Through the country's economic recession and still shaky recovery over the past two years, there were always clutch markets that stepped up to the plate to keep construction in the game. Public works, institutional buildings and housing all posted impressive growth rates this year, offsetting huge declines in the industrial, commercial and office building markets. But economists now predict that as private nonresidential building markets sink deeper into recession in 2003, this year's growth engines may not have enough horsepower to offset the slide.
The Dodge division of McGraw-Hill Construction expects overall construction contract awards to decline 1% next year. But that still amounts to $495.1 billion, equal to 2001, the peak of the expansion. Overall volume will remain strong but contractors still will find few true growth markets. Firms seeking growth will have to settle for winning larger market share. Click here to view F.W. Dodge: Contract Awards
Budget problems at both federal and state government levels are expected to slow the public works market, which has averaged an annual growth rate of 6.5% over the past four years. Dodge predicts that this market will decline 3% next year, to $85.5 billion.
The power of institutional building markets, which averaged annual increases of 8.3% over the last four years, will be idled in 2003. Dodge expects this market sector to rise just 1% next year, to $93.8 billion. Likewise, the value of contract awards for new single-family housing will show no growth next year after averaging a 7.8% annual growth rate since 1999. Click here to view chart
Compounding this slowdown will be further declines in several key nonresidential building markets, which were hit hard in 2002. Dodge forecasts that the office building market will decline another 3% next year, after tumbling 21% this year. Hotel and commercial building markets are expected to bottom out after double-digit declines in 2002, but no rebound is expected until after next year.
Dodge believes that the industrial market has nowhere to go but up after falling 26% in 2002, the fifth consecutive year of decline. But even if Dodge's predicted 6% increase in industrial work comes true in 2003, that market sector would still be 54% below 1997.
Contractors who became accustomed to robust market conditions for electric utilities during 2000 and 2001 will have to make big adjustments. Dodge predicts new utility contract awards will decline 24% next year, on top of a 39% falloff this year. However, next year's predicted $11-billion market could still be considered good by recent historical standards, up 17% from 1999's level, says Robert A. Murray, Dodge vice president of economic affairs, who is responsible for the forecast.
The same is true of the overall forecast. "In terms of rates of growth, it is not that positive of a story," Murray says. "But overall construction activity is still moving at a reasonably decent clip. We are not going to see a replay of the early '80s and '90s," when contractors were scrambling to survive, he adds.
But the economist cautions that there is "a lot of uncertainty moving into 2003." At the top of the list is the economic impact of a U.S.-led military action against Iraq. But even if peace prevails, the broader question remaining is whether the economic expansion takes firm hold. "We will need to see the overall economy grow 3% in 2003, with an accompanying gain in employment, for the office building market to see any chance of a turnaround in 2004," Murray says. Click here to view chart
If the economy can hold its ground, the depressed commercial markets may be ready to respond by 2004. "The market is suffering from weak demand as opposed to a decade ago when the problem was excess supply," says Sally Gordon, vice president and senior credit officer for Moody's Investors Service, New York City. As a result, an uptick in the economy now could much more easily spur new construction than it did in the early 1990s. "It's possible that we have arrived at the trough of the slump," Gordon says. Click here to view 'Looking for Hot Spots In A Cooling Market'
The two brightest spots in the Dodge forecast are a 7.4% increase in apartment building construction and a 2.9% hike in hospital work next year. In particular, the hospital market appears to be healthy, coming off a 17% increase this year, according to Dodge. "Health care has been a surprise," says Sheryl Maibach, vice president of contractor Barton Malow, Southfield, Mich. "We have seen more request for proposals for $100-million-plus projects in the last two months than we have seen in the previous two years." Even if apartments and health care fall short of their predicted increases, other markets--particularly schools and highways--are holding at such historically high levels that volume should be sufficient to keep contractor heads above water.
Other economic forecasts share Dodge's high-volume, low- or no-growth outlook. The National Association of Home Builders, Washington, D.C., predicts that housing will slip from its record level but maintain a healthy volume. NAHB's forecast is for single-family housing starts to decline 2.6% next year, to 1.3 million, and for multifamily starts to fall 6.5%. "The key shock absorber in the economy is excellent mortgage rates that have averaged around 6%," says David Seiders, NAHB's chief economist. "We look for rates to gradually edge up to 6.5% by the end of next year, which is not that big a deal."
The U.S. Commerce Dept. forecast calls for total construction put-in-place, adjusted for inflation, to decline 1.2% next year. "I'm very optimistic about highway construction because there is such a huge backlog that has been bottled up in the design pipeline for a long time," says Commerce economist Patrick MacAuley. He is less optimistic about industrial work, which is being "clobbered" by imports. "Until we can do something about the trade deficit, I don't think we'll ever see a boom in manufacturing building," MacAuley says.
The Portland Cement Association, Skokie, Ill., is forecasting a 1.5% drop in total construction next year with large declines for apartment, industrial and office building work. PCA sees military construction as one of next year's better growth markets. FMI Corp., Raleigh, N.C., predicts total construction next year will match 2002's total. Sewer and water facility markets are expected to be among the top growth markets, both increasing around 5% next year, says the management consultant. PCA and FMI's forecasts are adjusted for inflation.
