5 Year Forecast BCIS August 2008

‘Any economic measure, given too much prominence, starts to misbehave’

David Smith

FIVE YEAR FORECASTBCIS

© RICS - August 20083

84858687888990919293949596979899 0 1 2 3 4 5 6 7 8 9 1011121380

130

180

230

280

330

BCIS All-in TPIBCIS GBCI

ACTUAL FORECAST

Base index 1985 = 100

84858687888990919293949596979899 0 1 2 3 4 5 6 7 8 9 1011121390

110130150170190210230250270290310330350370390410430450

Labour Cost RPI Materials Cost

FORECASTACTUAL

Base index 1985 = 100

74 76 78 80 82 84 86 88 90 92 94 96 98 0 2 4 6 8 10 1260

80

100

120

140

160

180

200ACTUAL

TPI x 100 GBCI

Trend

FORECAST

Market Conditions Index =

BUILDING COST TRENDS

Figure A. Cost Trends

Figure B. Labour and Materials Cost Trends Figure C. Market Conditions Index

Summary of Forecasts

Annual % change 1Q06to

1Q07

1Q07to

1Q08

1Q08 to

1Q09

1Q09to

1Q10

1Q10to

1Q11

1Q11to

1Q12

1Q12to

1Q13

Tender PricesBuilding CostsNationally Agreed Wage AwardsMaterials PricesRetail PricesConstruction New Work Output*

+4.8%+5.6%

+4.2%+8.0%+4.4%

+4.7%

+2.9%+4.6%

+4.3%+3.7%+4.2%

+3.8%

+4.5%+5.8%

+4.9%+5.8%+2.7%

-1.0%

+3.9%+3.8%

+4.9%+3.0%+2.6%

0

+3.4%+3.3%

+4.7%+2.1%+2.1%

+2.0%

+4.3%+3.5%

+4.5%+2.4%+2.5%

+2.5%

+4.9%+3.4%

+4.5%+2.0%+2.0%

+3.5%* Year on year (ie 1Q06 to 1Q07 = 2005 to 2006)



EXECUTIVE SUMMARY

M Inflation should generally remain between 2% and 5% throughout the forecast period.

M GDP is expected to increase by around 1.5% per annum in 2008 and 2009, and by 2.5% over the following three years.

M Fixed investment, which includes new construction, rose by 6% in 2007 compared with 2006. Fixedinvestment is expected to rise by 2% this year and 1.5% next year.

M Materials prices are expected to rise well ahead of inflation in the first year of the forecast, rising at around thelevel of inflation over each of the remaining years.

M The average of wage awards is likely to stay well above general inflation during the forecast period.

M New work output is expected to fall a little in 2008, remaining unchanged in 2009, before rising at around itslong term trend rate in 2010, and moving ahead of trend in 2011 and 2012. It is anticipated that the only newwork sector to grow throughout the forecast period will be the infrastructure sector, with the public non housingsector being the other key growth sector during the first half of the forecast period, and the private housingsector over the second half. It should be noted that a significant proportion of the planned infrastructure workswill be centred around London.

M With new work output expected to fall in 2008, remain static in 2009, only returning to trend growth in 2010,tender price rises are expected to be driven by input cost pressures over the first three years of the forecast. Asnew work output moves ahead of trend in 2011 and 2012, tender price rises are likely to outstrip input costrises, as contractors try to improve their margins.



Source: BCIS, ONS1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005

0

10

20

30

40

-10

-20RPI Annual % ChangeTPI Annual % Change

1.0 LATEST TRENDS

1.1 Indices: 1Q07 - 1Q08 (Provisional)Between 1st quarter 2007 and 1st quarter 2008,tender prices rose by 2.9%, rising behind generalinflation of 4.2%.

In the August 2007 edition of the BCIS Five YearForecast, tender prices were forecast to rise by 5.5%in the year to 1st quarter 2008, against a backgroundof 3.3% general inflation. Also at this time, BCISpredicted that new work output would grow by 4.5%but it actually grew by 3.8%. Although new workoutput growth was well ahead of trend, the creditcrunch and slowdown in the economy may have beenmaking contractors a little nervous about futureworkloads when tendering for work in 1st quarter2008. This could have led to the quarterly fall intender prices and the consequentially lower annualincrease. Indeed, with new work output expected tofall slightly this year, input cost rises are likely to bethe key driver of tender price rises. Input cost risesare currently quite strong, and are expected to remainso over the coming year. Consequently, based oncurrent information, the fall in tender prices isthought to be a blip, and it is anticipated that tenderprices will rise next quarter.

The BCIS General Building Cost Index rose by 4.6%in 1st quarter 2008 compared with the same quarterin 2007, the same figure as forecast in last year’sedition of the BCIS Five Year Forecast.

2.0 ECONOMIC BACKGROUND

2.1 InflationInflation, as measured by the Retail Prices Index(RPI), has only risen above 10% for one sustainedperiod since the late 1940's. This occurred between1974 and 1981, barring 1978, with a peak of 24.2%in 1975. From 1983 to 1988, inflation remainedwithin a fairly tight band of between 4% and 6%.However, in 1989 it rose to 8%, rising again in 1990to 10%. In 1991, inflation fell back to 6%, and sincethen, inflation has remained fairly low and stable,generally running at between 1% and 4%.

Inflation has been rising since April 2008 and nowstands at 4.6% in June 2008.

According to the Treasury, the average ofindependent forecasts for retail prices inflationshows it falling to 3.1% by the end of 2008, fallingfurther to 2.4% by the end of the following year. TheTreasury no longer provide a medium term forecastof RPI.

The responsibility for controlling interest rates washanded over to the Bank of England’s MonetaryPolicy Committee in 1997. Their brief was to keepinflation at or near the Government’s target levelbased on underlying inflation (RPI excludingmortgage interest payments). At the end of 2003, theGovernment changed the basis for setting the targetrate of inflation to the Consumer Prices Index (CPI),which excludes a number of housing related itemssuch as council tax, mortgage interest payments,house depreciation, buildings insurance, and estateagents and conveyancing fees. Currently, theGovernment’s target level for inflation is 2.0% andin June 2008, the CPI stood at 3.8%.

