Construction Inflation Report

Simon Raine
The construction sector has been showing small signs of stability since Quarter 1 of 2010. However, speculation continues to surround the government's commitment to capital expenditure, pending the comprehensive spending review in October.

Faithful+Gould UK Tender Price Index (TPI) forecast


200920102011201220132014
February 2010 -10% -3.0% 0% +3.0% +4.0%
N/A
July 2011 -10% -3.0% 0% +3.0% +2.5% +3.0%

The Faithful+Gould forecasts follow the BCIS Industry standard forecasts, adjusted to reflect Faithful+Gould's market intelligence, and are based upon a year on year percentage change.

General Economic Outlook

The economic outlook for the coming months will be strongly shaped and influenced by the Chancellor's emergency budget of 22 June.

The increased stability of the banking sector has been bolstered as the banks improve their balance sheets, which has seen finance liquidity restricted by cautious lending criteria, coupled with relatively high finance costs.

While the International Monetary Fund (IMF) and other European authorities have also implemented various measures to calm recent concerns over European sovereign exposure, the financial sector and the UK economy face significant challenges ahead during which time the financial markets are expected to become more resilient as they attempt to maintain growth. According to the Office for Budget Responsibility, UK GDP will grow by 1.2% in 2010 and by 2.3% in 2011, dampened somewhat by fiscal tightening.

Construction Industry

With the economy still fragile but recovering slowly, the construction sector has been showing small signs of stability since Quarter 1 of 2010. This is in line with July's Chartered Institute of Purchasing and Supply (CIPS) market research which reported the fastest expansion in UK construction activity since September 2007, with construction activity having increased in May for a 3rd consecutive month. This was driven by a rise in new orders accompanied by a rise in employment.

It is hoped that the continuing improvement in economic conditions will drive demand for new construction work over the next year, as a new regional growth fund is established to help finance capital projects, corporation tax is lowered incrementally and fuel duty is offset until the government's comprehensive spending review in October 2010.

However, worries and speculation continue to surround the government's commitment to capital expenditure on major projects, pending the comprehensive spending review in October.

The Chancellor has announced in the Budget report that 77% of measures to reduce the deficit would be in the form of public spending cuts, with the remaining 23% coming from tax rises.

On 5th July, the Education Secretary Michael Gove announced the government's intention to cancel the BSF programme, meaning that around 735 contracts yet to reach financial close will be scrapped. Additionally, there is continued uncertainty surrounding the government's commitment to the academies programme, as 75 rebuild projects are set to face further review.

Although some projects seem to have escaped the axe for the time being, there still remains concern over the lack of clarity on exactly what would constitute the public spending cuts especially in relation to the construction industry, both currently and in the near future.

Commercial Sector Analysis

In light of continued budget uncertainty, the RICS UK Commercial Market Survey report for Quarter 2 2010 reports that despite a positive first quarter driven by the office, industrial and retail sectors, the commercial market has now slipped back owing to public spending cutbacks and the effect this is having on investment decisions.

Tenant demand is reported to have declined for the first time in 12 months, most noticeably in London, with enquiries for occupation also declining across all sectors and regions.

RICS also reports that finance for the property market will continue to be in short supply for some time to come.

UK Planning Applications

Recently published statistics reveal a significant drop in the number of planning applications since the economic downturn. In 2010 local planning authorities have received 48% fewer district planning applications compared to its peak.

With planning applications of the first phases in the construction process, the current data leads to a conclusion that confidence has not yet returned to prior levels.

 

 Applications received 1998 - 2010UK planning applications 1998 - 2010

Based on Communities and Local Government Planning Applications Report June 2010

 

BCIS - General building cost index

BCIS general building cost index July 2010

Source: BCIS

 

BCIS - All-in TPI

BCIS annual % change for TPI, GBCI, output 

Source: BCIS

 

The BCIS All-in-TPI (Tender Price Indices) predicts a difficult period over the next 24 months with no real signs of recovery in tender prices.

The predictions for both General Building Cost Index (GBCI) and Construction Outputs record that the initial sign of recovery seen at the end of 2009 has stalled with the political uncertainty leading up to the general election, and is showing few signs of returning to prior levels in the short term. 

Future outlook

Following the government's recent emergency budget, it is hoped the announcements will benefit companies across the economy and construction sector. However, there are concerns over the ability of the private sector to replace the proposed diminishing role of the state, in addition to the worries surrounding the lack of clarity concerning public spending cuts. RICS comments that the former is critical not just in terms of headline growth but also with regard to the implications for property.

Lessons from Canada

With the UK government's intention to reduce the economic deficit, eyes have turned to the Canadian economy and their model of economic recovery.

Canada's economy is now into its 11th month of recovery - driven by tight regulation and more conservative lending practices than its US and European counterparts, though its most austere measures were implemented during the economic boom of the 1990s.

Following an aggressive deficit programme, huge budget surpluses were then used to cut taxes as opposed to being reinvested into those areas most affected by previous cuts, such as construction.

If the UK is to follow the Canadian approach, and given the importance to the economy of the UK's construction sector, it would seem unwise to commit to spending cuts within the construction industry in the belief that levels of activity will return to prior levels unless specific attention is paid to the construction industry once the UK economy is in recovery.

Highlights

  • First estimates for 2nd quarter growth in UK
  • GDP look positive.
  • Sweeping budgetary measures look set to aid firms in the long run, in spite of current unease concerning the clarity of public spending cuts which is likely to provide short term uncertainty.
  • Materials price inflation continues to rise with a reported rise in construction prices being driven by rising metals, fuels and lubricant prices.
  • Demand for commercial property declines, driven by falling tenant demand and fewer enquiries for occupation.
  • Construction material prices indices on all work up 1.9% between January and April 2010 (Department for Business Innovation and Skills)

Competitors' views

This table shows our competitors' forecasts, highlighting the variable predictions on construction inflation


Forecast date2009     
20102011201220132014
Faithful+Gould July 2010 -10%   
-3.0% 0% +2.5% +2.5% +3.0%
BCIS July 2010 -11.2%   
-5.4% 0% +3.3% +3.2% +3.5%
EC Harris
Summer 2010
-10.5%   
-4.2% -1.2% +2.5% +3.5% +3.5%
Cyrill Sweett February 2010
-7.0%   
-5.0% +1.25% +2.5% 3.75% +4.0%
Gardiner & Theobald Q1 2010 -8.5%   
-4.5% +1.0% +2.0% +4.0% N/A
Gleeds Q2 2010
N/A   
N/A -0.4% +1.9% +3.0% +3.4%
Turner & Townsend Spring 2010 -8.0%   
+3.0% +6.0% +2.0%
N/A N/A