The Spanish construction sector starts the year strong
According to the latest data published by the INE statistics service at the end of April, the country’s construction sector expanded by 2.5% in the first quarter of the year, compared to the fourth quarter of 2022. This growth rate it was significantly higher than the 0.6% of the quarter. The quarter-on-quarter growth rate recorded by the Spanish economy as a whole, which was also strong. Based on the breakdown based on the spending component of GDP, housing investment increased 1.3% qoq, while investment in other buildings and structures increased 1.6% qoq. In addition, net exports of construction-related products and services may have also contributed to the good performance.
Despite the economic uncertainties, business confidence in the sector remains positive, as shown in the chart below. This optimism is driven by several factors, including well-filled order books, reduced price pressures, improvements in global supply chains and a stable real estate market. Although the housing market is cooling off significantly, there are no signs that the country is heading towards a housing market crash. Given the close correlation between the prices of existing homes and new construction, a soft landing in the real estate market will also support the construction sector. Sharp declines in existing home prices would put pressure on homebuilders to lower prices for new homes, dampening the market for new construction.
The confidence of construction companies remains positive
Despite this strong performance in the first quarter, the construction sector has yet to fully recover from the impact of the Covid-19 pandemic, as illustrated in the chart below. The activity of the Spanish construction sector continues to be 9.2% below the level of the last quarter of 2019. This contrasts with the rest of the Spanish economy, which has almost returned to its pre-Covid level: in the first quarter In 2023, economic activity was only 0.2% lower than in the fourth quarter of 2019.
The Spanish construction sector has been seriously affected in recent years by a series of global events; the Covid pandemic, the war in Ukraine and the significant rise in interest rates. In addition, sharp increases in the prices of construction materials and energy have led to the postponement or cancellation of many projects.
Gross added value of the Spanish economy as a whole and of the construction sector, 4Q 2019 = 100
The rate of increase in construction input prices will gradually slow down
Since January 2021, the Spanish construction cost index has increased considerably, mainly driven by the strong recovery in global demand and the conflict in Ukraine. The index showed that construction prices were on average 17.7% higher in the second quarter of 2022 compared to the same period a year earlier. The index, which is based on a quarterly survey of construction companies, covers the costs of materials, labor and other inputs required for the construction of new residential properties.
The construction cost index in Spain peaked in the second quarter of 2022, but has since cooled
After peaking in the summer of 2022, the prices of various construction materials, including wood and metals, have steadily declined. This can be attributed to improving global supply chains and reduced demand. Although the reopening of the Chinese economy earlier this year caused prices for materials such as copper and steel to rise, they remain below their summer highs. On the other hand, the prices of energy-intensive building materials such as concrete, cement and bricks have continued to increase, despite falling energy prices, although we note that the pace of increases prices have slowed down recently.
We expect the pressures on the prices of construction materials to ease due to the weakening of the global economy. With the US economy slipping into recession, the European economy slowing significantly and China’s manufacturing and construction sectors failing to recover, it seems unlikely that global commodity prices will rise again later this year. The prices of energy-intensive building materials are also expected to start falling slightly soon due to lower energy prices. Although gas prices may increase during the injection season, they are unlikely to rise sharply during the rest of the year. The outlook for the energy market is more positive than last year, thanks to well-stocked European gas supplies, which would allow producers of these energy-intensive building materials to gradually lower their prices.
Building permits rose strongly in 2022 despite rising interest rates
Despite the challenges stemming from rising interest rates and building material prices, the number of authorized square meters increased by 43.4% in 2022 compared to 2021, according to Eurostat data. Building permits rose strongly in both the residential (+44.2%) and non-residential (+41.7%) construction sectors. The growth in the number of square meters authorized for residential construction was mainly due to the strong growth of single-family homes in the first half of the year.
The non-residential sector also posted a strong increase in permits issued, particularly in the office building segment. The number of square meters authorized for office buildings almost tripled in 2022 compared to the previous year. The Spanish office market was hit hard by the pandemic and many companies implemented remote work policies and reduced their office space needs. However, there are some signs that the Spanish property market is recovering.
Year-on-year growth in work permits in 2022, in m2 of useful area
The number of residential building permits is likely to decrease in 2023. In the residential construction market, strong growth was seen in the first half of 2022, but it has been declining since last summer due to rising interest rates and the rising cost of construction materials. As the housing market cools, new building sales will also decline, so the number of residential building permits is likely to fall further in 2023. Additionally, growth in non-residential building permits is likely also slow this year due to a weak economy.
Productivity falls much more sharply than the euro area average since 2015
The construction sector traditionally suffers from lower productivity than other sectors, such as manufacturing. One reason is that the sector is made up of many small and medium-sized companies, which makes it more difficult to unify construction processes. Smaller companies are less willing to invest in large digitization and automation projects due to significant upfront costs, which hampers productivity growth.
Surprisingly, since 2015, productivity in Spain has fallen much more than in other countries. Eurostat figures show that Spanish labor productivity has fallen by 18% since 2015, compared to an average drop of just 5% in the eurozone. In Italy, in fact, it has increased thanks to a series of regulatory reforms that have led to more competition and less red tape. There are several reasons for the downward trend. In recent years and especially during the pandemic, Spanish activity in the construction sector fell more sharply than in other countries. Since the labor force tends to fall more slowly than the activity, this leads to a fall in labor productivity. Another possible explanation is that the number of unregistered workers in the sector has decreased in recent years, which also reduces the productivity of the legally registered workforce.
Real labor productivity in construction, 2015 = 100
Tighter energy regulations will give a solid boost to the renovation market
In the coming years, the Spanish construction and real estate sector will be significantly affected by stricter regulations on the energy efficiency of buildings. The European Union aims to be climate neutral by 2050, and since buildings account for 40% of energy consumption and 36% of greenhouse gas emissions in the EU, they are a major focus of these regulations. However, the current pace of European renewal is insufficient to achieve the objectives; Estimates suggest an annual renewal rate of only 1%. To increase the renovation rate, the European Parliament in March adopted an ambitious revision of the 2010 Energy Performance of Buildings Directive, on which the European Council must now decide.
If adopted, the proposal would replace the current energy efficiency certification system with a more holistic assessment of the environmental performance of buildings. The proposal focuses on ambitious targets for the renovation of existing buildings, including setting minimum energy performance thresholds that all buildings must meet within a certain time frame. However, the proposal goes beyond improving the energy efficiency of buildings. The proposal also provides for the creation of a certification of the environmental performance of buildings throughout their life cycle, taking into account the emissions generated during the production of construction and insulation materials, the construction itself, and the renovation and operation of the buildings. buildings.
In the coming years, developers will have to meet higher standards of sustainability and energy efficiency throughout the life cycle of a building, which will mean a change in mentality, since the long-term ecological impact must be taken into account at each stage. of a project. Tighter regulations can also increase the cost of new construction projects due to the more selective choice of building materials. On the other hand, the regulation is expected to boost the renovation market in Spain, as it will trigger a wave of renovation, creating a greater demand for energy efficient reforms. In general, the stricter regulations are expected to support the Spanish construction sector in the near future.
The Spanish construction sector is likely to lose momentum later this year
The Spanish construction sector started the year on a positive note, with a 2.5% increase in gross value added in the first quarter. Despite this strong performance, we expect growth to moderate in the second quarter, followed by a possible contraction later in the year, as slowing economic growth and rising interest rates dampen investment demand. in construction projects. This trend is particularly evident in the housing sector, where a decline in building permits has already been recorded in the second half of 2022 and is likely to continue.