Figure D. Tender Price and Inflation(Year on Year Percentage Change)

Table 1. Inflation Forecast

YearForecast - RPI Inflation % Year to 4Q

Av Independents 5/08

20082009

3.1%2.4%

Source: Treasury

2.2 GrowthThe long term annual rate of growth, as measured bythe change in Gross Domestic Product (GDP),currently stands at 2.5% when measured over theperiod 1949 to date. Annual growth has been positivefor most of this period, generally remaining below5%, but peaking in 1973 at 7.1%. On the other hand,there have been three periods where growth becamenegative, with falls of between 1% and 2%, namely1974 and 1975, 1980 and 1981, and in 1991.



Source: ONS, BERR5658606264666870727476788082848688909294969800020406

0

5

10

15

20

-5

-10

-15

Construction OutputFixed InvestmentGDP

Source: ONS, BERR5658606264666870727476788082848688909294969800020406

6

8

10

12

14

The rate of growth rose in 2006 to 2.9% from 1.8%in 2005, the rate remaining virtually unchanged in2007, at 3.0%.

The Treasury report that the average of independentforecasts for growth shows it falling to 1.7% in 2008,staying at around this level in 2009, before rising toaround its long term growth rate in 2010 and stayingthere over the next couple of years.

Table 2. GDP Forecast

YearForecast - GDP % Year on Year


20082009201020112012

1.7%1.6%2.5%2.6%2.5%

Source: Treasury

Fixed investment, including new construction, has along term trend rate of 4.0% per annum. In the past,a fairly close relationship has existed between thetrend in the annual percentage change in fixedinvestment and GDP as shown in Figure E.Historically, fixed investment has generally grownbetween 2% and 5% since 1949, although there havebeen a number of occasions when it rose in excess of10%. In 1953 and 1955, fixed investment rose by11%, in 1964 it rose by 16%, 1988 by 15% and in1998 by 14%. There have also been a number ofyears when fixed investment fell. These were 1969,1974, 1975, 1977, 1980, 1981, and from 1990 to1992. Fixed investment in 2006 and 2007 grew quitestrongly, rising by 7.6% and 6.2% respectively.

Figure E. Fixed Investment, Gross DomesticProduct (GDP) and Total Construction Output -

Annual Percentage Change

According to the Treasury, the average ofindependent forecasts shows fixed investmentslowing to 2.2% in 2008, slowing further to 1.5% in2009.

Table 3. Fixed Investment

Forecast Date ofForecast

Fixed Investment % Year onYear

2008 2009

AvIndependents

Treasury

5/08

3/08

2.2%

1.8 - 2.3%

1.5%

2.8 - 3.3%

Source: Treasury

Historically, the trend in fixed investment has alsobeen similar to the trend in total construction output.However, in some years the increase in fixedinvestment has significantly outweighed the increasein total construction output, which implies that a largeproportion of the rise in fixed investment was spenton plant and machinery rather than construction.

Total construction output as a percentage of grossdomestic product (GDP) peaked at 13.2% in 1967.Since then, there has generally been a downwardtrend and the percentage currently stands at 7.3%.

Figure F. Total Construction Output as aPercentage of Gross Domestic Product (GDP)



123412341234123412341234123412341234123412341234123412341234123412341234123412341234123486 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07

0

5

10

15

Interest Rate RPI Annual % Change

Source: ONS, Treasury

2.3 Interest RatesInterest rates are currently significantly lower thanthey were in the latter part of the 1980's and earlypart of the 1990's, when rates ranged between 10%and 15%. In the first half of 1992, interest rates hadfallen to 10% and at that time, Sterling was beingkept within the parameters set for the Exchange RateMechanism (ERM) by keeping rates artificially high.The UK was in a recession and inflation wasrelatively low, which meant that the real cost ofborrowing was exceptionally high. The high rateswere thought to be unsustainable and with pressuremounting on Sterling in September 1992, the UKwithdrew from the ERM. Following this, rates fellaway sharply, and since 1993, interest rates haveremained in a band between 3.5% and 7.5%. At themoment, rates stand at 5.0% having previously beenreduced on 10 April 2008 by 0.25%.

The Treasury report that the average of independentforecasts shows interest rates falling to 4.5% by theend of 2008, falling further to 4.25% in 2009, risingto 4.75% in 2010, rising again to 5.0% in 2011 andstaying there in 2012. Table 4. Interest Rate Forecasts

YearForecast - Interest Rates % Year to 4Q


20082009201020112012

4.504.254.755.005.00

Source: Treasury

Fig G. Interest Rates and Inflation

3.0 MATERIALS

3.1 PricesA fairly close relationship between materials pricesinflation and retail prices inflation existed up until1996 as shown in Figure I. Since then, therelationship has rarely been re-established.

Over the period 1996 to 2000, general inflationoutstripped materials prices inflation, with materialsprices actually falling in 1999 compared with a yearearlier. On the other hand, from 3rd quarter 2002 to2nd quarter 2003, materials prices rose faster thangeneral inflation, partly as a result of the introductionof the Aggregates Levy in April 2002 and the hike inthe cost of rebar following the collapse of ASW, whoused to supply in the order of 60% of the country’ssteel.

Once again, during the period between 2nd quarter2004 and 3rd quarter 2005, materials prices inflationrose faster than general inflation. This was mainlydue to soaring steelwork prices, rapidly rising oilprices and a significant increase in the price ofcement. The sharp rise in steelwork prices resultedfrom worldwide demand outweighing the supply ofraw materials used for steelmaking, and associatedincreases in shipping prices, with demand from Chinabeing particularly strong. Also in 1st quarter 2005,the price of cement rose quite steeply due to risingenergy prices and European legislation to reduce therisk of skin disease and the number of hours thatdrivers can work.

Materials prices rose by 8.0% in the year to 1stquarter 2007 and by 3.7% over the following year.By comparison, general inflation rose by 4.4% and4.2% over the same periods.

