Construction Industry Forecasts

There are a number of ways in which Canada’s construction outlook has changed from last year. The forecasts being referred to are the investment or put-in-place numbers. Many of the changes relate specifically to the stimulus contained in the federal budget. Most of these are in the non-residential construction area, but homebuilding is a good place to start in any event.

New and Renovation Residential Investment

In residential markets, the downturn has come swifter and more dramatically than was anticipated. Actually, this is not unusual. When the housing market turns, it usually does so in a dramatic fashion. The problem is that analysts and forecasters are not comfortable with big percentage changes. The tendency − bordering on wishful thinking − is almost always to expect a more moderate change in direction.

Housing starts have already dropped by 40% from peak to current levels – more than 250,000 units annualized a couple of times in 2007 to 150,000 units now. There will be months ahead with even lower volumes. Also, the renovation sector will be impacted by poorer employment prospects, reduced incomes and falling existing home sales.

The compensations on the upside – lower mortgage rates and housing prices – are being overwhelmed by worries about the recession and continuing employment. Nobody buys a home when they think they might be out of work soon. Unsold inventories are rising, particularly in the condo market, and this will take a year or more to work off.

The Federal Budget Stimulus Money

With respect to the extra $10 or $11 billion in annual stimulus this year and next year, as provided in the federal budget, there are several things to keep in mind.

(1) This money will go mainly into institutional and engineering construction. What will be the split? Since all of the specific projects are not yet known, one has to make assumptions − say institutional 25% to 33% of the money and engineering 75% to 67%.

The institutional portion will include money on educational facilities and such specific projects as Toronto’s Union Station renewal. The engineering portion will be spent on federal bridges and provincial highways and roads, as well as on water and sewerage treatment plants and other civil works.

(2) The overall impact of the extra spending will be muted somewhat by a cost-sharing provision in the budget document. Specifically, there is the question of whether or not the provinces and municipalities will be able to come up with the matching funds to make many of these projects viable. The federal government is offering more access to borrowed funds to make this easier.

(3) The extra government spending on infrastructure will not simply increase the total dollar level by the same amount. This is because private sector spending has weakened more than originally anticipated. While this will be most apparent in the previously discussed residential category, it will also show up in the commercial and industrial categories of non-residential building work, and in engineering as discussed next.

(4) Due to the dramatic drop in the international price of oil, the private sector is cutting back investment intentions with respect to mega fossil-fuel projects. This will cut into engineering construction levels in the Oil Sands of Alberta and perhaps offshore Atlantic. Delays and cancellations of such projects will affect engineering construction volumes in 2009 and 2010, but then this sector may well come roaring back in 2011, as oil prices start to climb again.

(5) Government stimulus with respect to institutional projects will have the most direct impact, since this category is almost all publicly financed. Its impact in the engineering category will be significant, but a little restrained, since this category has a large private sector component through oil and natural gas investment.

(6) At least in the early period of the forecast, the price index component will be much lower. In fact, inflation in construction will be a “non-factor” in 2009 as commodity prices keep dropping. Commodities form the basic building blocks of building products in both the residential and non-residential sectors. Current dollar volumes of construction will be biased downward by this price index effect.

The Net Effect

The net affect of all of the above plays out as follows in CanaData’s latest put-in-place investment forecasts. Current dollar residential investment is now expected to decline by almost 10% in 2009, after being flat in 2008. In 2010, there will be a 4.1% increase thanks largely to some lumber price recovery as U.S. housing markets pick up.

Current dollar non-residential building in 2009 will be -4.0% after a +10.2% performance in 2008. Commercial (-9.5%) and industrial (-5.2%) work will be the major drags this year, while institutional activity will be up by a healthy amount (+7.3%). The institutional increase in 2010 will be even stronger at +19.1%.

Current dollar engineering construction will rise 8.0% in 2009 and 9.7% in 2010, thanks to government spending that more than makes up for private sector cutbacks. This will bring grand total current-dollar construction spending to -1.7% in 2009 and +6.4% in 2010, on the heels of a +5.0% year in 2007.

Finally, CanaData is calling for the residential construction cost index used in these calculations to rise only 0.5% in 2009, then move up to +2.5% in 2010. The non-residential construction cost index change will be +1.5% in 2009 and +3.5% in 2010. Both indices were in excess of +5.0% in 2008.

Alex Carrick