2008 South Central Forecast

Sluggish residential market depresses construction market

By Angelle Bergeron

The most annoying word you’ll likely hear during the next few months is “subprime.”

The sluggish residential construction market and extensive subprime lending will continue to affect the nationwide economy as homeowners tighten their belts on spending.

Economists differ over whether the subprime mortgage meltdown will actually result in a recession, a soft landing or have any spillover effects at all to other segments of the economy, including construction.

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“Banks have tightened the lending and underwriting standards for all types of loans, making funds more costly and less available for businesses and individuals alike,” says William Fox, professor of economics and director of the Center for Business & Economic Research at The University of Tennessee in Knoxville.

CBER’s Fall 2007 Tennessee Business and Economic Outlook says the latest survey on lending practices by the Federal Reserve indicates that 56 percent of the responding domestic banks reported tightened standards on subprime loans. That may translate into tighter standards for commercial and industrial loans and prevent companies from investing in the physical capital and research and development projects that fuel growth, Fox says.

That being said, the construction market in the South Central region currently remains quite robust.

In Tennessee, despite an overall economic slowdown consistent with the national trend, construction is strong.

“Construction is the fastest growing industry in Tennessee this year for jobs, and we think it will be fairly strong next year as well,” Fox says. After an 8 percent job growth rate in 2006, Tennessee’s construction sector showed 6 percent job growth in the first three quarters of 2007.

“I think we’ll be plenty busy in 2008,” agrees Billy Norrell, executive director of the Alabama Road Builders Association. “I don’t think there is any question about that. Everybody is busy, but we could be so much busier if there were funds available.”

The groaning may be heard nationwide, as highway departments await 2008 fiscal year funding from Congress.

“We’re operating on a continuing resolution, which means we’ll be funded at the same level we were in 2007,” says John Suskie, executive director of the Arkansas Ashpalt Pavement Association. “With inflation, we almost have to have some increase every year,” he says.

And the same size pool of revenue doesn’t go as far as it used to

“Costs have gone up almost 40% during the last three or four years, and we are building roughly 200 fewer jobs than we were four or five years ago,” Norrell says. “We may be setting a record in the dollar amount, but we are letting fewer contracts than ever.”

Alabama road builders are looking at roughly 300 jobs in 2008, totaling about $850 million, Norrell says. Work will continue on the fourlaning of the final leg of Corridor V in north Alabama, Norrell says.

“We will use dedicated funds, which means those projects will take precedence over others,” he adds. “If funds run short, they will be shifted from other projects being let until those are completed.” That means other projects throughout the state will not be advanced until those are complete.”

Another dedicated funds project slated for 2008 is the revamping of “the big link” in Birmingham, which is the intersection of interstates 20, 59 and 65.

“They are going to add I-22, making it Corridor X, so that entire four-connector system will be re-designed,” Norrell says. “That will be at least $100 million.”

Throughout the South Central region, in sync with much of the nation, highway departments lament increased costs with stagnant user fees and other funding streams.

“We are working very hard at the state level to adjust user fees and we are trying to get our fuel tax rates adjusted annually, so it keeps up with material cost prices,” Norrell says. The ARBA is hoping that legislation will be passed by May.

“It’s a tough sell and if we had all had the sense to do it 15 years ago, we would be sitting back fat and happy,” Norrell says. “It’s a tax increase and that’s a real tough political pill to swallow. We’ve got a lot of good bi-partisan support down>>here, and we hope we will be successful.”

The Mississippi Department of Transportation received approval in the 2007 state legislative session to implement the first toll roads in 40 or 50 years, using a public private partnership, says Harry Lee James, deputy executive director and chief engineer.

“We are developing a procurement system for that and hopefully sometime next year will advertise our first project,” James says. “It will be design-build, finance and maintain and then handed over to MDOT at a prescribed condition. This is really a true new source of revenue for roads, even though we won’t see any funds from it.”

