U.S. Economy Stumbles Into the New Year

Tue December 31, 2002 - Northeast Edition
Pete Sigmund

The construction industry, a mighty engine for the U.S. economy, is sputtering slightly as it enters 2003, but it still has a lot of horsepower.

Leading economists and industry observers see an industry wounded by the slow economic recovery, which has affected new commercial building construction, bond funding for highway work and other projects.

But, in interviews with Construction Equipment Guide, they also cite many positives. Congress is to pass a new multi-year highway and transportation bill during the year, reauthorizing high levels of work on highways, bridges and mass transit.

Construction of single family housing, which in 2002 reached the highest level in more than two decades, will continue to be robust. The outlook is bright for new construction in the institutional building and multi-family housing sectors.

And this year’s 108th Congress, with Republican majorities in both the Senate and House of Representatives, will focus on tax relief and economic stimulus as top objectives, recognizing critical needs for infrastructure improvements.

Another bright spot is that the recession appears to be over. Positive increases in Gross Domestic Product (GDP) in all four quarters of 2002 are regarded as a good portent for the year ahead.

Here’s a bird’s-eye look at prospects for 2003.

New Construction

The value of new construction starts is projected to decline 1 percent in 2003, according to the “Construction Outlook 2003” from McGraw-Hill Construction in New York, NY. This annual forecast, released last October, is based on the group’s quarterly five-year forecasts. It projects that total construction starts will decline from $498.9 billion in 2002 to $495.1 billion in 2003.

“I would consider the 1-percent decline figure to be an optimistic projection for total construction,” Robert A. Murray, vice president of economic affairs for McGraw-Hill Construction, said in a telephone interview with CEG. “It wouldn’t surprise me if we’re down 2 to 3 percent.”

Asked why, Murray replied: “Both the public works and the institutional building sectors are dealing with a changed fiscal environment. The federal government, and particularly state governments, are dealing with much tighter budgets. If I had to pick any one reason that stands out, essentially in a period of fiscal stress, you’re going to see some projects put on hold.”

The Outlook said the industry maintained a healthy pace during 2002, with new starts up slightly in the first quarter and “only a minimal loss of momentum taking place in the second and third quarter.” It estimated that starts edged up 1 percent for all of 2002, adding, however, that “the rate of growth has fallen from the 5-percent gain in 2001, not to mention the 12-percent increase back in 1998. Clearly, a process of deceleration is underway, but the loss of momentum is more gradual than in previous construction cycles.”

Public Works

The Outlook projects that “in 2003, the lengthy upward spiral for public works will come to an end, as contracting slides 3 percent to $85.5 billion.”

The decline would follow a relatively good 2002 during which, the Outlook noted, the public works sector was “on track” to experience a five-percent gain.

Murray told CEG, “The F.W. Dodge figure for public works construction starts during 2002 is estimated at $88.2 billion.” He said that the 3-percent decline in 2003 “is primarily due to a modest pullback in response to tighter budgets, primarily at the state level; we still don’t know what the federal funding levels will be for Fiscal 2003.”

Highway and bridge construction starts rose an estimated 3 percent, to about $44.7 billion, in 2002, but are expected to decline 4 percent in 2003, the Outlook said, citing “the decreased highway funding expected from the federal government, in combination with some cutbacks by the states.”

Murray cautioned, “One thing to keep in mind about a whole lot of this – sometimes there’s a tendency solely to key on percent change, upcoming year vs. prior year. I think it’s important in a slower-growth and slight-decline environment that people key on levels as well. In overall construction activity, with the exception of some of the commercial property types, you’re looking at highways, bridges, environmental work, which are still at a reasonably healthy pace by broader historical standards, but this activity is unlikely to match what was achieved in 2002.”

Is highway construction still a driving force behind the nation’s economic expansion?

“If you’re looking at a decline, it’s not a driving force for expansion,” Murray replied. “Is it a supportive element for on-going economic activity? Yes. Is it a supportive element for expansion of the economy? No. It’s a healthy pace vs. growth. Things don’t grow indefinitely. Essentially, the loss of momentum would be across most of the public works project types. It would be highways and bridges. It would be sewers. It would be dams and water resources. We are looking for water supply systems to essentially hold steady. What we have been seeing is that initial restraint has been perhaps more pronounced on the transportation and other public works categories.”

