What has the latest research on the construction industry carried out by specialists from the HSE Conjuncture Research Center shown?
The Conjuncture Research Center of the Higher School of Economics’ Statistical Research and Knowledge Economy Institute has prepared a review on the economic situation in the construction industry in the second quarter of 2016. Our magazine is the first media source that the head of the center, Georgy Ostapkovich has shared the results of the investigation with.
It is summer, but doubts still remain
On the basis of the analysis of the answers given by the heads of 6,500 construction companies to the Russian Statistics Service each quarter, the specialists of the Higher School of Economics’ Statistical Research and Knowledge Economy Institute have come to the conclusion that further deterioration of the business climate in the construction industry was observed in the 2nd quarter. The continuing decrease of the main compound research parameter – the seasonally adjusted Entrepreneurs’ Confidence Index (ECI) in construction – shows this.
To remind you, in the first quarter of 2016 the ECI fell by 8 points as compared with the last quarter of 2015. Experts hoped that in the 2nd quarter, which is more favourable for the construction industry, they would see a positive correction of the ECI, but this has not come to pass, as the ECI is keeping on with its decreasing “rally” by 3 points in the 2nd quarter as compared with the “anti-construction” 1st quarter.
As a result of the negative changes, the final value of the ECI totaled (–19%), which is only by 2 points better than in the apogee of the previous crisis that fell in the 2nd quarter of 2009.
Additionally, experts are worrying about the fact that the prognosis expectations for the 3rd quarter of 2016 as to the key indices of the construction business (orders portfolio, actual volume of work, the number of people involved, own and borrowed resources, endowment and investment activity), look significantly worse than the expectations of last year and even the beginning of the current one.
Among the factors restricting construction activity, the traditional leaders are “the high level of taxation”, “the high cost of construction materials and equipment”, “customers’ financial insolvency” and “lack of orders”.
Fig.1. Entrepreneurs’ confidence index dynamics in the sphere of construction
Source: The Conjuncture Research Center (CRC) of the Higher School of Economics’ Statistics Research and Knowledge Economy Institute
According to the analysts, the recession we are seeing in construction at present is more painful than that in other backbone industries. The main negative driver provoking the business climate’s deterioration in the industry is the decrease of the aggregate purchasing power for construction services from the three main investors: the state, the corporate economy sector and the population.
Unfortunately, developers and contractors themselves do not actually have any accented strangleholds providing for the improvement of the financial conditions of the three aforementioned bodies. Constructors, as opposed to industrialists (i.e. manufacturers) cannot use the mechanism of external demand, except for contracts from export-oriented mining plants.
In conditions of prohibitive lending rates, working for the store (with the opportunity to sell objects in the future when the financial situation improves) is excluded. The main problem today is not how to build an object (the industry has productive potential), but how to sell already commissioned objects with efficiency and a profit margin.
Of course, the state and contractors are trying to find a way out. Anti-crisis measures are being taken by subsidizing the industry. Contractors are implementing new management schemes in their business, optimizing expenditures, including cheaper construction materials and import replacement equipment, and decrease the price of their services to a minimal efficiency level.
However, taking into account the high level of corruption in construction and the huge number of administrative barriers, it is quite possible that contractors will intensify non-formal activities in their business, the authors of the report assume. These maneuvers may smoothen the problems with demand, but will not solve them. The main thing for the construction industry is macro-economy stability, budget balance, the growth of business activity in the economy on the whole and an increase in customer activity, or at least the recovery of available income, as it has been falling for more than a year and a half.
Summary of the 2nd quarter results
Entrepreneurs’ confidence index (ECI) in the reported period was down by 19% (the worst values for the last seven years).
- Only 13% of respondents claimed an increase in their orders portfolio as compared with the previous quarter. 60% had the number of concluded agreements at the 1st quarter’s level, and 27% of the poll participants claimed a decrease (the worst values for almost the last six years).
- Less than 20% of the respondents announced a growth in work volume as compared with the 1st A third announced a decrease in the index (the worst results for the last seven years).
- A little over 10% of respondents reported a growth in the number of employees in their organizations. About 30% claimed a reduction in staff (within the dynamics of the last year, but worse than in 2011—2014).
- 9% of construction organizations have increased their own financial supportability. A little over 20% of the respondents reported a reduction (this distribution of answers is a bit better than in 2015, but worse than in 2011—2014.).
Small rays of light in a realm of darkness
Meanwhile, researchers noted a number of relatively positive signs in the 2nd quarter. Firstly, in spite the decrease of the construction work volumes and order reduction, contractors somehow managed to preserve the average capacity utilisation at the level of the 1st quarter — 61%.
