Commercial real estate downturn to slow construction starts in 2023

Dive Brief:

• Total U.S. construction starts will drop 3% when adjusted for inflation to clock in at $1.08 trillion next year, according to the 2023 Dodge Construction Outlook.
• The report pegs commercial starts, such as retail, office, warehouse and hotel projects, to fall 13% in 2023 when adjusted for inflation, led by pullbacks in the warehouse and office sectors.
• Public funding will support manufacturing and infrastructure activity, but a slow economic growth environment will weigh heavily on the residential and commercial sectors, according to the report.

Dive Insight:

High interest rates have begun to take their toll on key construction industry measurements, said Richard Branch, chief economist at Dodge, in a press release shared with Construction Dive.

For example, the Architecture Billings Index, a forward-looking indicator for construction activity, dropped significantly in October after 20 months of positive growth. At the same time, the Associated Builders and Contractors’ backlog indicator, which tracks work construction firm’s have booked but haven’t yet begun, fell below its pre-pandemic reading from February 2020, largely due to a decline in the commercial and institutional category.

“The construction sector has already started to feel the impact of rising interest rates,” said Branch. “The Federal Reserve’s ongoing battle with inflation has raised concerns that a recession is imminent in the new year. Regardless of the label, the economy is slated to significantly slow, unemployment will edge higher and for parts of the construction sector it will feel like a recession.”

Nevertheless, certain sectors will continue to outperform, Branch said.

For example, Branch expects data center construction “to remain brisk” as demand for colocation data centers increases, despite job cuts by Big Tech companies.

Meanwhile, onshoring, the make-it-here push among American businesses, continues to boost manufacturing starts, specifically chip fabrication plants and EV battery plants. These types of projects remain on track to nearly triple this year, according to the report.

Some massive projects in the space include:

Though Dodge does not expect that furious pace to continue in 2023, its forecast for next year still sits at $51 billion. That’s because the CHIPS Act and IRA will support abnormally high levels of activity in the coming years, according to the report.

Similar to the booming manufacturing sector, public funding will also support nonbuilding and infrastructure type projects, Dodge predicts. Public work starts will jump 12% after inflation, led by gains in streets and bridge work.

Laggards in 2023 include the office, warehouse, hotel and retail sectors, according to the report. Branch also expects single-family starts to drop about 5% next year when adjusted for inflation.

But Branch remains upbeat that a downturn in the construction industry this time around will not be as dire as the Great Recession from more than a decade ago.

“The funds provided to the construction industry through the Infrastructure Investment and Jobs Act, the CHIPS and Science Act and the Inflation Reduction Act will counter the downturn allowing the construction [industry] to tread water,” said Branch. “During the Great Recession, there was no place to find solace in construction activity — 2023 will be quite different.”