High Prices Slow Construction Spending

Construction spending was relatively flat in December compared to November’s upwardly revised figures; spending ended the year at $1.64 trillion, 9% above the prior year. Private construction spending drove all of those gains. Prices for materials are still higher than pre-pandemic but the rate of price growth has begun to plateau.

Wages in construction have risen in 2021 in response to widespread shortages. One legacy of the subprime housing crisis and the drop in immigration has been a dearth of skilled carpenters. These cost pressures, along with shipping delays, will continue to hamper builders and are expected to linger in 2022, even as rising rates slow the pace of demand in residential construction. Backlogs are still substantial.

Private residential construction spending rose 1.1% in December, with single-family home construction accounting for the bulk of those gains. Multifamily construction spending rose 0.4%; increased demand for rentals, coupled with historically low vacancy rates for apartments, is providing a tailwind for builders. Rising rents are contributing to more investment in the multifamily space. Rising mortgage rates will transfer more demand out of home buying and into renting this year.

Private nonresidential construction spending was flat in December as ongoing delays on projects were offset by rising prices for materials and labor. According to the producer price index (PPI), inputs to new nonresidential construction have gained 30% since the pandemic began. Inflationary pressures show little sign of abating anytime soon. The Omicron wave caused disruptions that proved to be inflationary, but we expect the Federal Reserve to wait another month before raising interest rates.

The silver lining is that momentum in project planning during 2021 hit highs last seen during the 2006 housing boom, according to a nonresidential construction analytics firm. This will bring more activity on line in 2022.

Public construction spending was down 1.6% in December as all components of infrastructure spending fell. Funding released by the federal government to the states and municipalities will take time to be spent. States have seen significant budget surpluses, which are being allocated to next year’s spending plans. Additionally, the Department of Transportation is holding off on addressing project backlogs and making significant plans until further clarity is given at the start of 2022. This spending will be seen later in the year and will boost growth.

Bottom Line
Construction spending ended the year weaker than expected, given the rise in prices. Residential investment was a drag on growth for the third straight quarter in Q4; it will remain a drag on growth in the first quarter as the Omicron wave and severe winter weather add insult to injury. However, strong demand from the residential side, along with a resumption in investment from the commercial side means that improvements in overall construction spending are expected in 2022.

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