Murray said the 2002 figures on public works construction “were pumped up by some major projects, which may not be repeated in 2003; we included the startup of the replacement of the San Francisco Bay Bridge, which is $1-billion plus, in our data.”

Kenneth D. Simonson, chief economist of the Associated General Contractors of America (AGC) in Washington, DC, said that “public construction is holding firm so far but looking shaky for the future.”

He pointed out that publicly funded construction has been strong this year because of projects approved when states and the federal government had surplus revenues but that most states had cut spending at least once by mid-year because revenues began falling.

“Every state except Wyoming seems headed for a deficit during 2003 unless they cut spending again,” he said. “Public spending through state legislatures will therefore probably be off significantly in 2003.”

General Economy

What about the overall economy?

“We’re looking at overall economic growth to edge up from an estimated 2 percent in 2002 to about 3 percent in 2003,” Murray said. “This assumes there is no major disruption as a result of potential U.S. military action against Iraq. There is a great deal of uncertainty moving into 2003.”

Murray said results during 2002 generally vindicated his prediction to CEG that construction spending would “essentially be flat or maybe up slightly.”

“Where we were off [last year] was that the downturn for commercial buildings turned out to be more severe but the slack was picked up by a greater-than-expected strength for single family housing. The total picture that we forecast was on target; the mix was a little bit off.”

Highway Spending

A top item on the agenda when the 108th Congress convenes on Jan. 7 will be debating and enacting a new multi-year surface transportation bill. Fiscal 2003, which ends Sept. 30, 2003, is the last to be covered under the Transportation Equity Act for the 21st Century (TEA-21), passed in 1998.

TEA-21 originally authorized a record $218 billion for highways and transit. In drafting the new bill, legislators will have to grapple with the fact that the Department of Transportation estimates that an 18-percent increase in capital spending, relative to 2000 levels, is necessary just to maintain current conditions of highways and bridges.

The USDOT estimate, which covers spending by federal, state and local governments over a 20-year period, also said that a 65-percent increase in capital spending would be needed to upgrade conditions. In addition, the American Association of State Highway and Transportation Officials (AASHTO) has warned of escalating needs, declaring that $92-billion per year would have to be spent at federal, state and local governments just to maintain highways in their present condition, while only $64.5 billion was actually spent at these levels during 2002.

High levels of funding are therefore expected, potentially meaning substantial work for highway contractors, but it’s not assured that the levels will increase over the past, absent new funding sources.

“Given the current fiscal environment, it will be difficult to come up with substantial funding increases in the next highway bill, notwithstanding the stated need for those increases,” noted McGraw-Hill’s Construction Outlook.

Look for a strong effort by road construction organizations during 2003 to obtain legislation to help meet the shortfall through an annual increase of two cents per gallon in the federal excise tax on motor fuels, throughout the life of the next highway bill. This users’ fee is now 18.4 cents per gallon.

“AED is sending a clear message to lawmakers,” said Christian Klein, Washington, DC, counsel of the Associated Equipment Distributors (AED). “The needs are there. If we don’t increase funding for the road program, the economy will suffer and the safety of America’s motorists will be jeopardized. It’s up to everyone in the construction industry to get involved and to make the case on the Hill for an expanded road program.”

Pete Ruane, president and chief executive officer of the American Road & Transportation Builders Association (ARTBA) in Washington, has already proposed the increase in testimony before Congress, as a means of doubling federal investments in highway and mass transit capital improvements by 2009. “Two cents makes sense,” he said.

Congress must also fund highway and bridge programs for Fiscal 2003.

Both the House of Representatives and the Senate have passed continuing resolutions, which authorize funding for transportation and other programs at current (Fiscal 2002) levels until the new congress convenes on Jan. 7.

A total of $31.8 billion was appropriated for Fiscal 2002. Will Fiscal 2003 funding stay at that high level?

