May 2, 2003--Construction, like the economy as a whole, is currently full of indicators pointing in opposite directions. Even a strong sector like housing has areas of weakness, while nonresidential construction has pockets of strength.

As for the broader economy, consider these recent indicators. At 10 a.m. this morning, the Census Bureau reported that new orders for manufactured goods (excluding semiconductor manufacturing) rose by a seasonally adjusted 2.2% in March to their highest level since May 2001.

Yet at 8:30 today, the Bureau of Labor Statistics (BLS) reported that the national unemployment rate, seasonally adjusted, moved up in April to 6% from 5.8% in March. Commissioner Kathleen Utgoff commented, "The modest decrease of 48,000 in payroll employment (-80,000 in the private sector) follows steep declines in February and March that totaled nearly half a million jobs. Manufacturing had its largest job loss in 15 months. Travel-related industries, such as air transportation, hotels and lodging places, and amusement and recreation services, also were weak in April."

Yesterday, the Institute for Supply Management said that its monthly survey of purchasing managers slipped a bit to 45.4% from 46.2% in March, which it said meant that "Economic activity in the manufacturing sector failed to grow in April, while the overall economy grew for the 18th consecutive month."

Finally, the Federal Reserve's April 23 "Beige Book", a summary of soundings of local businesses by economists in the 12 regional Fed banks, found that: "the pace of economic activity continued to be lackluster during March and the first two weeks of April....Businesses continued to report a cautious attitude toward spending, and commercial real estate was reported to still be in a slump. In contrast, homebuilding activity remained strong across all Districts."

Here's how these indicators are reflected in construction and what they portend for the future.

Current Construction Indicators

BLS reported today that construction employment edged up by 18,000 in April and 19,000 in March after a fall of 45,000 in February. The April total is 12,000 (0.2%) ahead of April 2002. For the past year, industry employment has been flat.

BLS divides construction into three broad groupings. Of these, general building contractor employment was up by 32,000 (2%) from April 2002, reflecting the still-strong market for homebuilding. Heavy construction, except building, shed 31,000 jobs (3%) in that time. Special trade contractors added 14,000 jobs (0.3%) over the year. Taking a longer perspective, Commissioner Utgoff pointed out, "Despite modest job growth among residential contractors since the recession began in March 2001, construction employment overall has declined by 225,000."

Value of construction put in place, on the other hand, eked out a record in 2002 of $846 billion (up 0.4% from 2001), then smashed it in January and February, rising for the sixth straight month to a seasonally adjusted annual rate (SAAR) of $877 billion before falling 1% to $868.5 billion in March, the Census Bureau reported yesterday. For the first three months of 2003, the unadjusted value put in place was 1.4% higher than in the first quarter of 2002. (SAAR is useful for comparing months within a year for statistics that vary significant by season, such as monthly construction data. Data that is not seasonally adjusted is valid for same-month or year-to-date comparisons.)

Census divides construction into private residential and nonresidential construction and public construction. Private residential building (including improvements to existing structures) and public construction each climbed by 6-7% in 2002, while private nonresidential construction fell by 13%. For the first quarter of 2003, these trends have diverged: The value of residential construction has strengthened further, rising by 11% from the first three months of 2002, but public construction turned down, slipping by 0.4%, while private nonresidential construction remained in the doldrums, dropping another 12%. Within these three sectors, multiple forces are at work.

This morning's report on March manufacturers' orders also shows mixed figures for construction firms. Orders for construction materials and supplies, seasonally adjusted, rose by 1.7% for the month, following decreases of 1.9% in February and 0.5% in January. The year-to-date total is up 2.1% from January-March 2002. Orders for construction machinery rose 2.6% in March following drops of 7% and 10% in February and January. Year-to-date construction machinery orders are down 5.5% from a year ago.

The Beige Book summary for real estate and construction stated, "Residential activity remained strong while commercial building activity continued to be characterized as sluggish. Most Districts reported high levels of residential building activity and sales. Still, some homebuilders suggested that there was a slight softening in their markets: In the Boston District, sales were being limited by supply, and in New York and Atlanta, demand for higher-end homes had eased.

"On the commercial side, weakness in construction activity persisted as none of the Districts reported solid improvements in the industry. Office vacancy rates continued to climb in the New York, Atlanta, Chicago, St. Louis, Minneapolis, Kansas City, Dallas, and San Francisco Districts, and some Districts reported falling rental prices.

"Home lending activity, fueled mainly by refinancing, remained strong across all Districts, but the Chicago District noted some slowing in mortgage activity."

Construction Outlook

What does all of this imply for construction in the months ahead?

As for residential construction, several factors should keep single-family construction strong in 2003. Indeed, value put in place in the first quarter was a phenomenal 14% ahead of last year's already strong first quarter. Mortgage rates, which Freddie Mac reported yesterday were just a hair above their 40-year lows and a full point below the year-ago levels, should stay comparable to, or better than, last year's rates. Personal income, which the Commerce Department on Monday reported had risen by 0.4% in March, should continue rising fast enough to outpace inflation, giving people the wherewithal to buy homes as well as other consumer purchases. These factors will keep resales and improvements to existing homes healthy, too. All of that is good news for a variety of nonresidential contractors as well. A strong new- and existing-housing market helps grading, paving and utilities contractors, in addition to other businesses that in turn spend more on construction: landscapers, furniture and furnishings stores, residential contractors themselves, real estate and mortgage brokers.

