Soaring materials costs have driven up building costs and tender prices, but the economic slowdown is set to apply the brakes. Peter Fordham of Davis Langdon reports

01 / Executive summary

Tender price index

Building prices continued to rise in London as materials cost inflation compensated for declining work prospects. Continuing activity and higher input costs will push prices up 3-5% over the next year. Outside London there is greater risk of declining prices.

Building cost index

The building cost index rose by 4.4% over the year to the second quarter of 2008. The next 12 months will see higher inflation, as a significant wage award and further materials price increases affect the index.

Retail prices index

The rate of increase in the retail prices index rose back to 4.4%. The consumer prices index rose to 3.4%, well outside its accepted range of 1-3%. Forecasters believe the retail prices index will still be at 4.3% at the end of this year, down to 2.6% next year.

02 / Trends and forecast

Bad news for the economy continued unabated in the second quarter of 2008.

This quarter, building tender prices continued to rise in Greater London – analysis of tenders over the past three months showed an average price rise of 1.5%, but some divergent trends are below this.

Major projects in the City of London have been affected by higher rates of inflation, as the largest contractors still have healthy order books and these projects have greater exposure to rising commodity prices and exchange-rate-driven inflation.

On the other hand, as the scale of project decreases there is greater competition, as smaller and medium-sized contractors are having to look for work to fill order books. If the property world continues to close down, market conditions generally could soon become cut-throat.

Over the past year, prices in Greater London have risen by about 6%, though on City office projects the increase has often been higher. Buying some trades remains a real problem at present.

Cranes still dominate the skyscape over central London. Several large schemes have only recently got under way, creating a cushion of activity for a handful of major contractors and subcontractors. London will also have work created by the Olympics to keep it going, for which orders will come into full swing next year at a time when private commercial activity will decline. Other parts of the country will be less fortunate and in most cities the industry has been shrinking rapidly.

The second quarter 2008 RICS construction market survey recorded the end of 11 years of growth, with the fastest rate of decline since 1995. The Construction Products Association anticipates output of new work will fall almost 2% in 2008, with a further 0.7% fall in 2009 before the housing market starts to recover in 2010.

In the light of current headlines, the CPA’s anticipation of a 20% fall in private housing output this year may be conservative. The industry will be more reliant on public sector spending on infrastructure, health and education. Even these could come under threat as government finances are hit by lower incomes.

There is increasing evidence of a two- or three-tier market.

A Federation of Master Builders survey of small and medium-sized construction firms found declining workloads in all sectors, but the largest contractors still have solid order books, as only a few are able to compete for the largest projects. As these have long time-frames, large contractors have work in the pipeline well into next year.

At the moment there is little evidence of increased competition or sharper pricing at the top of the market but, lower down, increased competition is manifesting itself in lower overheads and profit provision and a willingness to accept more varied types of procurement, such as single-stage tendering.

Over the next 12 months, contractors will get hungrier for work but, at the same time, be faced with higher wages and materials costs. Differential inflation is likely to affect different sectors. Smaller works will attract more competitive prices; similarly, contractors involved in housing work will trim prices where possible. Larger works with a lot of structural steel or reinforced concrete will suffer higher inflation as world steel prices continue to rise. Civil engineering works have already been hit with disproportionately higher costs for cement, aggregates, steel and fuel.

Inflation for most construction work over the next year should reduce – in Greater London prices are forecast to rise by 3 to 5%. Outside of London, price increases may well be lower as demand falls and competition prevails. Two years on, activity is likely to be even tighter and a slowdown in most Western economies may have taken the heat out of commodity prices.

Olympics-related activity and infrastructure work should keep the industry in London happy and inflation should remain relatively benign. Away from the capital, price inflation could drop as low as 2-3% or even into negative territory if materials inflation subsides and labour rates drop in a chase for work.

03 / Hot topic: from bad to worse

At the moment, the news paints a blacker picture of the UK economy every day.

Alastair Darling’s forecasts of 1.75-2.25% GDP growth this year and 2.25-2.75% next year look increasingly unlikely. GDP grew by 0.3% in the first quarter and interpretations of investment surveys suggest zero growth in the second quarter and possible negative growth in the third quarter. The possibility of real recession is more and more frequently on commentators’ lips.

The first half of 2008 heralded the worst first-half performance in stock markets for 14 years, with the FTSE declining 14.4%.

The FTSE 100 has now entered bear market territory (declining more than 20% below its peak in October last year). Developing nations have fared even worse, India’s main stock market has fallen by 34% since the new year and China’s by 48%.

All but a few banks have virtually closed up shop with a reluctance to lend to anybody without a cast iron guarantee. Risk has become a dirty word. The latest Bank of England credit condition survey for the second quarter of 2008 confirmed that corporate credit availability had been tightened over the previous quarter and anticipated a further reduction in availability over the next three months. Importantly, lenders reported a significant reduction in credit availability to the commercial real estate sector.

In June, house prices fell for the eighth month in a row, leaving them 6% lower than a year earlier, the steepest annual decline since 1992. Halifax figures show that prices have now fallen by 10% since they peaked last August. There are fears the fall could continue for some time. New mortgage approvals are two-thirds lower than a year ago and the number of approvals are the lowest since 1986.