The large increase in materials prices between 1stquarter 2006 and 1st quarter 2007 was mainly as aresult of strong demand for materials from developingcountries such as China, in particular the demand formetals such as steel and copper.

Notable rises in some materials prices in the year to1st quarter 2008 include softwood and lead.Disaggregating the materials costs from the BERRFormula Fluctuations Index for softwood joineryshows that the cost of softwood rose by 8.3% in 1stquarter 2008 compared with a year earlier. A similardisaggregation from the BERR Formula FluctuationsIndex for Leadwork shows that lead rose by 56.2%over the same period. Figures from the London MetalExchange (LME) show lead rising by 62% between1st quarter 2007 and 1st quarter 2008.



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Jan 97Jul

97Jan

98Jul

98Jan

99Jul

99Jan

00Jul

00Jan

01Jul

01Jan

02Jul

02Jan

03Jul

03Jan

04Jul

04Jan

05Jul

05Jan

06Jul

06Jan

07Jul

07Jan

080

20

40

60

80

100

120

140

Source: USEIA

Source: BCIS,ONS

78 80 82 84 86 88 90 92 94 96 98 00 02 04 0650

100

150

200MaterialsRPI

Annual increases in the cost of copper have becomemore subdued as shown by disaggregating thematerials cost from the BERR Formula FluctuationsIndex for Copper Tubes, Fittings and Cylinders,which shows an increase in 1st quarter 2008 of 4.9%.However, the LME increase in the year to 1st quarter2008 shows an increase of 31%, and this increase istherefore likely to be picked up in the BERR indicesin the next couple of quarters.

Increases in the cost of steelwork have also becomemore subdued with the BERR Formula FluctuationsIndex for Steelwork Materials rising by 4.5% in theyear to 1st quarter 2008. However, Corus announceda £60 per tonne increase for steel sections from 30March 2008 which should be picked up in the indicesnext quarter. Corus expect the market to remainbuoyant in 2008.

The cost of cement rose quite sharply at thebeginning of the year, rising in the order of 6% inJanuary 2008 and a further 3% in February 2008compared with the previous month, as did the cost ofgravel, sand and coated roadstone, which rose by 5%in January 2008.

The price of crude oil rose by over 70% in 1st quarter2008 compared with 1st quarter 2007. The BERRFormula Fluctuations Index for Gas Oil Fuel showsan increase of 54.4% in 1st quarter 2008 comparedwith a year earlier. World crude oil prices werearound $130 a barrel in June 2008 compared witharound $65 in June 2007, and remain historicallyhigh (Fig I).

Fig H. World Crude Oil Prices(Monthly Average Price ($) Per Barrel)

Materials prices inflation is expected to be well aheadof general inflation over the first year of the forecastperiod as strong demand from developing countriessuch as China continues. Furthermore, although theprice of crude oil fell back recently, it is anticipatedthat it will still be significantly higher in 1st quarter2009 compared with a year earlier. Oil prices willalso continue to impact on the cost of derivatives suchas bitumen and plastics and ‘cooked’ materials suchas cement and bricks. As the market settles down, itis anticipated that materials prices inflation will slowin the year to 1st quarter 2010 to near the level ofgeneral inflation, staying at or around the level ofgeneral inflation over each of the final three years ofthe forecast period.

Figure I. Construction Materials and Retail Prices

Table 5. Forecast of Materials Prices

Period Forecast

1Q08 to 1Q091Q09 to 1Q101Q10 to 1Q111Q11 to 1Q121Q12 to 1Q13

5.8%3.0%2.1%2.4%2.0%

Source: BCIS



4.0 LABOUR

4.1 Earnings, Wages and RatesIn the year to 1st quarter 2007, average earnings inthe construction industry rose by 2.8%, and by 0.9%over the following year. By comparison, averageearnings in the whole economy rose by 3.5% and3.7% over each of the comparison periods.

Scottish plumbers received a 4.6% increase in wagesfrom 2 June 2008, the first part of a two year wagedeal. The second part of the award is also worth4.6%, and is effective from 1 June 2009.

Builders under the BATJIC agreement received anew wage award from 9 June 2008. Wages forintermediate and advanced craftsmen rose by 3.5%,whilst those for adult general operatives rose by4.5%.

Builders and civil engineering operatives workingunder the CIJC agreement received a 6.0% increasefrom 30 June 2008, the third and final part of a threeyear wage deal.

Operatives in the demolition industry received a 4.2%increase in wages from 20 July 2008, as the secondpart of a three year wage award. The final part of thedeal also amounts to a 4.2% increase, applicable from20 July 2009.

Builders in Northern Ireland received an increase of6.0% in wages from 4 August 2008, the second partof a three year wage deal. A similar increase of 6.0%will become effective from 3 August 2009.

Operatives in the heating and ventilating industry willget a 4.0% increase in wages from 6 October 2008,the final part of a three year wage award.

Table 6. Construction Industry Wage Awards 2008 - 2010

Trade2008 2009 2010

Operative Date Award Operative Date Award Operative Date Award

Thermal Insulation Industry 01/01/08 7.0% 01/01/09 6.0% 01/01/10 6.0%

Flat Glass Industry 01/01/08 3.5%

Plumbers - England 07/01/08 4.5% 05/01/09 4.5%

Electricians - England 07/01/08 4.0% 05/01/09 4.5% 04/01/10 5.0%

Electricians - Scotland 07/01/08 4.0% 05/01/09 4.5% 04/01/10 5.0%

Steelworkers 28/01/08 4.9% 05/01/09 6.6%

Plumbers - Scotland 02/06/08 4.6% 01/06/09 4.6%

Builders (BATJIC) 09/06/08 3.8%

Asphalters 23/06/08 4.7%

Builders (CIJC) 30/06/08 6.0%

Civils (CIJC) 30/06/08 6.0%

Demolition 20/07/08 4.2% 20/07/09 4.2%

Builders - Northern Ireland 04/08/08 6.0% 03/08/09 6.0%

Heating and Ventilating 06/10/08 4.0%

Source: BCISThe average of wage awards is expected to rise wellahead of general inflation throughout the forecastperiod.