In contrast, rising rental vacancy rates have cropped up in most cities. The high level of housing sales is helping to draw tenants out of multi-family housing. Young adults who can't find a job are moving back in with parents instead of renting. And persistent unemployment also undermines the rental market. Although the value put in place for multi-unit housing in the first quarter rose 5% over last year's first quarter, much of that increase may have been momentum from projects started before vacancy rates rose so high. Multi-unit residential construction is likely to taper off later this year.

Public construction also faces a mixed outlook. The strongest major subsector here has been educational construction, which rose 13% in 2002 and 5% in the first three months of 2003 compared to January-March 2002. Within that category, K-12 school construction should remain strong, thanks to rising residential property tax assessments that are the backbone of school district financing and to the record volume of school-bond issues that have passed recently. But university construction will be caught in the same budget squeeze as most other types of state-funded spending--construction and otherwise.

As for federal support for construction, that battle will be ongoing. Thanks to your lobbying and that of our allies, most categories of federal construction spending held steady in the appropriations bills for 2003 that President Bush finally signed in February. But it's too early to say which way the numbers will move for the next fiscal year, which begins October 1.

The most mixed picture for construction is within the broad private nonresidential segment. Census now provides more detailed national information (in supplemental tables on the same website) than in its printed release. The detailed tables show some winners among the devastation. Health care construction (hospital, medical building and special care) jumped by 15% last year and is up by 18% so far in 2003. That's understandable, given the continuing double-digit increases in spending by employers, consumers and governments on health-related items. Meanwhile some of the worst-performing sectors in 2002 are now doing a bit better: factories (-44% in 2002, -28% so far in 2003), lodging (-29% and -19%), offices (-29% and -24%), warehouses (-26% and -20%), and shopping centers (-14% and -9%). All of these types of construction are likely to remain weak for the next several months, with very gradual improvement as the economic returns to health.

A special case is electric power construction, which was up 1% for 2002 but in the first quarter of 2003 was falling at a rate of 22% compared to the same months last year. The explanation lies in the long-term nature of power plant construction: the value put in place for the year reflected projects begun years ago but the monthly drop from the year before showed that cancellations were beginning to take their toll. With utilities still reporting losses or shrunken profits, this type of construction will shrivel more.

Construction costs, including wages, should remain well behaved for the most part. With construction employment flat and the core inflation rate (the rate excluding food and energy) running at only about 2%--one of the lowest levels in nearly 40 years--wage pressures should be minimal.

Despite the jump in overall producer prices the past three months, most prices not connected to energy are flat or falling, and there is capacity to spare throughout the manufacturing sector. The cost category most likely to go up by large amounts is insurance of any type. Premiums have increased by an average of 30%, and in some cases much more, and coverage has been substantially reduced.

Tax Policy

One final wild card deserves discussion: the outlook for tax relief. The House is expected to approve a 10-year bill totaling $550 billion, about three-quarters of what President Bush asked for in February. Today details of the plan put together by House Ways and Means Chairman Bill Thomas have come out. They include several items the President sought for individuals: acceleration to January 1, 2003 of individual rate cuts, child tax credits and so-called marriage penalty relief. AGC has favored the rate cuts as beneficial to owners of S corporations and partnerships and to recipients of wages or capital income from all sources.

On the business side, Thomas would cut the maximum tax on both capital gains and dividends to 15% in place of the President's proposal to eliminate double taxation of these items. AGC supported the President's proposal but many construction firms are likely to agree with Treasury Secretary John Snow's characterization of Thomas's plan as "a big step in the right direction." In addition, Thomas would allow companies with a net operating loss (NOL) in 2003 or 2004 to carry it back for five years instead of the current two-year carryback. That will help the many construction firms likely to have losses this year or next. (A 5-year NOL carryback was part of last year's stimulus bill but only for tax years ending in 2001 or 2002. The President's plan would trim the carryback to one year.)

Firms buying new equipment, including air-conditioning equipment (if not considered real property) would benefit from Thomas's proposal to increase the 30% "bonus depreciation" enacted last year to an immediate write-off (expensing) for 50% of the value equipment placed in service before the June 30, 2005. The richer bonus depreciation would benefit all companies and was not in the President's package. Like the President, Thomas also would hike the amount of investment that could be expensed by small purchasers to $75,000 from $25,000 under current law.

The Senate approved a budget resolution that would allow for only $350 billion of tax relief over 10 years and it is not clear which provisions would fit into a Senate bill, let alone a package that the President gets to sign into law. As a result, it is too early to say if a tax bill will help the economy in general or construction specifically.


For now, construction related to housing and some other types of consumer activity should remain strong. How business-related construction fares will depend in part on tax policy but more importantly on how rapidly domestic and foreign economies improve. And public construction is likely to turn down for the rest of this year at least, longer if state revenues don't revive soon.

Kenneth D. Simonson, author of the DATA DIGest Newsletter, is chief economist for the Associated General Contractors of America, 333 John Carlyle Street, Suite 200, Alexandria, VA 22314, (703) 837-5313; fax (703) 837-5406; e-mail; website