THE GREAT UNKNOWN
The results of the Nov. 5 elections have cast even more uncertainty over what had been a cloudy picture for fiscal 2003 federal construction spending. When Congress took its election break in October, it had completed only two of the 13 annual appropriations bills--those for the Dept. of Defense and for military construction programs.
The $10.5-billion "milcon" bill is down 1% from 2002, but its family housing component rose 2%, to $4.2 billion. In the broader DOD measure, environmental restoration receives $1.3 billion, about the same as in 2002. Agencies funded by the other 11 appropriation bills were operating at fiscal 2002 levels under a continuing resolution in effect through Nov. 22.
As Congress returned for a "lame duck" session starting Nov. 12, the power equation had shifted. Republicans regained Senate control and added slightly to their majority in the House.
On Nov. 7, President Bush urged Congress to finish the appropriations bills. But it is unclear whether there will be another continuing resolution or an omnibus measure combining the unfinished 2003 bills. Peter Loughlin, Associated General Contractors' senior director for congressional relations, says the most likely outcome is for construction programs to be funded at 2002 levels through March 2003. That scenario should not pose problems, except for highway funding. "That's been in contention," he says.
Construction organizations and their Capitol Hill allies are campaigning to set core highway funding for 2003 at $31.8 billion, the same as 2002. The Senate Appropriations Committee approved $31.8 billion, but House appropriators recommended $27.7 billion. Industry did win a victory when Congress said that while the continuing resolutions are in effect, highway aid should be allocated at the $31.8-billion rate.
Appropriators had made headway on the non-DOD bills before the elections. Nearly all of the measures had at least cleared committee in one or both chambers. From those actions, some trends were clear. House and Senate Appropriations Committees rejected Bush's proposed cuts in the Army Corps of Engineers' civil works budget. The House panel allotted $1.8 billion for Corps construction, up 6% from 2002, and $408 million more than Bush sought. The Senate committee approved $329 million more than Bush's figure.
The Dept. of Energy environmental cleanup program is likely to receive an increase from the 2002 level of $7.1 billion. The House panel approved $7.5 billion for that activity in the next fiscal year. Senate appropriators allocated $7.3 billion. The General Services Administration's account for repairs and alterations also is in line for an increase. The House approved $979 million, up 18%; the Senate committee called for $996 million.
The funding that finally comes from Congress will go a long way toward determining the accuracy of this year's crop of forecasts, which universally assume an era of fiscal restraint slowing some of the industry's most vibrant markets. The new Congress may also alter the mix. "With Republicans regaining control of the Senate we may see more transportation funding and less money for environmental work than we otherwise would have," says Murray.
Office Market Nears Bottom but Turnaround Not Yet in Sight
"The fundamentals are in place for a turnaround in the commercial construction market," says Jim Costello, senior economist for Boston-based Torto Wheaton Research, a unit of national developer CB Richard Ellis Co. The firm's quarterly report on vacancy rates released Oct. 9 shows an increase in the national office vacancy rate from 15.6 to 16.1% and an increase in the industrial facility vacancy rate from 10.9 to 11.1%. However, the report also notes that 21 of the 51 markets tracked by Torto Wheaton had vacancy rates that fell or stayed the same for the quarter. The current slump in the buildings market "is a demand shock, not a supply bulge," says Costello. But he believes that the overall market turnaround is not yet in sight. Costello notes that the cost of land forces developers to build large facilities in the downtown areas of large cities, particularly in the East. Financing such large-scale ventures is a tough sell in the current climate. "The markets that are doing much better are those in smaller markets that were passed over in the recent building boom," he says. For example, Riverside County in California continues to grow largely because of relocations from Los Angeles, spurring a growing market in multiunit residential and office work. Click here to view chart
Commerce Dept. Sees 1.2% Decline in 2003
The U.S. Dept. of Commerce predicts overall construction will decline for a second consecutive year in 2003, after adjusting for inflation. The agency's forecast calls for total construction put-in-place to fall 1.2% next year, to $684.6 billion. This follows an estimated 1.7% decline for this year. "The forecast assumes that federal funding for construction will continue at the same level as this year," says department economist Patrick MacAuley. The educational and hospital building markets will continue to grow through next year, but Commerce sees the slump in nonresidential building markets deepening in 2003, with offices, hotels and commercial buildings posting double-digit declines for the second consecutive year.
PCA Predicts Weaker Markets Will Reduce Cement Consumption in 2003
Contractors will face even tougher conditions next year, according to Edward Sullivan, the chief economist for the Portland Cement Association. After adjusting for inflation, his forecast calls for overall construction to decline 1.5% in 2003 after falling 1.3% this year. PCA looks for the cement-intensive highway market to hold steady but weaker housing and nonresidential building markets will cut cement use by 1% in 2003.
NAHB Expects Strong Volume But No Growth For Housing Next Year
The residential construction market surprised many by shedding its cyclical reputation and posting impressive gains during the 2001 recession. Throughout this year's shaky recovery, housing starts rose another 5.3%, to a record 1.69 million units. But with mortgage rates bottoming out and only gradually rising, it will be difficult to set another record in 2003. "Demand is good and inventory is well-balanced and we are looking for a minor tapering off of 3.4%, to 1.3 million units next year," says David Seiders, chief economist for the National Association of Home Builders. NAHB predicts mortgage rates will increase from about 6% this year to 6.5% by the end of 2003, "which is not that big a deal," says Seiders.