Table 7. BCIS Forecast of Wage Settlements

Period Forecast


4.9%4.9%4.7%4.5%4.5%

Source: BCIS

4.2 Overheads Employees currently pay 11% National Insurance onearnings between £5435 and £40,040 per annum and1% above this amount. Employers pay 12.8% onearnings above £5435.

The Construction Industry Training Board (CITB)levy remains at 0.5% for PAYE and 1.5% for labouronly subcontractors.

It is assumed that there will be no changes to eitherthe rate of National Insurance or the CITB levywithin the forecast period.



Source: BERR

56

5758

5960

6162

6364

6566

6768

6970

7172

7374

7576

7778

7980

8182

8384

8586

8788

8990

9192

9394

9596

9798

9900

0102

0304

0506

07

0

10

20

30

40

-10

-20Total Construction Output - Annual % Change

Source: ONS, BERR

56 58 60 62 64 66 68 70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06

0

10

20

-10

-20

GDP - Annual % changeTotal Construction Output - Annual % changeNew Work Construction Output - Annual % change

5.0 MARKET CONDITIONS

5.1 OutputThe long term annual trend rate of growth in totalconstruction output is 2% when measured since 1956.There has been a cycle of falls in construction outputover this period, which have generally occurred everyfive to six years as shown in Figure J. Several ofthese falls were over sustained periods includingduring 1969 and 1970, 1974 to mid 1977, mid 1980to early 1982 and mid 1990 to early 1994.

The cycle of five to six year falls seems to have beenbroken over the last 10 years or so , with only shortperiods of falling output occurring in early 1999, late2000 and early and late 2005. This could indicate thatthe construction industry has moved away from theboom and bust of the previous 40 years and hasentered a period of greater stability. Despite theuncertain state of the construction industry currently,any fall in total construction output over the comingyears is not thought to be anything like as deep or aslong as those during the boom and bust period.Indeed the BCIS econometric model, which is basedon the Joseph Rowntree Foundation Housing andConstruction (JR) Model, shows that no sustainedperiods of falling output are forecast over the nextfive years (Table 13). However, the ConstructionProducts Association (CPA) are expecting totalconstruction output to fall moderately in 2008 and2009 as are the Forecasting Committee (FC).CPAand FC are forecasting a return to growth in 2010,and CPA also project above trend growth in totalconstruction output for 2011 and 2012.

Historically, a reasonably close relationship hasexisted between the annual percentage change in newand total construction output and growth in the wholeeconomy (Fig K). However, when growth in thewhole economy has been strong, the increase in theannual percentage change in construction output hastended to be significantly stronger, but when growthin the whole economy has become negative,considerably larger falls in construction output haveoccurred.

Total construction output grew by 1.1% in 2006 andby 2.4% in 2007, with growth in the whole economyrising by 2.9% and 3.0% over the same periods. Withthe forecast for the whole economy showing itgrowing over each of the next five years, the longterm relationship would imply that total constructionoutput should rise over each year of the forecast.

Figure J. Total Construction Output -Long Term Trends

Figure K. Gross Domestic Product (GDP) andNew and Total Construction Output

According to the Office for National Statistics(ONS), total construction output in Great Britainrose by 1% in 2006 and by 2% in 2007 comparedwith the previous year.

In 2006, total new work output rose by 5% and in2007 it rose by 4%.

The majority of new work sectors in 2006 hadincreased output. The public and private housing,private industrial and private commercial sectors allhad increased output, with all bar the private housingsector having double digit increases. Output fell inthe infrastructure and public non housing sectors. In2007, all new work sectors had increased output,



Source: BERR

Private Commercial20%

Other Private R&M15%

Private Housing R&M14%

Private Housing14%

Public Other8%

Public Housing R&M8%

Other Public R&M7%

Infrastructure6%

Private Industrial5%

Public Housing3%

except the private housing and public non housingsectors where output fell. The public housing andprivate commercial sectors both had double digitincreases but it should be borne in mind that thepublic housing sector represents a very smallproportion of total output.

Table 8. Construction Output(constant prices seasonally adjusted)

SectorYear on Year

2006 2007

NEW WORK:Housing

PublicPrivate

InfrastructureOther new work

PublicPrivate

IndustrialCommercial

+22%+2%-7%

-5%

+11%+13%

+14%-2%+2%

-5%

nc+13%

Total New Work +5% +4%

REPAIR AND MAINTENANCE:Housing

PublicPrivate

Non-housingPublicPrivate

-3%-3%

-7%nc

-4%+2%

-10% +9%

Total Repair and Maintenance -3% +1%

Total All Work +1% +2%

Source: ONS

Figure L shows the relative importance of each sectorin relation to total construction output in 2007.

Figure L. Construction Output 2007(Constant 2000 Prices, Seasonally Adjusted)

5.2 OrdersThe volume of new orders tends to be erratic overtime, due to the nature in which the volume isrecorded, that is at the point the contract is placed.As a result, large projects particularly distort thefigures. In the past, extended periods of falling yearon year orders have tended to be followed by fallingyear on year new work output as shown in Figure M.

The total volume of construction orders in GreatBritain rose by 6% in 2006 and by 2% in 2007,compared with the previous year.

In 2006, orders rose in the public housing, privateindustrial and private commercial sectors, withsizeable increases in the public housing sector of30% and in the private commercial sector of 35%.Orders fell in the private housing, infrastructure andpublic non housing sectors, with a particularly largefall of 28% in the infrastructure sector. In 2007,orders rose in all but the private housing and privateindustrial sectors, where orders fell. Theinfrastructure sector had a large increase in orders of27%.

