Blaironomics

Since 1997, the output of the construction industry has risen 22%, from £67bn to £81bn in 2006. Tender prices have increased 73%, building costs have gone up 53% and retail price inflation (RPI) is 31% higher. However, these rises must be considered in the context of the recession of the early 1990s (see Building costs and tender prices, graph).

Before Blair

The late eighties were a boomtime for UK construction. Tender prices rocketed, principally on the back of strong growth in output, and the private sector was the main driver. In 1988, tender price rises peaked at 12.7% with growth in total output standing at 9.6% – well above the long-term trend of 2.1%.

This growth rate was unsustainable and by the early 1990s, boom had turned to bust. Construction output fell into recession in 1991 and did not return to growth until 1995. Tender prices followed the trend, with annual prices falling in 1990, 1991 and 1992.

By the time Tony Blair came to power, the volume of output was well below that of the start of the decade and the level of tender prices had just returned to its 1990 level.

The Blair years: tender prices

Growth in the economy as a whole has been quite rosy during Blair’s sojourn at No 10, staying at or above trend in seven out of the 10 years. There has also been steady growth in output, barring 2005, and it would appear – at least for the time being – that the historical boom-and-bust cycle of the industry may have been broken.

Tender prices are influenced by two main factors: demand and cost, but the greater of these is demand. There is a close relationship between tender prices and demand, as measured by construction output. The graph of tender prices and total construction output shows year-on-year percentage changes in the BCIS’ tender price index and output (at constant prices) over the past 30 years.

As a result, the level of tender prices has also followed a steady upward trend, following that of output, averaging about 7% a year.

The main contributors to growth in new work output since 1997 are the public non-housing sector, which grew 66%, and the private commercial sector, which grew 44%. It is worth noting that, in recent years, PFI work has been classified as private commercial work. If it was not, the growth would swing even more in favour of the public non-housing sector. The private housing sector also made a significant contribution to growth, rising 36%.

The Blair years: building costs

As mentioned earlier, building costs are the other driver of tender prices. Building costs have risen by about 53% in the past 10 years, significantly faster than retail prices, which increased 31%.

Building costs comprise labour, plant and materials, with labour and materials accounting for more than 90% of the total (see Labour, plant and materials costs, graph).

As demonstrated by all those stories about plumbers making £100,000 a year, pay rises for construction workers outstripped those of general workers during the Blair years. The labour cost index has risen by about 83%, against a background of a 48% increase in earnings in the economy as a whole.

Of course, labour costs are linked to availability and, until fairly recently, the industry was reporting difficulty in finding skilled workers. Recently, however, trade surveys have shown a decline in the difficulty of securing skilled labour and this could be a result of the influx of workers from eastern Europe.

Materials prices have risen by about 31% over the past 10 years, with most of the increase coming in the second half of this period. In the past couple of years, the enormous demand for materials from the emerging economies has put strong pressure on materials prices, in particular steel and copper. We have also seen crude oil prices rise from about $30 a barrel two years ago to a peak of $70 in August 2006, falling back to about $50-55 a barrel now (see world crude oil prices, graph).

Forecast for the future

With Blair standing down on 27 June, what do the next two years hold for tender prices? BCIS believes that with increases in new work output and upward pressure from increased input costs, tender prices will rise well ahead of retail prices inflation.