Economic Outlook: US construction
By Scott Hazelton25 February 2014
While the most recent data on the US economy over the past two months has been mixed, this is most likely due to severe winter weather and does not necessarily counteract the positive trend.
Indeed, the acceleration in US GDP growth that began in the third quarter of 2013 continued in the fourth quarter, and sets the stage for a stronger 2014. The real GDP growth of +3.2% (annual rate) occurred despite a large drag from the federal government sequester and partial shutdown.
However, there is agreement on the federal government debt ceiling and on a budget that avoids further spending sequestration, not to mention the potential for government shutdowns. As such, fiscal policy, and the uncertainty around that policy, will not be the drag on GDP growth that it has been in recent years.
The better news for construction is that business fixed investment growth is expected to increase from +2.6% in 2013 to +5.0% in 2014, due to both stronger equipment spending and an eventual pickup in non-residential construction.
The residential sector is already in recovery mode, although the level of activity is not yet at typical levels. Housing starts improved to 928,000 in 2013 and are expected to reach 1.1 million in 2014, 1.5 million in 2015 and 1.6 million in 2016.
Housing starts could remain around 1.6 million for several years, but the current level could be higher. There is demand in many cities, but banks still perceive housing as risky, and developers cannot secure the credit to build.
The recovery in housing is a necessary condition for recovery in much of the non-residential market. Construction of new housing developments is followed within 12 to 18 months by the ancillary construction of retail and financial space, medical services structures and often new schools.
And while job creation has been slow, it has been occurring over many months now. With current projections, the US economy will hit a new high level of employment in late 2014 or early 2015. This suggests that vacant residential space will be absorbed and the need for new builds will grow.
This should lead to a change in the type of construction from one dominated by refurbishment of existing space to one of groundbreaking for new buildings. Double digit growth in the office and warehousing segments is forecast over the next two years, given employment and trade growth.
Retail will grow less strongly as income gains are modest and consumer spending remains cautious. Retail is one segment where the outlook may feature more renovation and less new construction, as the segment was overbuilt and some large national retailers are closing stores and others are cutting their floor space.
Hotel construction boomed in 2013, and the pace of activity is poised to expand in 2014. The return of business travel and tourism with the global recovery makes this the hottest segment within the commercial sector.
It is important to note, however, that the outlook is for strong growth from a very weak level. A return to the commercial construction spending levels seen in 2008 is not expected in the foreseeable future.
Construction of manufacturing facilities is also poised to increase. While weaker growth in key emerging markets – Brazil, China, India and Turkey, for example – will reduce the potential for exports, domestic demand will grow as companies continue to invest for sales growth and productivity improvements.
The availability of cheaper energy is expected shift the global competitive balance in favour of North America. In the near term, industrial construction will be driven by the need to process oil and gas into intermediate products, so structures dedicated to refining and chemical processing will enjoy the first phase of activity.
In the longer run, factories to turn these feedstocks into finished products, such as rubber, plastics and electronics, will also benefit. While the manufacturing renaissance has begun, IHS Global Insight expects single digit growth for the next couple of years, as getting energy products from the field to market remains the priority. The strongest growth is expected in 2016 and 2017.
The weak link in the outlook is public construction spending. Fiscal restraint is the plan for the foreseeable future, and the federal government is more focused on social welfare spending than investment for long term economic growth.
Indeed, federal government policy has recently hurt construction more than it has helped, as a tax policy intended to boost certain power projects has expired. In fact, the power sector is expected to shrink in 2015/16 as projects are completed.
Furthermore, the Highway Trust Fund is underfunded, and while authorised spending will still take place, one should not expect new funding from the federal government.
Most construction spending comes at the state level, and there is some improvement in store as the recovering economy lifts tax revenues. Deferred maintenance will consume much of the increase, however, and growth in highway and street construction is expected, as well as water and sewer work, in the +1% to +3% range over the forecast horizon.
Spending on educational structures will do somewhat better as higher housing activity increases classroom sizes. After four years of contraction, the education segment is expected to grow in the +5% to +7% range over the next few years.
Health care construction in the US is both publicly and privately funded. Contraction in this segment will also be reversed, with growth around +5% for the next three years.
New housing activity tends to create demand for medical office buildings and outpatient care. This trend is expected to be augmented by the implementation of the Affordable Care Act, which will add more individuals to the health care system, and put a focus on preventative care.
The US construction market has improved in fits and starts since 2010, but evidence suggests that it is finally gaining consistent momentum.
The pace of growth will be solid, but the levels of spending will typically remain below peak levels, especially in inflation-adjusted terms.
Even so, the US will be among the world leaders in construction growth, with improving prospects through to 2015 and likely further ahead into 2016.