Table 9. New Orders for Construction(constant prices seasonally adjusted)

SectorYear on Year

2006 2007

HousingPublicPrivate

InfrastructureOther new work

PublicPrivate

IndustrialCommercial

+30%-3%

-28%

-8%

+4% +35%

+4%-6%

+27%

+6%

-11% +2%

Total New Work +6% +2% Source: ONS



Source: BERR

84

8586

8788

8990

9192

9394

9596

9798

9900

0102

0304

0506

07

0

20

40

-20

Total New Orders - Annual % ChangeNew Work Output - Annual % Change

Source: BERR

Private Commercial38%

Private Housing23%

Public Non Housing14% Infrastructure

12%

Private Industrial8%

Public Housing5%

Figure M. Total New Orders and New WorkConstruction Output - Long Term Trends

Fig N shows the relative importance of each sectorwith regard to total construction orders in 2007.

Figure N. Construction New Orders 2007(Constant 2000 Prices, Seasonally Adjusted)

The Joseph Rowntree (JR) model shows ordersfalling significantly in 2008, remaining virtuallyunchanged in 2009, rising steadily in 2010 and 2011,before another large fall in orders in 2012.

Table 10. Construction Orders Forecast - JosephRowntree Foundation Housing and ConstructionModel

Year on Year Forecast

2008 -9.2%

2009 +0.4%

2010 +2.8%

2011 +3.0%

2012 -16.0%

Source: JR(6/08)

5.3 HousingHousing starts in Great Britain over the last 10 years(1998-2007) rose by 4% compared with the previous10 year period (1988-1997). Over the samecomparison period, starts fell by 6%. Between 1988and 1997, 1.86m houses were started and 1.91mwere finished. In the following 10 year period,1.94m houses were started and 1.80m houses werecompleted.

In 2007, housing starts fell by 4% compared with2006, but completions rose by 7%.

The Forecasting Committee (FC) expect a significantdecline in housing starts in 2008, falling to 132,000from 207,000. A further fall is expected by FC in2009 to 124,000, before a rise to 148,000 in 2010.The Construction Products Association (CPA)anticipate that housing starts will fall to 148,000 in2008, fall further to 145,000 in 2009, and rise in2010 to 168,000. FC forecast a similar trend withhousing completions, with completions falling to148,000 in 2008 from 207,000, falling to 142,000 in2009, and rising to 149,000 in 2010.The forecast ofcompletions by CPA shows them falling to 181,000in 2008, falling again in 2009 to 165,000, beforerising to 179,000 in 2010.

According to the Department for Communities andLocal Government, the number of additionalhouseholds required in Great Britain between 2006and 2011 are forecast to be 1,265,000 which equatesto an average of 253,000 households per annum.This suggests that demand for housing over the nextfew years should be considerable.



Source: DCLG, FC

85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10100

150

200

250

Starts Completions

FORECASTACTUAL

Forecast based on figures from the Forecasting Committee (FC)

Table 11. Housing Starts and Completions (Great Britain)

Sector

Thousands of Dwellings

Housing Starts

HousingCompletions

1985198619871988198919901991199219931994199519961997199819992000200120022003 2004200520062007Forecast2008 FC CPA2009 FC CPA2010 FC CPA

200214230253201164163156184201168175190177179178180181194214213216207

132148

124145

148168

197206216232211196185172179186191180181170173167161169176188194193207

148181

142165

149179

Source: DCLG, FC (7/08), CPA (6/08)

Figure O. Housing Starts and Completions in Great Britain

The Halifax Bank of Scotland (HBOS) report thathouse prices fell by 2.0% in June 2008 comparedwith the previous month, and by 6.1% comparedwith a year earlier. According to HBOS, this fall inprices is the result of a squeeze on spending power,affordability issues due to the rapid rise in houseprices over the last few years, and the decline incredit availability. HBOS believe that the housingmarket is still underpinned by sound fundamentalssuch as the record level of employment, low interestrates and a shortage of new houses.

According to the Nationwide Building Society,house prices fell by 0.9% in June 2008 comparedwith May 2008 and by 6.3% compared with thesame month in 2007. The Nationwide hold similarviews to those of HBOS regarding the current stateof the housing market.

5.4 Output ForecastsThe Construction Products Association (CPA)revised their forecast of total construction output inJune 2008. The revised forecast shows totalconstruction output falling by 1.3% in 2008, fallingagain by 1.6% in 2009, and then rising in 2010 by0.7%. Previously, CPA were forecasting a rise of1.1% in 2008, 1.2% in 2009 and 0.7% in 2010.

CPA expect new work output to fall by 1.8% in2008, fall further in 2009 by 0.7%, returning to a riseof 1.7% in 2010. CPA’s previous forecast showednew work output rising by 2.5% in 2008, 3.1% in2009 and 0.9% in 2010.

The public non housing sector is one of the two newwork sectors that CPA expect to grow over the nextthree years. Strong growth is expected in 2008 and2009, with growth slowing somewhat in 2010. Thegrowth is expected to be supported by the educationsub sector, through the Building Schools for theFuture programme, particularly in 2008 and 2009.Health related projects are expected to boost growthin 2008, but little additional growth is forecast for2009 and 2010. Prison work to create 10,500 newprison places between 2009 and 2012, together with2012 Olympics related work should also add awelcome boost to growth.

The other sector expected to have year on yeargrowth over the next three years is the infrastructuresector. It is anticipated that growth will be supportedby the rail sub sector, through projects such asThameslink, line extensions, and Crossrail from2010. With an 8% increase in investment in thecurrent five year capital expenditure plan (2005 –2010) compared with the previous plan, the water



and sewerage sub sector is set to boost growth in2008 and 2009 in particular.

According to CPA, output in the public housingsector is likely to fall in 2008, recovering to a modestrise in 2009, before rising more strongly in 2010.CPA now believe that the government target for newhousebuilding is unlikely to be met in the near future,constrained by the decline in the private housebuilding sector, and tightening public investment.

The CPA expect output in the private housebuildingsector to decline dramatically in 2008, falling by20%, followed by a further fall of 5% in 2009, witha return to strong growth of 14% in 2010. The creditcrunch is the root cause of the anticipated significantdecline in 2008, which has led to a tightening incredit availability for potential house buyers. Also,the economy is currently suffering from the globaleconomic slowdown, and consumers are being hit byrising fuel and food prices.