Secondly, in the 2nd quarter, rather favourable assessments of the actual prices dynamics for contractors’ services and inflation expectations for the coming quarter have been brought to light. Constructors, having come across the fall of investment and customers’ demand, seem to have reduced price growth intensity to sell their product, and sometimes even dump the prices, the analysts state.
Thirdly, counterintuitive as it may seem, only 21% of the respondents think the financial and economic condition of their enterprises unsatisfactory, while the business climate has been deteriorating and the chief industrial performances keep on decreasing. 7% spoke about a favourable situation, and 72% of the respondents called it satisfactory.
The majority of directors seem to be accustomed to working in “new reality” conditions, the authors of the report presume.
Fourthly, the construction complex’s development issues were discussed at the highest state level — at the State Council dedicated to construction and urban development. In the course of the meeting, the problems to be solved urgently were noted in order to steer construction out of the crisis. The solution of many problems is connected with the enhancement of the regulatory functions of the RF Ministry of Construction, Housing and Utilities.
Source: The Conjuncture Research Center (CRC) of the Higher School of Economics’ Statistical Research and Knowledge Economy Institute
The Director of the Conjuncture Research Center (CRC) of the Higher School of Economics’ Statistical Research and Knowledge Economy Institute, Georgy Ostapkovich:
The respondents’ current deterioration in mood is backgrounded by relatively steady macroeconomic conditions and some improvements in other areas of the real economic sector.
Unfortunately, internal problems (including management) and demand restrictions do not offer constructors an opportunity to implement their potential. And it is even sadder, because construction is the most socially oriented of all economy branches. Housing purchases by the population is the index of a wealthy future.
Negative signals are constantly coming from constructors and their allied suppliers. The most pessimistic prognoses are heard from construction materials producers.
The decrease of business activity in this sphere means that construction materials producers are not relying upon construction business activation. They are trying to recompense the decrease of their production by raising prices, which strikes contractors.
The research results show that, because of the decreasing demand, heads of construction companies are more intensively reducing their staff and the general level of salaries.
According to the Russian Statistics Service, 6% of workers were downsized in the economy as a whole, while in construction the index was 12.6%.
The investment volume in capital assets in construction in the 1st quarter reduced by 6.8% as compared with the same period of the previous year. It is the deepest fall among the backbone industries.
Within the federal investment program, 449 objects are to be put into operation in 2016. In January-April, only 5 objects (or 1.1%) were put into operation. The majority of objects are likely to be put into operation by the end of the year, and many of them have high technical readiness. But there is an impression that with such speed (a third of the term, and only 1% of the objects), the planned construction is hardly likely to be concluded on time.
The current year’s investment program is unlikely to be fulfilled, as in 2015.
Slowing down the rate of housing construction reduction is connected with positive signals from the RF Government and state banks about mortgage loan crediting. It should be noted that a population with a high or medium profit level which has planned to buy housing has money for it, especially with a mortgage loan. However, part of the buyers have got into the so-called deflation trap: they are waiting for a further decrease in the prices for housing and are trying to feel the bottom.
Due to this pause, demand keeps on falling. The price decrease cannot continue for long, but it is resulting in construction companies going bankrupt, and not only small ones. According to the experts from the Public Chamber, at present 25% of all construction organizations are on the edge of bankruptcy. As we assessed, this is a little less than 16—18%. An example is Su-155. Of course, they will be helped by their co-funders. But what about other companies in a similar situation?
Considering the macroeconomic conditions, the price decrease is likely to stop in the autumn. And when people understand that it is time to enter the housing market, and the delayed demand falls upon the developers, unpredictable processes could begin.
Constructors will not be able to cope with the sharp growth in demand. They will have to increase staff, update machines and equipment, intensify relations with officials…And the main thing is that construction materials producers will immediately start raising prices. It may impact upon the general inflation and inflation expectations of the economy on the whole.
One of the most significant problems in construction has always been its regulating and administrative barriers. There are a lot of organizational problems in the industry, the main one of which is the obsolete regulatory and legal framework and the necessity of updating the technical regulation norms according to international standards. According to some assessments, about 1,500 documents need alteration.
Of, course, to solve all of the enumerated problems in the industry, billions of budget roubles will be allotted, competitions will be announced, and grants will be given…In two or three years, we are likely to see positive results. But one should understand that, for these three years, other countries will make gigantic steps in terms of innovation and economic progress, up to and including the alteration of the technological basis and different standards, and we shall again have to catch up with them.