Construction Inflation Report

David Blackburn
UK GDP (Gross Domestic Product) has been revised downwards from close to 2% to 1%. The outlook for short term economic growth remains pessimistic with many analysts predicting lean growth for the next 3 years.

Faithful+Gould UK Tender Price Index (TPI) forecast


20122013201420152016
July 12 -1.0% 0.0% +1.5% +2.5% N/A
November 12 -1.0% 0.0% +1.0% +2.0% +3.0%

The Faithful+Gould TPI 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.

Highlights

  • The UK economy remains weak with the BoE (Bank of England) forecast downgraded to 1%.
  • Construction activity remains subdued, with little sign of promise of a return to growth in the short-term.
  • Consultant fee levels remain at record lows with profitability continuing to be squeezed.
  • Tender price inflation set to remain negative/flatline through to the middle of 2013.

General economic outlook - UK

UK GDP (Gross Domestic Product) has been revised downwards from close to 2% to 1%. The outlook for short term economic growth remains pessimistic with many analysts predicting lean growth for the next 3 years. Underlying GDP growth is unlikely to see the peak of 2008 being eclipsed until at least 2016, which is 2 years later than previously forecast by the BoE.

Resilient labour market and employment trends are also consistent with a recovering economy. November’s ONS (Office for National Statistics) labour market statistics show the employment rate at 71.2 percent, up 0.2% on the previous quarter and up 1% from a year earlier. A combination of newly created jobs and more people entering the workforce pushed the number of people in employment up by 100,000 at 29.58m, also up 513,000 from a year earlier. Unemployment also fared well, down by 49,000 to 2.51m in the three months to September, pushing the unemployment rate down to 7.8%. Despite criticism from the opposition, the government attribute positive labour market sentiment to the variety of employment schemes the government has implemented, as well as welfare reforms and a pick up in the private sector.

Construction Activity & Inflation

Back in March’s budget the government announced further cuts in public sector capital spending, with public sector construction expected to fall by 12% and 7% in 2012 and 2013 (CPA [Construction Products Association]) respectively as the government depresses the flow of public sector projects. The possibility of the private sector led recovery has been somewhat overshadowed by continuing turmoil in the Euro zone and a flatlining domestic economy, both influencing business and consumer confidence and private sector investment.

This is beginning to filter through and is reflected in the latest ONS construction data for 3Q2012 revealing output of the construction industry fell by 2.6%, revised down from the previously estimated 2.5% fall.

Although not able to be used to directly predict future output in the construction sector, ONS data also reveals volumes for construction new orders have continued to decline since 2Q2010 plummeting approximately 15%, however during this same period we have seen the Repairs and Maintenance sector maintaining at a consistent level. This is likely to be a sign that existing stock is being maintained at the expense of capital project expenditure. The new orders position suggests that on trend, activity in the construction sector could decline, leading to further future drops in construction output unless action is taken to stimulate the construction sector.

Looking forward, we expect demand for office accommodation to benefit from a limited increase over the next few years as the economy attempts to recover, developers regain confidence and more funding becomes available. Geographically, activity in London may be seen as a winner away from less active areas of the UK, though this will continue to impact on prices as contractors chase for the work that’s available.

Whilst current housing data indicates precarious conditions for the housing market, house builders will hope to capitalise on gradual improvements in consumer confidence as interest rates remain low, headline inflation rates dip and government-led schemes take effect in a bid to boost consumer confidence and housing market activity, although this may be limited to the London and South East markets. Amongst a package of measures aimed at boosting the housing industry is a £10bn assurance for new private rented and affordable homes through the housing guarantees scheme as part of the Infrastructure (Financial Assistance) Bill, a proposed amended planning framework, a £280m extension to the FirstBuy scheme and various other pledges to developers in an attempt by the government to instil confidence in consumers and business and get the economy moving. Perhaps encouragingly, the RICS housing market for September reports a broadly positive view of a stable market with prospects for increased activity in the near future, fuelled by potential increased mortgage availability towards the latter part of 2012 thanks to the Funding for Lending Scheme supported by the Bank of England, lower mortgage rates and improved sales and price expectations. Hometrack echoes this, pinning hopes of a modest increase in mortgage lending on the BOE’s scheme following a continued slump in house prices and house-buying activity. However, a lot of this rests on resolutions to the uncertainty in the Euro zone and globally that could potentially de-rail a recovery in this sector and the UK economy pulling itself into a period of sustained, albeit low, growth.

The civil engineering sector is also expected to remain firm despite falling capital expenditure in the road networks, with rail and energy related projects expected to bolster prospects of increased activity in the longer term as the Department for Transport’s budget remains largely preserved. Again we expect London to remain the hub of activity in this area, with tender prices rising slightly over the next few years, though activity is expected throughout the rest of the UK via pledges to improve schemes aimed at increasing network capacity and improving station facilities.