The CPA anticipate that construction output in theprivate industrial sector will go in to recession in2008, and remain there over the following two years.Following significant investment in this sector overrecent years, CPA believe that there is little scope forincreased growth over the coming few years.Furthermore, with the economic slowdown,manufacturers are having to absorb sharplyincreasing input costs rather than passing them on inoutput prices, hence reducing profit margins.

In the private commercial sector, CPA expect outputto grow in 2008, but decline in 2009 and 2010. Workalready on site is expected to support growth in 2008.Although growth in PFI work for education andhealth schemes is likely during the next three years,it is unlikely to offset the falls in output in the officesand retail sub sectors which have both been hit by theeconomic slowdown.

The Forecasting Committee (FC) revised theirforecast of total construction output in July 2008. FCare currently forecasting a fall in total constructionoutput of 1.8% in 2008, followed by a further fall of1.0% in 2009, returning to growth of 0.9% in 2010.Previously, FC were forecasting a fall in totalconstruction output of 0.4% in 2008, followed by arise of 1.7% in 2009 and a further rise in 2010 of1.3%.

FC now believe that total new work output will fallby 3.4% in 2008, fall further in 2009 by 1.5%, andreturn to growth in 2010, rising by 1.2%. Previously,FC were forecasting a fall of 1.1% in total new work

output in 2008, a rise of 1.3% in 2009 and a rise of1.0% in 2010.

In the new work sectors, the CPA and FC forecastsdiffer in the following areas. In the public housingsector, CPA expect output to fall in 2008, whilst FCexpect it to rise, and in 2009, FC are more bullishabout growth in output.

In the private housing sector, FC believe that outputwill decline much more steeply than CPA in 2008and 2009, and will grow significantly slower in2010.

FC are forecasting much stronger growth in theinfrastructure sector in 2010 than CPA.

The CPA forecast also includes what they call aprojection for 2011 and 2012. Currently, they areprojecting that total construction output will rise by1.9% in 2011 and by 2.8% in 2012. Their projectionfor new work output is for it to grow by 2.7% in2011 and by 4.2% in 2012.

Table 12. Construction Output Forecasts Sector Percentage Change

2008Forecast

2009Forecast

2010Forecast

Public Housing FC CPA Private Housing FC CPA Infrastructure FC CPA Public Non-Housing FC CPA Private Industrial FC CPA Private Commercial FC CPA

+5.0%-4.0%

-30.0%-20.0%

+7.0%+8.7%

+15.0%+11.6%

-8.0%-10.2%

+4.0%+4.4%

+8.0%+2.0%

-15.0%-5.0%

+8.0%+7.0%

+8.0%+6.7%

-6.0%-7.2%

-3.0%-3.2%

+8.0%+8.0%

+5.0%+14.0%

+12.0%+1.7%

+3.0%+3.7%

nc-0.9%

-6.0%-6.0%

Total New Work FC CPA Repair & Maintenance FC CPA

-3.4%-1.8%

+0.2%-0.7%

-1.5%-0.7%

-0.4%-2.7%

+1.2%+1.7%

+0.6%-0.5%

Total FC CPA

-1.8%-1.3%

-1.0%-1.6%

+0.9%+0.7%

Source: FC (07/08), CPA (06/08)



Source: BCIS/BERR74 75 76 77 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07

0

10

20

30

40

-10

-20

TPI Annual % ChangeTotal Construction Output Annual % Change

According to the JR Model (Table 13), new workoutput is expected to fall a little in 2008 and 2009,before rising above trend over the following threeyears. The model also shows total construction outputrising well below trend in 2008 and 2009, moving toabove trend growth in 2010 and staying above trendin 2011 and 2012.

Table 13. Construction Output Forecast - JosephRowntree Foundation Housing and ConstructionModel


Total New Work Output

TotalOutput

20082009201020112012

-1.0%-0.6%+3.1%+3.6%+3.2%

+ 0.4%+0.4%+ 2.6%+ 2.9%+2.7%

Source: JR(6/08)

The BCIS forecast of new work output shows itfalling a little in 2008, remaining unchanged in 2009,returning to trend growth in 2010, and rising abovetrend in the following two years. The credit crunchand the slowdown in the economy are now expectedto have a greater effect on construction than firstthought, in particular affecting the private housingand private commercial sectors. These economicfactors primarily account for the anticipated fall innew work output in 2008 and its static state in 2009.The only new work sector to have growth throughoutthe forecast period is likely to be the infrastructuresector, with the public non housing sector being theother key growth sector over the first half of theforecast period, and the private housing sector overthe second half. It should be noted that a significantproportion of the planned infrastructure works will becentred around London.

The BCIS forecast of new work output follows asimilar trend to that of the JR Model over the firstfour years of the forecast, but in 2012, the BCISforecast shows output growth rising rather thanslowing.

Table 14. New Work Output Assumptions


20082009201020112012

-1.0%nc

+2.0%+2.5%+3.5%

Source: BCIS

6.0 TENDER LEVELS

6.1 Long Term TrendsHistorically, a fairly close relationship has existedbetween the annual percentage change in tenderprices and total construction output, with movementin tender prices being demand led, as shown inFigure P.

Figure P. Tender Price and Total Construction Output

(Year on Year Percentage Change)

Since the mid 1970's, Fig P shows that the annualpercentage change in tender prices has had a cycle offalls, or a considerable falling back every five years.A 10 year cycle of falls also appears to exist, whichwhen coinciding with the previously mentioned fiveyear cycle, exaggerates the falls in the annualpercentage change in tender prices. This occurred in1981 and at the start of the 1990s and wasaccompanied by falling output.

Over recent times, the cycle of falls in the annualpercentage change in tender prices has been broken,with no falls or significant falling back.

No sustained period of falls in the annual percentagechange in tender prices is expected during theforecast period.

