Inflation Provides Lift to Construction Spending

Construction spending rose 0.2% in November, beating expectations of a decline in spending. Private nonresidential construction was the growth driver. September and October spending were revised higher. Compared to a year ago, the pace of growth has cooled; input costs for materials such as lumber, steel and aluminum are now lower while energy prices have come off their peaks. 

Private residential construction spending declined for the sixth consecutive month. Single-family construction spending, which is heavily impacted by rising interest rates and diminished demand, fell 2.9% in November, the same pace as October. Spending on single-family home construction is now 10.2% below year-ago levels.

Spending on home improvements, up 1.3% in November, is closing the gap with spending on new home construction. The last time spending on improvements surpassed spending on new home construction was in the aftermath of the housing bust in early 2009. Mortgage rates are expected to remain above 6% into the first half of the new year, pushing down new home demand for that same period.

Spending on multifamily construction rose 2.4% in the month as projects for multifamily homes continue to be completed. The number of units currently under construction reached a multi-decade high in November. Almost half of construction activity is concentrated in five states: Texas, California, Florida, North Carolina and New York. Activity in 2023 is expected to be lower for multifamily, as building permits for multifamily structures in November fell to their lowest pace since early 2021.

Private nonresidential construction spending rose 1.7% in November, almost entirely driven by a 6.5% jump in spending on manufacturing infrastructure. Within manufacturing, a whopping 16.3% monthly growth was seen in computers and electronics manufacturing. Just prior to the pandemic, the share of electronics manufacturing to all manufacturing spending was about 12%; now that figure is the highest on record at 46%. The combination of federal funding and the need for manufacturers to make their supply chains more resilient is leading to an investment push at home.

Other components of private nonresidential construction that were up on the month were lodging, health care, educational, religious, transportation and power infrastructure. Spending on lodging and offices is still significantly below pre-pandemic levels, while all other categories have returned to about the same pace of spending or surpassed it.

Public construction spending slipped 0.1% in November. Government funding for state and local infrastructure spending has begun to be released, but high prices are cutting into budgets. Projects are still being planned, but some states are opting for longer timelines to see if input costs will come down.

Bottom Line:

Construction spending surprised to the upside, but higher prices contributed to increased spending. Business investment will be muted in the first half of 2023 due to a slowing domestic economy and tighter lending standards. Residential investment will remain a drag on growth until the Federal Reserve starts to cut interest rates in the second half of the year.