new start for airport terminal work recorded as a new start in 2017 at $4 billion. But it may take 5 or 6 years to complete that $4 billion project and only cash flow will show the impact on spending.
Care must be taken to use Starts data properly. It is regularly misinterpreted in common industry forecasting articles. Starts dollar values represent a survey of about 50% to 60% of industry activity, therefore Starts dollar values cannot ever be used directly to indicate spending. Also, Starts do not directly indicate changes in spending per month or per year. Only by including an expected duration for all Starts and producing a forecast Cash Flow from Starts data can the expected pattern of spending be developed. Finally, it is the rate of change in Starts Cash Flows that gives an indication of the rate of change in spending.
Cash flow is the best indicator of how much and when spending will occur. Cash flow from DDA starts gives a prediction over time of how spending from each month of previous starts will occur from all projects in backlog. Cash flow totals of all jobs can vary considerably from month to month, are not only driven by new jobs starting but also old jobs ending, and are heavily dependent on the type, size and duration of jobs.
Of course, data highlighting demand, occupancy rates, labor and material trends and other economic factors affecting construction trends all weigh into determining future spending expectations. However, for nonresidential buildings and infrastructure approximately 75% to 80% of all spending within the year comes from starting backlog. Most economic factors that will have an affect on spending within the year are already captured in projects that have started and are in current backlog. On the other hand, new residential starts are more important. 70% of all residential spending in the year comes from new starts.
The following trend predictions are developed based on using this outline.
3-15-18 see also 2018 Construction Spending Forecast – Mar 2018
Total construction spending in 2017 will reach $1,236 billion, an increase of 4.2% over 2016. Residential spending is above 10% growth for the 5th consecutive year.
Year-to-date construction spending growth through October is 4.1%.
Residential leads construction spending growth in 2017 for the seventh consecutive year, up 10.6%. My Nonresidential Buildings forecast has been lowered since July but finishes the year up 2.8%. Only Non-building Infrastructure will not improve over 2016, down 3.7% for the year. However, Non-building Infrastructure has been at an all-time high for the previous two years.
This forecast is down slightly since July due to reductions in both nonresidential buildings and non-building infrastructure. Educational, Office, Power and Highway, four of the five largest markets which together make up half of all nonresidential spending, were all lowered. Some of these markets are prone to very large post-annual upward revisions and that has the potential to add to 2017 spending when those revisions are released in July 2018. In the July 2017 revisions, Power spending for 2016 was revised up by 10%.
History shows spending has been revised up 51 times in the last 55 months. I wouldn’t be surprised to see future revisions smooth out spending in unusually low periods (April and July) and increase total 2017 spending above this forecast. I suspect revisions in July 2018 may show 2017 spending as high as $1,250 billion. The average post-annual total spending revision for the last five years is +2.3%. The total revision to 2016 was only 2.2%.
None of the spending detailed in this analysis includes any projections of potential work from future infrastructure stimulus.
Total construction spending in 2018 is currently forecast to reach $1,334 billion, an increase of 8.0% over 2017. For the first time since pre-recession, Non-building Infrastructure will lead all spending with potential to increase by 10% growth over 2017.
Non-building Infrastructure is forecast to lead 2018 spending with an increase of 10.2% due to very large projects in Power and Transportation. Nonresidential Buildings growth is strong for 2018, forecast up 9.3%. Residential spending in 2018 slows to only 5.7% growth after six years averaging 13%/year.
Total spending will reach a new high in 2018 for the third consecutive year. However, in constant $ adjusted for inflation, spending is just back to the level of 2008. The all-time constant $ high was reached in 2005. Adjusted for inflation, 2018 will still be 12% below that level. At current rates of growth, we would not eclipse the previous high before 2022.
Growth of 8% in 2018 or $100 billion in construction spending demands a few words on jobs growth. Construction requires about 5000 workers for every added $1 billion in construction volume. Construction jobs have never increased by 500,000 in one year. However, $100 billion in added spending is not the same as $100 billion in volume, and jobs grow based on volume. Although spending will increase 8%, construction inflation has been hovering near 4.5% to 5% for the last five years. Real volume growth in 2018 after inflation is expected to be just over 3% or $40 billion. That would mean the need, if there are no changes in productivity, is to add about 200,000 additional workers in 2018, a rate of jobs growth that is well within reach since that is below the average jobs growth for the last seven years.