Infrastructure projects hoping to boost hopes of a resurgent construction sector include High Speed 2, recently backed by newly appointed transport secretary Patrick McLoughlin who reiterated the government’s commitment to the high speed line  which looks set to go ahead. Despite facing stiff criticism from some quarters, the benefits in attracting investment, regeneration and new business opportunities and job creation provide a strong case for this scheme to proceed – indeed a recent report published by GVA reports Crossrail as having boosted property values by £5.5bn along the Crossrail route. Also worth noting is that the effects of High Speed 1 still live on in the regeneration of the Kings Cross, Stratford and Ebbsfleet areas.

Changes to the planning system

Despite facing criticism by various local authorities and the Local Government Association it’s hoped that proposed changes to the planning system via the National Planning Policy Framework (NPPF) will positively affect the construction industry and the wider economy. It is broadly believed that a smarter and clearer planning system could lead to reduced delays and costs, though what effects the proposed planning changes will have remains to be seen.  

Materials and input costs

Wage agreements for various operatives have either stalled or been frozen in recent months. Demolition workers have secured a wage increase of 2.5% from July 2012 and agreement to a further rise of 2.5% next July whilst employers continue to resist union pay claims across the board.

Price movements in most materials and products have remained stable over the last 12 months. In particular, low demand for structural steelwork and increasingly competitive contractor pricing strategies, means a downward pressure is likely to be exerted on steel prices as an example.

Difficult economic conditions and persisting Euro zone uncertainty continues to affect steelwork and concrete tender returns and is a theme that will continue to affect cost data. Other construction materials prices and input costs generally remain stable, with metals prices generally registering falls owing to decreases in global demand and over-supply and other oil related products registering increases on the back of movements in oil prices throughout 2011 and 2012. However oil prices could be set to decrease over the medium-term following stunted global economic growth, rising oil production in Iraq and Saudi Arabia, technological advances in North America and Libya and reduced demand due to improvements in energy efficiency, changes in consumer behaviour and a move away from reliance on fossil fuels.

Cost Indices

Remaining negative over the first half of 2012, tender returns across the UK look set to remain competitive over the remainder of the year due to the aforementioned economic pressures. An ease in input costs will see marginal increases over 2013 and 2014 as construction activity picks up, particularly in the favoured markets of London and the South East. We anticipate tender price inflation remaining at zero in the year to 4Q2013, with an increase of 1% by the end of 2014.

This contrasts with prospects for construction in the aviation industry, the future of which remains shrouded in uncertainty after the government announced its opposition to plans for a third runway at Heathrow and postponing a decision to increase airport capacity by asking former FSA boss Sir Howard Davies examine this area but not to report until after the next election. The uncertainty surrounding Heathrow as an airport hub was dealt a further blow after it was revealed BAA’s five-year investment plan is set to exclude the construction of the second phase of Terminal 2, doubling its size, prompting BAA’s capital director Steve Morgan to resign citing lack of new major projects at BAA. A new Thames estuary airport hub, dubbed ‘Boris island’, has also raised major questions surrounding affordability and environmental issues. Gatwick airport has also now entered the frame, with bosses drawing up plans assessing the environmental and economic impacts of a new runway though this too faces opposition from the Gatwick Area Conservation Campaign on environmental grounds. It does look like that at least for the rest of this decade, London’s airports will be relying on their existing physical capacity, whilst the government looks set to remain under increasing pressure to re-examine the economic, environmental and public benefits of these schemes.

Construction Activity & Inflation BCIS – All-in TPI

 BCIS - All-in TPI chart

                                                                                                                                         Source: BCIS

BCIS – General Building Cost Index

 BCIS - General Building Cost Index chart

                                                                                                                                          Source: BCIS

Future outlook

  • UK economy is forecast to remain depressed for 3 years amidst continued risk in the Euro zone. Any move back to positive UK GDP growth in the medium-term relies on a recovery in global markets, especially given the outlook for fiscal retrenchment in the distressed Euro zone countries.
  • The construction industry will remain suppressed under pricing and cash flow pressure with tender prices expected to remain competitive for the next year or so as input costs and demand side forces continue to exert negative pressure, at least in the short-term.
  • Construction activity will remain uncertain with output and new orders continuing to suppress economic growth, though it is hoped government stimulus, increased funding availability and stabilisation in the Euro zone will increase confidence and set the construction industry moving positively in the latter part of 2013.
  • With the sub contractor market and the supply chain having now adapted to the market capacity we anticipate there may be a consolidation of main contractors as their over supply adjusts to falling and potentially levelling outputs.

Competitor’s views

The table below shows our competitor’s TPI forecasts and has seen a downward movement in predictions over the last quarter.


Forecast date20122013201420152016
Faithful+Gould Nov 2012 -1.0% +0.0% +1.0% +2.0% +3.0%
BCIS Nov 2012 -1.8% +1.4% +2.7% +3.5% +4.7%
Gleeds 3Q2012 N/A +0.3% +1.7% +2.6% +4.1%
Cyrill Sweett 3Q2012 -1.0% +0.5% +2.5% +3.5% +4.0%
G&T 3Q2012 -1.0% +0.5% +1.5% +2.5% +3.0%