In the meantime, also awaiting the FY08 appropriation bill from Congress, MDOT is cautiously advancing projects and prudently holding back a portion of its budget for contingency costs, like fuel adjustments.

“Since July 2006, we paid out roughly $26 million in fuel adjustments to contractors,” James says. “Since Katrina, we’ve seen petroleum prices double. They’ve been very high.”

In addition to road work, Mississippi has several major projects ongoing or on the horizon. According to the Mississippi Economic Outlook 2007-2012, produced by the Mississippi Institutions of Higher Learning, construction employment has increased 151% in coastal areas and will continue to increase more rapidly on the coast than in the rest of the state as hurricane reconstruction continues.

However, big projects are not confined to coastal areas and include the $1.3 billion Toyota Auto Plant under construction, $1 billion-plus Strategic Oil Reserve, $900 million Galleria Complex, $700 million Margaritaville Casino, $600 million Bacaran Bay Casino and $350 million PACCAR Inc.

Arkansas road builders are “blessed” with the fact that the state’s governor and legislature appropriated about $70 million for a statewide overlay program, Suskie says.

“That work will be all over the state because the legislature and the governor assured that every county would receive some overlay money.”

Road builders are totally dependent upon state and federal funding, so the market is as healthy as the stream of dollars to a particular state.

“Our governor has made highway funding a priority for the 2009 legislative session,” Suskie says. With the discovery of the Fayetteville shale in the northwestern part of the state, and the tremendous job growth surrounding that, Suskie is anticipating some sort of dedicated tax to fund road construction.

“We have the lowest severance tax on natural gas in the nation,” he says. “So that’s probably a place where we need to add some tax.”

Another issue facing Arkansas contractors this year is whether or not the state legislature, in light of a law suit, will uphold its commitment to alternative delivery methods, says Rob Hileman, director of communication with the Arkansas Chapter of Associated General Contractors.

The suit implies that the state is obligated to return to using only hard bid contracts.

“Our contractors would argue that it will put the state behind if they go back to all hard bid contracts because best value is better,” Hileman says. Using all hard bids would result in lost time, price increases and re-design costs, he says. “Projects come in on time and on budget with alternative delivery methods.”

Contractors will be forced to learn ever-increasing environmental standards if they are to remain competitive in 2008.

“The EPA has put requirements on local governments to place more storm water run off controls and permitting on the construction industry,” says Ken Naquin, chief executive officer for the Louisiana AGC. Clean air standards are also becoming more stringent. In Louisiana, contractors may be facing challenges similar to California, requiring contractors to adapt equipment to capture diesel fuels or even restricting the hours of operation, Naquin says. Both issues are likely to cause increases in contractor costs.

Of course, the need for skilled labor remains a constant, nagging problem for all states in the South Central region, as well as the rest of the country.

“That problem will escalate every year for the next three to five years,” says Henry Hagood, president of Alabama Associated General Contractors. Alabama has a good deal of work coming up, including environmental upgrades at Southern Companies and construction of the new Thyssen Krupp steel mill outside of Mobile.

“They said they will need about 27,000 construction workers,” Hagood says. “And you’ve got all that work that still has to be done on the coast because of Katrina. So we have a huge shortage of workers all up and down the coast.”

The nuclear power work going on throughout the country will also cause a drain from every state for skilled workers, Hagood says.

“All of that means that the contractors who can man the work will have a competitive advantage.”

Louisiana contractors are facing an abundance of work, with a greater shortage of labor than any other state in the region, resulting in increased rages, incentives to older workers to remain in the workforce, more out-sourcing and immigration, says Loren C. Scott, professor emeritus in economics at Louisiana State University.

“The problem will be especially intense in the state’s construction industry due to a remarkable number of large construction projects planned over 2008-09,” says Scott in the annual Louisiana Economic Outlook.

The 2005 hurricane season “has created an unprecedented construction boom, fueled not only by the rebuilding of damaged infrastructure, but also by generous incentives provided by the Go-Zone legislation.”