Residential Buildings Spending
Total Residential spending in 2017 will finish at $523 billion, up 10.6% from 2016. Residential spending is above 10% growth for the 5th consecutive year.
Residential spending was expected to dip between May and October due to a low volume of work contributed from starts cash flows. The actual data shows, after reaching a seasonally adjusted annual rate (saar) of $536 billion in March, the high for the year, spending dropped 3% to 4% to as low as $515 billion saar three times and has averaged only $520 billion saar from April through October. New starts in Q1’17 reached an 11-year high, so I expect the rate of spending to increase at year end. Residential work will close out the year with 10.6% growth, the 5th consecutive year over 10%. Average growth the last six years is 13%/year.
Residential spending is 50% single family, 13% multi-family and 37% improvements.
Residential Improvements has posted 18% growth year-to-date. Single Family spending is up 9% while multi-family is up only 4%. That is compared to 2016 when improvements for the year finished up 10%, SF up 4% and MF up 5%. Census does not include flood damage repairs in improvements but does include full flood damaged structure replacements in improvements.
Total residential spending in 2018 slows to a forecast of $553 billion, only 5.7% growth over 2017.
Due to the shorter duration of projects, nearly 70% of residential spending within the year is generated from new starts. Unlike Nonresidential, backlog does not contribute nearly as much to Residential spending within the year. New Residential starts in Q1’17 reached an 11-year high. Residential starts are at a post-recession high.
Residential spending will reach a 12-year high in 2018. Adjusted for inflation, all years from 1996 through 2007 were higher. Inflation adjusted spending is still 30% below the all-time high reached in 2005.
Nonresidential Buildings Spending
Total Nonresidential Buildings spending in 2017 will come in at $420 billion, up only 2.8% from 2016.
Commercial/Retail is expected to finish the year with +13% growth and Lodging +9%. An unexplained surprise was Office, which by early indicators was predicted to show large gains in spending. Two independent sources reported new office starts in 2016 up 25% to 30%. Starting backlog coming into 2017 was near or at an all-time high. Spending was forecast to jumped at least 20% in 2017. Instead, spending posted declines from May to September and is now forecast to finish with only a 4% gain. This market accounts for the single largest miss in my forecast posted in Feb 2017.
The only major nonresidential building in decline this year is Manufacturing. Manufacturing spending was expected to fall in 2017 after peaking in 2015 from massive growth in new starts in 2014. Spending stayed close to that level in 2016. Based on cash flows from starts, spending was expected to decline in 14 of the last 18 months. It declined in 11 of those months. We are at the point of turn-around with only one monthly decline predicted in the next three months and no spending declines expected next year. For 2017, Manufacturing new starts are up 35%.
Nonresidential Buildings starts in the six months from Aug 2016 to Jan 2017 posted the (then) highest amount of new starts since Jan-Jun 2008, also the year Nonresidential Buildings spending peaked. Then new starts in the six months Apr-Sep 2017 just surpassed both those previous peak highs.
Nonresidential Buildings 2018 starting backlog is 50% higher than at the start of 2014, the beginning of the current growth cycle. Starting backlog has increased for five years at an average 10%/year. Spending from starting backlog, up 10% in 2018, increased for five years at an average 9%/year.
Total nonresidential buildings spending in 2018 is forecast to reach $458 billion, an increase of 9.3% over 2017. Office, educational and manufacturing make up 70% of the growth.
Nonresidential Buildings will reach a new high for spending in 2018, surpassing the previous 2008 high. However, adjusted for inflation, spending is 18% below the all-time high reached in 2000.
Non-building Infrastructure Spending
Total non-building infrastructure spending in 2017 drops to $293 billion, down 3.7% from 2016.
Non-building Infrastructure spending, always the most volatile sector, dropped to yearly lows from June through September. Infrastructure construction spending in August dropped to the lowest since November 2014. However, this was predicted. Cash flow models of Infrastructure starts from the last several years show current dips in monthly spending are being caused by uneven project closeouts from projects that started several years ago.
Current backlog is at an all-time high and spending will follow the expected increased cash flows from the elevated backlog. Environmental Public Works (Sewage/Waste disposal down 16%, Water Supply down 9% and Conservation/Dams & Rivers down 7%) posted the largest declines in 2017 and accentuated the declines in the infrastructure sector. The sector is expected to increase slightly in the last quarter 2017. In recent months there are already substantial gains being posted in Conservation and Transportation.
No future growth is included from infrastructure stimulus and yet 2018 is projected to increase by 10%.
