Construction in Canada can be grouped into two broad categories — those sectors that are highly cyclical and those that are more influenced by long-term trends (e.g., demographics such as population growth), mega projects and government spending initiatives. In the first category are residential, commercial and industrial construction. In the second are institutional and engineering work. The latter, also known as civil or “heavy” work, is often comprised of individual large projects in the areas of roads and highways, oil and gas developments and electric power projects.

Canada, like the rest of the world, is now mired in recession. However, this nation has had the good fortune to enter this predicament in better shape than other industrialized economies. Canada’s pluses have included: (1) healthy government finances at the federal and provincial levels; (2) a financial sector that is emerging from the credit crunch without the drama and failures that have occurred in the United States and Europe; and (3) a housing sector that has demonstrated a remarkable amount of resilience so far.

And that’s not the end of the Canada’s advantages. There are also: (4) an office building sector in which vacancy rates have been much lower than south of the border; and (5) a labour market that has continued to provide new jobs and, consequently consumer spending, beyond what is being experienced almost anywhere else. Unfortunately, many of these positives are going to be tested as the remainder of this year unfolds and the after-effects will continue to prevail through much of 2010, before recovery and expansion become firmly entrenched in 2011.

Looking at the major categories of cyclical construction, the place to begin with is residential activity. Monthly housing starts in Canada averaged 223,000 units annualized from 2002 through the fall of 2008. Recently, they have downshifted to a new plateau, somewhere around 180,000 units. At some time during this downturn, a number as low as 150,000 units may be touched upon in a couple of individual months.

Nevertheless, this is nothing like the decline that has occurred in the United States. From peak to trough across the border, the drop in unit starts has been a stunning 72.5%. The latest month figure was only 600,000 units, which on a Canadian equivalent basis would be 60,000 units (i.e., after applying the one-tenth rule, based primarily on the population difference between the two countries.). The lowest that Canadian housing starts have fallen to in memory was an annual figure of 111,000 units in the middle of the 1990s.

Recently, multiple-unit starts have held up better than singles. This has been particularly evident in Toronto, Calgary, Hamilton and Ottawa. One of the reasons has been purchases by wealthy individuals from the Middle East and East Asia. There has also been a trend whereby well-off empty nesters have moved from their single-family homes into downtown cores in order to free up money for retirement, to pass on some financial help to their offspring and to partake in the more active lifestyle that comes with being nearer the theatre district, trendier shops and executive-chef restaurants.

When considering the future for housing markets, the starting point is jobs. Potential buyers will only commit to the major spending initiative that is a new home purchase if they are confident in their employment prospects. On this count, the jobs market in Canada has turned more uncertain of late. The recessionary U.S. economy is likely to lose upwards of 4.5 million jobs. By way of comparison, 3.0 million U.S. jobs disappeared during the dot.com collapse. In Canada, the job cuts in the labour market are likely to total around 250,000. This puts almost everyone on edge and fosters more caution when it comes to making a major investment in accommodation.

At the same time as demand for new housing will soften, there are also several factors that will help to provide a floor under activity levels. These include the very low mortgage rates that are now available as a result of the Bank of Canada dropping its key policy-setting interest rate (i.e., the “overnight” rate) to almost zero percent. Monetary stimulus has been maxed out.

Also, home prices are on the decline, particularly in regions where there was a speculative bubble earlier in the cycle. This includes the four major western cities, Calgary, Edmonton, Vancouver and Victoria. Home price adjustments are appearing in both the new- and existing-home markets. Again, however, the drops are not likely to approach anything like what has happened south of the border, where six major cities — Miami, Phoenix, Las Vegas and the three California centres, San Francisco, Los Angeles and San Diego — have seen changes greater than -25%.

The recession, job cuts, lower incomes and reduced new and resale home purchases will all be factors cutting into renovation spending over the next two years. Ottawa’s federal budget on January 27th provided some antidotes to the projected slowdown. It has made available credits to new homebuyers to counter legal and land transfer taxes and it is providing more government money for renovation projects and energy-efficient upgrades.

Establishing the outlook for residential activity levels is an important first step when looking at the other cyclical construction markets as well. For example, when it comes to commercial construction, a major sub-category is retail investment. Upon reflection, one realizes that a great deal of retail activity depends on how much consumers are spending on their homes.

Just think about the products that a typical family goes shopping for on the weekend. This may range from bigger ticket items like appliances, drapes and carpeting, through fun items like home entertainment equipment, all the way to home reno products like paint and wallpaper. When the residential market tails off, so does retail activity. This problem will be compounded by the current tighter credit conditions. Banks are revising profitability expectations for retail-based firms seeking money for expansion plans.

Weakness in the U.S. financial sector has spread to branch offices in other countries. Recession-induced mergers and acquisitions, combined with some outright bankruptcies, will raise office vacancy rates and lower rents. Canada is fortunate in one key regard when it comes to office building markets. Only Calgary and Toronto accounted for a large increase in office building construction in 2007 and 2008. As a result, there has not been the overbuilding of offices that has prolonged the pain for as long as a decade on several previous occasions, for example from the late 1980s through most of the 90s.

Warehouse construction is closely tied to retail activity, as well as to how manufacturers are faring. The manufacturing sector is comprised of auto assembly and parts suppliers. Who doesn’t know that several major firms in that line of work are struggling to simply survive? Non-auto manufacturing is often geared towards residential markets and the products that line retailers’ shelves. As such, prospects have become more restrained.

The final category of commercial construction is hotels and motels. Several factors are working against ongoing strength in this kind of work. The recession in Canada is cutting into both business and tourism travel. The same can be said for trips to Canada by our American friends and relatives, plus there are the added security measures that have made crossing the border a trying experience at best. Also, many new hotel projects have been relying on a 50%-or-higher condominium component to make them commercially viable. That market cannot be counted on to the same degree through at least next year.

CanaData’s forecast for commercial building construction starts is calling for 35.0 million square feet in 2009, 34.0 million in 2010, followed by a pick-up in 2011 to 39.0 million. To place this in context, commercial starts were 42.7 million in 2008 and 58.1 million in 2007.

The other cyclical category is industrial construction and some of its key sub-components have already been discussed. When it comes to resource-related industrial investment, all that needs saying is that prices for nine key commodities — including lumber, copper, nickel, aluminum, coal, oil and natural gas — have dropped by nearly two-thirds from their most recent cyclical peaks, mainly in July 2008, to their current levels. Owners are not going to take expansion risks until a year or so after the world economy begins to advance again, which will probably get underway late this year or early next year.

Where there can be an expectation of continuing solid construction markets is in the two sectors where government money comes into particular play. January’s federal budget was in keeping with what is happening around the world, with fiscal dollars being directed into both “soft” infrastructure projects — schools and hospitals in the institutional construction category — and “hard” infrastructure projects in civil engineering such as: new bridge crossings and repairs to existing structures; street, road and highway work; and sewers, water purification and water pipeline construction.