by Dr Ganesh Nana, Chief Economist, Business and Economist Research (BERL)
CONSTRUCTION ACTIVITY continues to fuel activity across the economy. Further, with the dairy sector boom having come to a grinding full stop as international prices plummet, the construction sector is now pretty much on its own as the engine of the country’s economic growth.
That’s a huge responsibility for one sector. But looking at some of the numbers, the sector is thriving and seems to be feeding on this burden.
In particular, the sector continues to grow noticeably faster than overall average GDP, while employment numbers are up strongly and are now well above any level experienced over the past two decades.
For the record, average economy-wide GDP growth for the past three years has been 2.6 percent per annum, while the construction sector GDP has grown at a spectacular 10.1 percent per annum over the same period. On the people side, there are now over 225,000 employed in the construction sector – close to one in 10 of all jobs across the economy. This contrasts with the turn of the millennia when construction sector jobs numbered around the 100,000 mark, or about one in 15 of all employed economy wide.
However, questions remain as to just how real is this boom?
Alternatively, how much is essentially a catch up of past deferred maintenance? Indeed, there is a view that we are now essentially paying for the ground lost during the 1990s when we swapped a fiscal (government budget) deficit for an infrastructure deficit. This perspective argues that ignoring infrastructure for any lengthy period of time inevitably results in a bigger bill sometime later.
If so, the outlook for construction sector activity is indeed bright, as the ongoing catch up continues to pile up construction order books. That may be a rose-tinted view of the sector, but it is clear that the appetite for long-term infrastructure investments has improved in both the public and the private sector. The prospect of relatively low interest rates for much longer (a fact that many are only now coming around to accept as an inevitability) assists in making such an appetite increasingly ravenous.
In terms of the square metres of consented non-residential building area activity (which is an indication of demand over the short-to-medium term), there is currently double-digit percentage growth in the hotels and accommodation, storage, health, education, storage buildings, and shop building categories.
Further, while much of the headline news is dominated by the Auckland building programme (transport, housing, retail, and related), communications, facilities and business plant investment remains solid across other regions. For example, the Bay of Plenty, Gisborne, Hawkes Bay, and Marlborough regions are running at more than 50 percent higher than 2014 in terms of area consented for non-residential building activity. Consents in Canterbury and Otago are up over 30 percent.
The boost in hotels and accommodation building activity is most noticeable in Canterbury and Otago, in line with the post-quake recovery (and now boom) in the tourism sector on the mainland. At the same time, a lift in activity in storage building is most noticeable in the Bay of Plenty, Hawkes Bay, Otago, and Marlborough regions.
This is consistent with the buoyant horticulture sector of the last couple of seasons, as apples, kiwifruit, and avocado harvests and returns soar to historic highs. The ongoing expansion of the wine export industry (now close to an annual $1.5 billion) is no doubt a factor here too.
Of course, residential housing adds to this pie for the building sector with record net inwards migration adding close to 25,000 families over the past year. Add in the natural increase in the population and the 26,000 consented new dwellings over the past year is barely enough to stand still when viewed in terms of supply/demand balance considerations.
So, is there a risk that these ‘good times’ might suddenly cease?
From my perspective there is a low probability; but if so, it won’t be fundamental demand considerations that will be the cause. The infrastructure and housing catch up has some way to go yet. And, as noted above, the medium-term outlook for interest rates remains lower for longer because inflation pressures are invisible at best.
Despite what finance and banking sector commentators may want you to believe, overall headline inflation is struggling to get to an annual one percent. Producer prices have barely moved in the past year. And inflation in prices of capital equipment (including construction materials, but excluding the residential building sector) remains close to an annual two percent.
Further, global non-fuel commodity prices are some 20 percent below those of a year ago – a plummet that is even larger if one were to include oil. So interest rates (domestically and globally) are set to concentrate on the problems of deflation rather than inflation.
Consequently, if the building sector good times were to sour, potential causes would arise from the consequences of deflation. In particular, if the global economy turned notably dark it would cause increasing difficulties for our export sector and so indirectly impact on construction sector activity.
From this perspective, Kiwi eyes are firmly on the health of the Chinese economy. Unfortunately, however, we have little power to influence that outcome.
Another source of potential difficulty arises if the policy levers (interest rates and government spending) took fright of ongoing expansion and applied the brakes prematurely. We saw this with the ill-thought interest rate hikes through the latter half of 2014.
Alongside this consideration, I would add limits to the capacity of the construction sector to meet further expansion. In other words, has there been sufficient long-term investment in workforce capacity and capability? Without such investment, the sector is more vulnerable to short-term economic (or policy) cycles.
I am reasonably optimistic that the sector is using the current boom times to invest in developing a trained, skilled, capable workforce and so provide a platform for improved long-term profitability.
However, I will be searching for evidence over the coming year to check whether or not my optimism is well founded.