Total non-building infrastructure spending in 2018 is forecast to reach $324 billion, an increase of 10.5% over 2017. My forecast for 2018 is predicting every infrastructure market will post gains, but it is the Power and Transportation markets that account for almost all the growth in 2018. Transportation new starts in 2017 grew 120% due to massive new air terminal and rail projects. Spending growth in the Power market is not quite so apparent. Combined Power new starts are down for both 2016 and 2017, but the spending gains are coming from projects that started in 2015, a year in which starts were up over 120%.
Non-building Infrastructure will reach a new high for spending in 2018. This sector had posted a new high in 2015 and nearly equaled that in 2016. Adjusted for inflation, spending in 2018 will be nearly equal to the all-time highs reached in 2015 and 2016.
Total public spending for 2017 remains flat at $287 billion with most major public markets down for the year.
At midyear, I expected Educational and Highway to support a Public spending increase in 2017. Those gains did not materialize. A decline in Highway spending offset small gains in Educational. By far the largest Public spending decline is in Sewer and Waste Disposal, down 16%.
Public spending hit the low for the year in July. It increased for the last three months, most recently by an 11% increase in Public Educational spending in October. We are now near the high for the year and can expect to see another six months of growth before spending levels off in mid-2018.
When you see graphics that present Residential, Nonresidential and Public spending all on the same plot, they are not additive. Only Residential and Nonresidential can be added to reach total spending. Public is a subset of Nonresidential, composed partly of Nonresidential Buildings (~40%) and partly Non-building Infrastructure (~60%), with a slight amount of residential.
The two largest markets contributing to public spending are Highway/Bridge, 32% of total Public spending, and Educational, 25% of Public spending. The third largest market, Transportation, is only about 10% of Public spending. Environmental Public Works combined makes up almost 15% of public spending, but that consists of three markets, Sewage/Waste Water, which accounts for 8%, Water Supply and Conservation. Office, Healthcare, Public Safety and Amusement/Recreation each account for about 3%.
All of Highway/Bridge is Public spending. Only 80% of Educational spending is Public and only 70% of Transportation is Public. Environmental Public Works markets are 99% Public.
Total Public spending in 2018 is forecast to reach $305 billion, an increase of 6.3% over 2017. Public spending in 2018 will reach the highest year over year growth since 2008.
Educational and Transportation will contribute equally and together account for almost 60% of the Public spending growth in 2018. Transportation new starts in 2017 grew 120% due to massive new air terminal and rail projects. Educational new starts total for the last three months posted the highest quarter in at least seven years. The 2nd highest quarter was also within the last 12 months, so still contributes fully to 2018 spending. 2018 signifies a turn-round in Public spending which has not posted significant growth since the recession.
See this companion post for Starts Trends Construction Forecast Fall 2017 11-8-17
After New Starts, dollars are tracked in Backlog, Backlog Construction Forecast Fall 2017 11-10-17
For more on Jobs and Workload see Construction Jobs / Workload Balance 11-7-17
For effects of inflation see Constant Dollar Construction Growth 11-2-17
Seldom do two sources present information the same way!
In the construction industry, a disconnect exists in the reporting of construction starts data and actual spending data. Problems may arise when data is used to perform comparisons or forecasts between starts and spending. New starts and backlog may be listed in one category and spending for the same markets may be listed in another.
Almost universally, reporting of construction economic actual spending data follows the U.S. Census Put-in-Place Spending format. I adjust all other construction starts input/forecasting data that I use to conform to these Census Put-in-Place definitions. Here are some pitfalls to be aware of:
Residential spending data is about 35% renovations and improvements that has no units associated with the dollars, so cannot be included in a comparison to housing starts.
Demolition is not included in renovations/improvements. Partial repair of flood damaged homes is NOT included in residential improvements. Full replacement of flood damaged homes is included as improvements, not new single family. Here is Census definition of flood repairs
Offices includes pubic buildings such as city halls and courthouses. Includes data centers and bank buildings. Excludes medical office buildings, offices at manufacturing sites and offices at educational or healthcare facilities. Excludes Public Safety.
Commercial includes all retail buildings, warehouses, parking lots and garages. Excludes parking at educational/healthcare facilities.
Census DOES separate the costs for buildings that are mixed use retail/office/residential.
Educational, along with K-12, includes administrative offices, health centers, parking, residence halls, classrooms, educational research labs, food service and sports/recreation facilities at schools or colleges and universities and all associated infrastructure and maintenance facilities at the educational site. Also includes public libraries, science centers and museums.