As a result, some housebuilders have ceased production, with unsold stock on their hands and serious cashflow problems. The number of house completions this year is estimated to be about 40% less than last year, which will be the lowest level since the Second World War.

The stockmarket value of housebuilders is over 70% lower than a year ago, which also reflects large writedowns in the value of land banks. In recent weeks, several major housebuilders have announced job cuts, which have added up to about 40% of their workforces. It has been calculated that this could end in an eventual 100,000 job losses in the housebuilding industry as a whole.

Suffering in the retail sector is now beginning to show. M&S and John Lewis recently announced much worse than anticipated trading figures. Commentators now fear for the health of the rest of the retail sector.

New retail construction orders in the first quarter this year were down 29% on the same period last year. Following the completion of many large retail schemes this year, it is feared that any increase in demand may not return before 2011.

Property returns continued to fall in June. Capital values for offices, industrial and retail have fallen 18% to 20% over the last year, according to CB Richard Ellis.

The Monetary Policy Committee held interest rates at 5% at their July monthly meeting, restricted by their remit to control inflation rather than act to resist recession.

04 / Output and orders

National statistics show that total construction output in Great Britain, at seasonally adjusted constant prices, maintained a slight growth in the first quarter of 2008, but new work fell slightly for the second successive quarter from its 3Q07 peak.

Unsurprisingly, the largest fall in activity was in the private housing sector, where the value of output in the first quarter was 11% lower than during the first half of 2007.

However, the decline in construction work is more marked in new orders figures. New orders obtained by contractors in the first five months of 2008 were worth 10% less (at constant prices) than during the same period of 2007. The table (right) illustrates how the housing and private sectors have gone into sharp decline while work in infrastructure and public non-housing work have continued to rise.

05 / Input costs


In June, the national Construction Industry Joint Council wage agreement for building and civil engineering operatives brought in a 6% rise in the minimum basic wage rate for directly employed operatives. Those employed by small and medium-sized builders under the BATJIC agreement saw their wages rise by only 3.5% for qualified operatives and 4.5% for general operatives.

Eastern European labour has kept site pay in check, but there is evidence workers are going home as demand and wage rates in countries such as Poland rise and the pound weakens. If this continues, labour shortages could resurface and rates could rise.

On the other hand, construction earnings in spring were 1% lower than a year before, a sign of the effect of the declining workload. The collapse of housebuilding has resulted in bricklayers and carpenters seeking new areas of work and reducing their wage demands.


In the first five months of 2008, the price of construction materials rose by 3.6%. This has been beaten only twice in the past decade, in 2006 and 2004. Both years were dominated by steel price rises and 2008 has been too. Materials prices for new non-housing work rose by 10.1% and 9.8% in those years and, already in 2008, prices are up by 5.3%.

Apart from steel, other materials have also shown rises this year: cement and coated roadstone rose 10% and ready-mixed concrete 8% at the beginning of the year.

Non-aqueous paints have risen 9.5% and sand and gravel are up 7.5%. Despite the decline in the pound, imported timber prices have fallen 8.5% since the beginning of the year.


Steel price rises this year have far exceeded increases for other materials, owing to global demand. Fabricated structural steel had risen nearly 14% and reinforcement nearly 19% by May with further increases to follow. Corus introduced increases of £140 a tonne on structural sections in March and June and has announced a further rise of £90 a tonne in August. These add up to a 25% rise since the start of the year. Prices in the US and Asia have risen even faster than the UK and Europe.

Reinforcement prices have risen almost every month this year, driven by a surge in scrap prices. However, there are indications that scrap prices may have peaked and are in decline, so reinforcement may follow.

The steep rises in steel and reinforcement prices witnessed this year have prompted steel and concrete frame subcontractors to refuse to fix prices in contracts, leaving clients exposed to any further rises in world markets.

Non-ferrous metals

Copper and aluminium prices recently touched new highs for the year but lead, zinc and nickel prices have been in decline. Lead is now in oversupply so further falls may be expected. A 35% fall in nickel prices since March has knocked the alloy surcharge back. Stainless steel prices are 23% lower than a year ago.


Oil prices peaked at $145 (£72) a barrel in early July, having doubled over the previous year. Many believe the increase was driven more by speculators than by supply and demand. Long-term demand is sure to continue to rise but, in the short term, a world economic slowdown should reduce demand pressures. Most commentators believe that the oil price is likely to subside over the next two years, taking the pressure off inflation trends in construction and the wider economy.

Fuel prices – gas and electricity – normally peak in the winter and decline rapidly in spring. This year gas prices rose by 70% from their summer low last year to the price in January but instead of falling back have held up and marginally increased into spring. Electricity prices have been far less extreme but nevertheless have been reluctant to decline.


The pound, having fallen by 15% against the Euro between July last year and April this year, has settled down and been relatively stable over the last three months against the Euro and the currencies of our other trading nations. Nevertheless, the decline in the pound has resulted in a 20% rise in the cost of imported goods over the last year, many of which, such as M&E components, timber and curtain walling, end up in construction. Many believe that the slide in the value of the pound has ended and that some of the erosion will be reversed over the next year.