Looking back over the last 30 years shows that theannual percentage change in the BCIS GeneralBuilding Cost Index has generally been at or abovethe level of retail prices inflation. (Fig Q). Retailprices inflation has only outstripped general buildingcost inflation for a sustained period on three



7879808182838485868788899091929394959697989900010203040506070

5

10

15

20

25

GBCI Annual % ChangeRPI Annual % ChangeSource: BCIS, ONS

occasions during this period . These periods werebetween 3rd quarter 1981 and 1st quarter 1982, 1stquarter 1990 and 1st quarter 1991 and between 3rdquarter 1997 and 2nd quarter 1998.

The long term trend of the BCIS Market ConditionsIndex is downward, suggesting that productivity isimproving over time. However, in the short run, iftender prices are rising sharply, the MarketConditions Index will also rise.

Figure Q. Building Costs and Retail Prices(Year on Year Percentage Change)

6.2 Tender Price ForecastMaterials price rises are expected to significantlyoutstrip general inflation over the first year of theforecast period, partly as a result of strong demandfrom developing countries and rising oil prices. Overthe second year of the forecast period, materialsprices inflation is likely to slow to around the level ofgeneral inflation as the market settles down,remaining at around the level of general inflationover each of the next three years. General inflation islikely to stay between 2% and 5% over the forecastperiod. It is anticipated that the average of wageawards will rise considerably faster than generalinflation during the forecast period.

New work output is expected to fall a little in 2008,remaining unchanged in 2009, before rising at aroundits long term trend rate in 2010, and moving ahead oftrend in 2011 and 2012. It is anticipated that the onlynew work sector to grow throughout the forecastperiod will be the infrastructure sector, with thepublic non housing sector being the other key growthsector during the first half of the forecast period, and

the private housing sector over the second half. Itshould be noted that a significant proportion of theplanned infrastructure works will be centred aroundLondon.

It has been assumed that government policy will notvary dramatically from that currently in place duringthe forecast period, even if there is a change ofgovernment.

It has also been assumed that Britain will not join theEuro within the forecast period.

With new work output expected to fall in 2008,remain static in 2009, only returning to trend growthin 2010, tender price rises are expected to be drivenby input cost pressures over the first three years ofthe forecast. As new work output moves ahead oftrend in 2011and 2012, tender price rises are likelyto outstrip input cost rises, as contractors try toimprove their margins.

Table 15. Forecast of Tender Prices

Period Forecast


4.5%3.9%3.4%4.3%4.9%

Source: BCIS

7.0 ASSUMPTIONS

7.1 InflationThe rate of general inflation will be around 3.2% in2008, 2.6% in 2009 and 2010, 2.1% in 2011and2.5% in 2012.

7.2 DemandNew work output will fall by around 1.0% this year,remain unchanged in 2009, rise by 2.0% in 2010, by2.5% in 2011and by 3.5% in 2012.

7.3 LabourWage awards will be around 5% in 2008, 2009,2010, 2011 and 2012.

7.4 MaterialsThe annual rate for inflation of materials prices willbe around 6% in 2008, 3% in 2009 and 2% in 2010,2011 and 2012.



8.0 NOTES

The BCIS forecast is a national forecast. Regionaldifferences in demand will have a consequentialeffect on tender prices in different parts of thecountry.

The BCIS All-in Tender Price Index is constructedusing projects based on traditional procurementroutes. Projects based on contractor led procurementmethods such as design and build and partnering, arenot included. However, the same general marketconditions apply to all types of procurement routebut some will react more slowly to changes indemand.

RISKS TO THE FORECAST

The risks to the forecast are heavily weighted to the downside i.e. a less favourable economic outlook forconstruction.

Down side risks include:

PrivateThe housing market slump could be a lot deeper and longer. As the private housing market represents around aquarter of total new work output currently, total new work output is quite sensitive to changes in output in theprivate housing sector.

If Consumer Prices Inflation does not slow down over the second half of this year, the Bank of England’sMonetary Policy Committee (MPC) may not be able to reduce interest rates or may even raise rates. This could leadto a reduction in consumer confidence further affecting output in the private housing sector. This may also lead todelays or even cancellation of some planned retail and leisure schemes.

Growth in the economy as a whole may slow further than expected or even fall into recession. In a poorer economicclimate, large commercial projects already underway are more likely to be delayed rather than cancelled, althoughfuture projects may be cancelled. Smaller commercial projects may be cancelled in the short term.

PublicThe Government may decide to tighten the purse strings, holding back money already outlined in the 2007Comprehensive Spending Review. As publicly financed construction is currently expected to be the backbone ofnew work output over the next few years, this could have a significant downward effect on construction output.However, this is not thought to be very likely to happen, particularly as the Government’s coffers are gettingincreased revenue as a result of the high price of oil. Much of the planned publicly financed construction is focusedin the South East centred around the 2012 Olympics, which is unlikely to be affected.



Upside risks are far less likely, but include:

PrivateThe housing market slump could be a lot shorter than currently expected.

PublicThe Government spending more than expected on construction to counteract a slow down in the economy and inthe run up to an election.

SCENARIO

Housing slump is deeper and longer. Consumer confidence falls further as a result of the MPC raising interestrates to control inflation. Growth in the economy slows further than expected. Publicly funded construction isunaffected.

The foregoing affects output in the private housing sector, the private industrial sector, and the privatecommercial sector and gives rise to the following new work output forecast.

New Work Output Assumptions


20082009201020112012

-3.7%-4.8%-1.2%+3.1%+4.9%

Historically, when there is a sustained period of falling new work output, tender prices also tend to fall, despiterising input costs. Based on the new work output forecast above, the outlook for tender prices would be asfollows.