Healthcare includes similar support and infrastructure to educational. Also includes medical office buildings, non-manufacturing and non-educational research labs.
Amusement and Recreation includes performing arts centers, civic centers, convention centers, sports and recreation facilities not located at schools or colleges.
Transportation includes air freight and passenger air terminals, runways, bus and railroad passenger terminals, light rail and subway facilities, railroad track, railway structures and bridges, docks and marine terminals and maintenance facilities and infrastructure associated with each.
Some sources of design or new construction starts data carry terminal buildings as commercial buildings, institutional buildings or other public nonresidential buildings. Census caries the building cost of all terminals grouped in with the non-building infrastructure costs of Transportation. Some sources carry public buildings such as city halls and courthouses as Public Safety but Census carries cost data for public buildings such as city halls and courthouses in Offices. Some sources classify laboratories as commercial and warehouses as industrial/manufacturing but Census includes warehouses in Commercial and Labs, depending on use, can be either Educational, Healthcare or Manufacturing.
Dodge Data New Construction Starts
Dodge includes monthly New Construction Starts for Terminals and Courthouses in Other Institutional Buildings, a Nonresidential Buildings category. The Census actual spending report includes Terminals in Transportation and Courthouses in Offices.
Although all of these still remain in Non-building Infrastructure, Dodge includes Rail, Mass Transit, Airport Runway and Pipelines in Other Public Works. Although not often mentioned by Dodge, it is assumed Communications is also included in Other Public Works. Census includes all mass transit in Transportation, Communications is listed separately and pipelines are included in Power.
Constructconnect (CC) Construction Starts Forecast
New starts for Transportation Terminals is in a line by the same name but subtotaled in Commercial (Nonresidential Buildings) starts. Census includes Terminals in Transportation.
CC lists Courthouse starts subtotaled in Institutional. Census carries Courthouses in Office (Commercial).
CC lists Military as a line item subtotaled in Institutional. This might include Office, Housing, Warehouse, etc., which would be carried by Census in Office, Residential, Commercial, etc., respectively.
CC lists Laboratories (Schools & Industrial) together and subtotals all labs in Commercial. Census separates labs by commercial, research and educational and carries spending in Manufacturing, Healthcare or Educational respectively which would subtotal spending in Manufacturing (industrial), or Institutional (Healthcare and Educational).
CC does not list rail or transportation separately, but does list Airport and Misc Civil (Power,etc.). This leads me to think rail is included in the line item with Misc Civil (Power, etc.). Also, CC does not list Communication, which I suspect is included in Misc Civil (Power, etc.) Already noted above is that Terminals is subtotaled in Commercial. Census carries rail, runway and terminals in Transportation and keeps Communication and Power separate from others.
CC provides an alternate table of new starts data that corresponds to a proprietary software, INSIGHT. This table of starts data reshuffles categories very far from anything that would resemble Census spending output.
The AIA publishes a twice annual Consensus Construction Forecast, comparing forecast of Nonresidential Buildings spending using inputs from seven or eight firms. Every firm but one follows a similar organization. The difference is FMI includes both Transportation and Communications in Commercial Nonresidential Buildings. I’m not aware of another other firm that reports these two categories of spending as Nonresidential Buildings. Both are typically carried as Non-building Infrastructure. That these categories include costs for projects such as rail beds, rail right-of-way civil structures, loading platforms, airfield runways and support structures, communication transmission lines and cell towers supports the more standardized inclusion of these items in Infrastructure.
Similar discrepancies may exist when comparing starts or spending to indexes, such as the AIA Architectural Billings Index, which broadly classifies projects as commercial, institutional or residential with no further definition. Some resources classify Amusement/Recreation as institutional and some as commercial. In particular, the shifting of costs between Nonresidential Buildings and Non-building Infrastructure creates a particularly meaningful disparity between spending forecasts.
As you can see, there are numerous instances where the data are often mixed up. From the point of view of the forecaster, initial input data cannot always be used directly to forecast or match spending output. Some manipulation of the data is required to make input and output match.
As an example, I move the Dodge data starts for Terminals from nonresidential buildings to non-building infrastructure Transportation, so that really changes my totals from theirs for Nonresidential Buildings to Non-building Infrastructure. My output conforms with most all others, most of whom also follow the Census PIP definitions.
What does your source for data take into consideration? Know your data!