With the government committing billions to a prolonged war in Iraq, the construction industry is becoming alarmed about the financial health of its biggest client. Roya Nikkhah reports on how the conflict is affecting the home front
Two weeks into a war that was supposed to be over in about the time it took to drive from Kuwait to Baghdad, the construction industry's mood is one of gloom interrupted by occasional flashes of optimism. As has been reported, the industry is not sanguine about the potential for business opportunities in the US-dominated reconstruction of Iraq, but that is not its main concern. The real worry is the war's impact on public sector investment at home.

Last week, chancellor Gordon Brown announced that he was to commit £1.25bn to financing the war effort, on top of the £1.75bn already allocated. This has worried the industry for a number of reasons. First, slowing growth in the private sector was reducing the Treasury's tax take anyway. Second, the cooling private sector has increased the relative importance of government-funded projects, which make up 40% and rising of construction output. Third, many firms have reorganised themselves to take advantage of increased public spending.

Little wonder, then, that Stephen Ratcliffe, the chief executive of the Construction Confederation, hopes that "public sector spending isn't hit by the withdrawal of funds to finance the conflict". Others express similar concerns, with varying degrees of pessimism. Michael Ankers, the chief executive of the Construction Products Association, fears the government may not honour its pledges to renew Britain's social infrastructure. "Every day in Iraq is costly to the British construction industry," he says. "If the government can't find the money for public sector spending at the rate it intended, there will be a direct knock-on effect for UK construction." Tim Sharp, communications director for Balfour Beatty, echoes this thought. "Where is all this extra money coming from?" he asks. "Quite possibly from budgets that generate construction."

The consolation for some is that the government will not be able to afford the political price of not building all those schools and hospitals, not refurbishing all those council estates. John Roberts is a director of consulting engineer Babtie, which relies heavily on state spending for its workload, and he remains optimistic. "It's unlikely Gordon Brown will siphon war funding from money earmarked for the public sector. The government has embarked on a war without much public support, and come election time it is more likely to risk the punishment of higher taxes than forfeit promises on building schools and hospitals."

And, assuming that the war does not turn into a Vietnam-style quagmire, there may be a peace dividend when it ends. As Balfour's Sharp puts it: "Post-war, there should be a general boost to the industry because projects that have been put on the back burner due to uncertainty can go ahead."

The housebuilding industry has been directly and immediately affected by the war. Statistics released last week by Hometrack, the property research and database company, showed a clear downturn in the market. London was hit hardest, with the average house price falling 0.2% to £230,000. John Wrigglesworth, an economist with Hometrack, blames the conflict for the weakening market: "If the war is over quickly, it will help raise confidence and buyers will come back. People are getting nervous and many land purchase decisions are on hold."

The tourist industry and its associated infrastructure is usually the first sector to feel the effects of conflict – during the last Gulf War, passenger numbers fell 7%. If this is repeated this time round, it would take £75m a year off BAA's revenue. The airport operator stresses that it has no plans to trim its investment programme – yet. A spokesperson said: "It is too early to determine what effect the war will have on business and construction plans."

Surprisingly, perhaps, the hotel sector remains unperturbed. Marriott and Hilton are building hotels, and others are taking advantage of the drop in guests to catch up on refurbishment. David Harper, director of Insignia hotels, says the conflict has a flip side for the sector: "Anyone with a bit of bottle can get good fixed-price deals from construction companies in the leisure sector. But if the war drags on and oil prices go through the roof, some hotel companies might need to rethink."

Every day in Iraq is costly … there will be a direct knock-on effect for UK construction

Michael Ankers, Construction Products Association

Similarly, most architectural practices are upbeat. S&P Architects is working on projects in the retail, leisure and education sectors, and has projects on site in Sweden, Holland, the Czech Republic and Greece. Director Chris Barr says: "No projects have been put on hold because of the war – although we sense some of our pipeline projects would receive a boost if there is a positive outcome soon, as a result of increased business confidence."

Looking abroad, Babtie's Roberts says events in Iraq appear to have had minimal immediate impact on the industry overseas. "Our projects in the Middle East remain completely unaffected. One of our biggest clients is the Ministry of Defence and we've had no indication that our work for them will change in the near future."

Contractors with work in the Middle East are hopeful that business will continue as normal. "The war has not yet affected our work out in Dubai and Turkey," says Balfour's Sharp. A spokesperson for Bovis said: "We have three projects in the Middle East at present and don't anticipate any major change in our operations."

Last week, Building revealed that British construction firms will not win major contracts to rebuild Iraq because of strict US procurement guidelines, which say that only American firms can win prime contracts funded by the US government (28 March, page 10). Despite the US' pledge to offer the UK main subcontracting work, the industry remains sceptical.

Mike Grice, director of consultants Heery International, is resigned to the fact that post-war reconstruction work is unlikely to involve the UK. "Clearly there will be major rebuilding works in Iraq, much of which will be done by the big American companies, which are already gearing up. You only have to look at what happened in Kuwait to see that the UK won't get much of a look-in."

But even if British firms miss out on the subcontracts, they may find that US firms' preoccupation with Iraq will allow them to win more work in other countries. As Stephen Rawlinson, an analyst at Old Mutual, says: "In theory, the market should tighten – you can't magic up more people."