Forecast of Tender Prices

Period Forecast


-2.9%-5.5%-1.8%+4.9%+6.9%

TENDER PRICES AND INPUT COSTSBCIS


84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 0 1 2 3 4 5 6 7 8 9 10 11 12 1350

100

150

200

250

300

BCIS All-in TPI Market Conditions

ACTUAL FORECAST

TENDER PRICES AND MARKET CONDITIONS(Base 1985 = 100)

All-in Tender Price IndexMarket Conditions Index

General Building Cost IndexGeneral Building Cost Index (excl M&E)

Labour Cost IndexMaterials Cost Index



Quarter BCIS All-in TPI BCIS Market Conditions Index

Index Sample Index Standard Error

2001

2002

2003

2004

2005

2006

2007

Forecast2008

2009

2010

2011

2012

2013

iiiiiiiviiiiiiiviiiiiiiviiiiiiiviiiiiiiviiiiiiiviiiiiiiv

iiiiiiiviiiiiiiviiiiiiiviiiiiiiviiiiiiivi

170171177177182189188190196198198195200215213225221228221226228231228232239242249249

246249253255257260262265267270272274276280283286288293297300302

82646073565951636475656673686580676665637685756173636541

26

89899090929590919393918991969196949690929292888991919292

909087888889878888898788888988898990899090

1.51.71.71.61.91.91.91.71.81.61.71.71.61.81.71.71.71.81.71.71.61.51.51.71.71.72.12.6



Quarter BCIS GeneralBuilding Cost

BCIS GeneralBuilding Cost

(excluding M&E)

BCISLabour Cost

BCISMaterials Cost

2001

2002

2003

2004

2005

2006

2007

Forecast2008

2009

2010

2011

2012

iiiiiiiviiiiiiiviiiiiiiviiiiiiiviiiiiiiviiiiiiiviiiiiiiv

iiiiiiiviiiiiiiviiiiiiiviiiiiiiviiiiiiivi

194194198198199201208210211213218218220223232234236238245246248252258260262265270271

274278287288290292297299301303308309311314319320322325330331333

191192197197197199208209210212218218219223233234236237247246249251258260262265271272

274278290290292293300301303305311311313315322322324327333333335

227227236237238239254256258260270271274274288290292292310311313314322323325326336336

339339353354358358370372376376388390393393406408412412425427430

168170170170169172175176177179180179180186190192195197196196199205210213215218221221

223229235235236239240241243245245246248251252252254257257257259

NOTES AND DEFINITIONSBCIS


Introduction

The BCIS indices are statistical series based on the samplingof prices and costs from the industry. They represent generaltrends. Pricing levels on individual projects will be distributedaround these trends. Therefore, professional judgement isalways required when using statistics. The following notes anddefinitions are intended to explain the basis on which theindividual series have been calculated.

Tender Price Indices

Generally: the tender price indices measure the trend ofcontractors' pricing levels in accepted tenders, ie cost to client,for schemes let on a lump sum basis on Bills of Quantities.

Bills of Quantities submitted to BCIS are repriced using a baseschedule of rates which is applied to a sample of bill items.The method aims to match a balance of trades, but M&Eservices and proprietary items are not usually matched. The`base' tender figure is compared with the actual tender figureto produce a ̀ project index'. Standard adjustments are appliedto the project index to remove some of the differences in indexlevel expected for projects of different size, from differentregions and using different procurement methods. Theseadjustments are reviewed from time to time. A large numberof Bills of Quantities are indexed in this way and the resultingproject index figures are averaged (using the geometric mean)to produce the published indices, which are therefore currentweighted indices.

The BCIS Tender Price Indices are based on accepted tendersfor new building work with contract sums over £100,000which have been priced in competition or by negotiation. Thecurrent average contract value in the sample is around £1million.

In order to achieve stability in the indices, BCIS attempts toinclude 80 projects in each quarter, the more projects includedthe more reliable the resultant index. The actual sampleachieved is shown against each index figure to give someindication of the stability of the index. The variance of theproject indices is such that, when a sample of 80 schemes hasbeen achieved, the 90% confidence interval is in the region of-2.7% to +2.8%.

All-in TPI: covers new building work in the United Kingdomand includes all sectors (public, private and housing). Theindex is based on a random sample of schemes selected fromthe BCIS membership.

Forecast: the forecast of the All-in Tender Price Index is basedon the assumptions given in the Briefing. BCIS examines awide variety of economic indicators and ad hoc models basedon their trends. BCIS also considers the results from aneconometric model which has been specifically tailored toinclude tender prices.

Input Cost Indices

Generally: the building cost indices measure changes in costsof labour, materials and plant, ie input cost to contractor. Theindices are based on cost models of average buildings. Theinputs to the indices are the Work Category Indices (Series 2)prepared by the Department of Trade and Industry for use withthe Price Adjustment Formulae. Monthly indices arecalculated and averaged to produce quarterly figures. Theindices allow for changes in the costs of nationally agreedlabour rates, material prices and plant costs: they do notnecessarily reflect changes in contractors' actual site costs. Themodels used are based on a sample of new build schemesincluded in the BCIS All-in TPI between 1989 and 1993. Theresultant series are therefore base weighted indices.

General Building Cost Index: includes all types ofconstruction and all categories of work (ie includingmechanical, electrical and lift installation work).

Forecast: the forecast of the General Building Cost Index andits constituent indices are based on the assumptions given inthe Briefing. Forecasts of materials and various types of labourare applied to a cost model for an average building. Plant costsare assumed to move in line with materials costs. The forecastis calculated on a monthly basis and the quarterly figures arebased on the mean of the monthly indices.

General Building Cost (Exc M&E) Index: includes all typesof construction but excludes mechanical, electrical and liftinstallation work.

Basic Labour Cost Index: reflects the labour element of themodel only and includes all categories of work.

Basic Materials Cost Index: reflects the materials element ofthe model only and includes all categories of work.

Market Conditions Index

Generally: the Market Conditions Index is based on theTender Price Index deflated by the General Building Cost(Excl M&E) Index. The resultant index rises when tenders areincreasing faster than costs and falls when costs rise fasterthan tenders. It is therefore an indication of thecompetitiveness of the tendering climate.

Forecast: the Market Conditions Index is forecast as part ofthe process of forecasting the Tender Price Index.

Standard Error: is a measure of the reliability of the samplemean as an estimate of the population mean, calculated bydividing an estimate of the standard deviation of the sample bythe square root of the sample size. A small standard errorindicates a more reliable sample mean.

Documents

5 Year Forecast BCIS August 2008