Are Construction Material Costs Slowing Building Pace?
Despite a pandemic-induced economic slowdown, 2020 was a respectable year for construction. Deemed an essential industry, many construction projects continued even during the early months of the pandemic. At $1.43 billion, total construction spending increased almost four percent (3.9%) for the year, according to U.S. Census Bureau data.1 Residential construction, at $596 million, increased just over 15% (15.3%), while commercial construction dropped almost six percent (5.8%) from $840 million at the start of 2020.
Residential construction spending has fallen in 2021 to just under $800 million in February – a drop of approximately six percent from the previous year. During that same time, non-residential construction spending rose by 17% to just over $727 million.
First-time homebuyers boosted percentage of sales in 2020.
Historically low interest rates, which enticed many renters to become first-time homebuyers, spurred growth in residential construction. According to a February 2021 survey covering the past 12 months, first-time homebuyers accounted for 43% of the new home market.2
During the very early months of the pandemic, the construction market was strong, with approximately 1.6 million housing starts in both January and February 2020. As news of the pandemic spread, housing starts tumbled to 1.3 million units in March, then 0.9 million in April. By July, the residential market had largely recovered, posting 1.5 million starts. The high for the year was in December, when builders started construction on 1.7 million units. Single-family homes fueled most of the growth in 2020, with sales of 9.87 million.3
Construction of single-family homes slowed to just over 1.4 million units in February 2021 – a reduction of almost 10% year-over-year.
Expensive homes dominated the market.
Lower interest rates, the quest for space and inventory shortages are driving up home prices. Matthew Speakman, a Zillow economist, says there is currently a supply of fewer than three months of homes on the market – the lowest on record since the turn of the century.4 Supply and demand always dictate pricing and now it’s a seller’s market, with buyers snapping up inventory as quickly as it becomes available.
While mortgage rates remain lower than in the past, the 30-year fixed rate increased this year. Perhaps with expectations of further increases, anxious buyers will likely try to get in front of higher rates. Rate increases also drive up the cost of available and future home inventory, but buyers are undaunted.
There were significant increases in the number of home purchases above $200,000 in 2020. The average home sale price rose by 15% to $320,625 – the highest since 2012.5 In fact, the highest number of sales throughout the year were homes priced between $300,000-$400,000.
As consumers’ long for single-family homes with space to roam, it’s no wonder construction on apartments and other multifamily units dropped by 11% last year.6
Some experts predicted the shortage – and extended confinement in tight quarters – would ultimately work to builders’ advantage. “Builders are going to be really busy…Now, more than ever, people want more space. New construction on single-family homes could exceed 1 million,” said Danushka Nanayakkara Skillington, associate vice president, forecasting and analysis, at the National Association of Home Builders. The Mortgage Bankers Association seemed to agree, forecasting 2021 single-family housing starts at 1.134.7
The experts were right. January new housing starts were at just under 1.6 million (1.58). Although still above predictions, February saw a drop of 10% with just over 1.42 million starts.8
Commercial construction recovery will take time.
Nonresidential construction hasn’t fared as well as residential. “By far the greatest impact of the pandemic on construction is the massive reduction in new nonresidential construction starts in 2020, which will reduce construction spending and jobs for at least the next two years,” observed Ed Zarenski at his blog Construction Analytics.9
In 2020, commercial building starts dropped 26%,10 although the impact on spending was considerably less. As Zarenski points out, the pattern of spending for nonresidential buildings is generally 20% in the first year, 50% in the second year and 30% in the third year. 11 So, pandemic-related non-starts will likely negatively impact the nonresidential market for the next two years. Year-over-year commercial construction spending was already down by almost five percent (4.9%) in January 2021.12
The pandemic has already pushed a large portion of retailers to online storefronts at least temporarily, calling into question the need to build new retail outlets. Similarly, lodging construction has fallen significantly over the past year. When or if business travel will resume at pre-pandemic levels is unknown.
The future of office construction, which in recent years accounted for about 10% of all nonresidential construction,13 is evolving. For the past year, employers have seen that staff can work from home–at least part of the time–without a loss in productivity. If some employees permanently shift to remote work, new office builds will be impacted. However, increasing demand for data centers and warehouse construction will contribute about five percent to the dollar value of commercial building this year.14
Some sectors in commercial construction will continue to languish. The dollar value of manufacturing construction is expected to remain flat. Institutional construction will increase only nominally (one percent), while educational construction further declines.15
While sobering, the outlook for commercial construction isn’t all bad. There will be improvement in other sectors. An increased need for hospital beds will increase healthcare construction. Renewed interest in energy will increase growth in electric utility and gas plant construction to 35% for the year.16
In March, President Joe Biden revealed a $2.25 trillion U.S. infrastructure plan which, if passed, would significantly boost spending in the public sector. The plan would provide $620 billion for transportation, doubling federal funding for public transit. There’s also $580 billion to strengthen American manufacturing, of which approximately $180 billion would go to non-defense research and development programs. Another $650 billion is slated for initiatives to improve water quality and provide high-speed broadband.17
Still the recovery will take time. Richard Branch, chief economist for Dodge Data, says “The construction sector will show signs of recovery in 2021, but…the effects of the pandemic on the U.S. economy and building markets will be felt for several years. While some areas stabilized over the summer, the current wave of the virus has further hindered activity.”18
Materials costs are a splinter in builders’ sides.
One glaring obstacle to the construction industry’s full recovery is material costs. In a National Association of Home Builders survey, 96% of respondents said the high price of building materials was a significant issue for their businesses. In addition, 89% said they expect the problem to continue in 2021.19
Since framing lumber comprises roughly 20% of the total materials cost of building a house,20 builder consternation related to exploding lumber prices is understandable. Mill shutdowns during the pandemic, trade disputes with China, and U.S. tariffs that reduced output from Canadian mills led to timber supply shortages in 2020.
Some builders paid three times as much for lumber in late 2020 as they did at the start of the year. Southern pine prices rose 160% in September 2020. Overall, U.S softwood prices rose at a torrid pace – 73% year-over-year January 2021 – with the largest increase in 70 years.
Tripling the cost of such an important building component wreaks havoc for builders. It can blow a hole in the project budget and the builder may need to secure short-term funding to purchase materials. Cash flow can also prove challenging until the home is sold. Invariably, higher construction costs are passed on to home buyers, which affects affordability. Softwood price increases can add as much as $36,000 to the average price of a single-family home.21
Lumber isn’t the only building material affected by supply disruptions. The cost of steel and iron, critical in commercial construction, rose by almost 16% year-over-year in January 2021.22 Even prices for building basics like drywall and vinyl siding are inching up.
Lingering supply chain disruptions are not only causing material shortages, but also giving builders pause as they try to gauge where and when lumber and other material prices will level off. Deciding when to begin a new project is something of a “wait and see” for some. Ken Simonson, Associated General Contractors of America chief economist, predicts, “construction demand will remain spotty, both geographically, and by project type.” His recommendation: “Any owner who is expecting to build new or renovate had better factor in the likelihood that there will be delays and, depending on how the risk is shared with contractors, price increases.”23
Contact Synovus Banking or your Relationship Manager for more information on the economy.
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