The House resolution would cap total Fiscal 2003 highway investment at $27.7 billion, although new resolutions after Jan. 7 may not contain this limitation. The Senate has generally supported funding at a higher level.

“We will continue to push for $31.8 billion, the same as in Fiscal 2002,” said Matthew Jeanneret, ARTBA’s vice president of communications. “It’s right for the economy, and right for our infrastructure needs. We believe that the last thing we should be doing is cutting highway funding when the economy is still struggling to recover – especially when there are still balances available in the Highway Trust Fund. Potentially 200,000 American jobs could be lost if the highway program is reduced from $31.8 billion to $27.7 billion. Keeping highway spending at current levels also is important because it establishes a base line for reauthorization.”

Jeanneret added that, during 2003, ARTBA also will continue to support spending “warehoused” Highway Trust Fund balances the year the user fees are collected.

Commenting on Fiscal 2003 funding, Dennis Day, a spokesperson of AGC, said, “Obviously AGC’s position is to grow the program, not shrink it.”

Realistically, could that current level continue in 2003?

“Sure,” said Day. “There’s some very strong support in both the House and Senate chambers to continue to reach the current program level, and to grow it. We do have to take into consideration some budget realizations that maybe the programs won’t grow as quickly as in TEA-21, but the ultimate goal is to continue to grow the program because the needs are there.”

GOP Control

As the result of the mid-term elections in November, Republicans will control both the Senate and House of Representatives when Congress reconvenes. Will GOP leadership increase support for highway spending?

“A pro-transportation agenda, which increases productivity, improves safety and helps the economy, has bipartisan support,” said Jeanneret. “The nation’s highway and mass transit needs have not changed as a result of the election. The challenge will be to educate all members of Congress and their staffs about these growing needs, and we believe support will come from both Democrats and Republicans.”

Said Day, “There is probably a growing likelihood that a Republican-controlled Congress would move towards permanent tax relief and other key Republican issues. Obviously, they are interested in positive developments before the 2004 election.”

He added he thinks the GOP outlook bodes well for meeting infrastructure needs.

“Going back to the infrastructure investment, there is about $40 billion in federal infrastructure spending that AGC follows,” he told CEG. “I think that money will still be available. We just don’t know how much we will be able to grow these critical programs. When it comes to infrastructure spending, there’s not a lot of partisan play. It’s more about funding levels. I think they all recognize the investments which these programs make for the country, and how they improve our quality of life.”

In the House, Don Young (R-Alaska) will remain as chairman of the House Transportation & Infrastructure Committee as Republicans continue to hold the majority.

The chairman of the Senate Environment and Public Works Committee will now be Sen. Jim Inhofe (R-Okla.), replacing Jim Jeffords (I-Vt.). Republicans now hold a majority in the Senate as well.

“Inhofe was a member of the Public Works Committee while he was in the House,” Jeanneret said. “He’s been a strong supporter of transportation. He knows the issues well, whether it’s funding or environmental streamlining or Clean Air Act issues. He’s well-respected on both sides of the aisle.”

Another positive: Sen. Elizabeth Dole, a new Republican senator from North Carolina, is a former U.S. Secretary of Transportation (under President Reagan), and could be expected to understand, and support, infrastructure spending.

And John W. Snow, the CSX Corp. chairman, who was named secretary of the treasury in December, was deputy undersecretary of transportation under President Ford and administrator of the National Highway Safety Administration in 1976-1977.

One of the construction industry’s biggest challenges during the year will be to make 60 new members of Congress, and a slew of new governors, aware of needs. Another new challenge will be that the Bush Administration has never been through the surface transportation reauthorization process before.

One-third of the members of the new Congress that will develop, and vote on, the new highway bill was not in Congress when TEA-21 was passed.

Transportation problems and traffic congestion were issues, which resonated with voters during the November mid-term elections, helping candidates win contests. Those who made transportation an issue were generally successful.

“Transportation was elevated on the national level in a way it hadn’t been before, and I think that’s important for the reauthorization of TEA-21,” noted Jeanneret.

The GOP Congress is expected to look more favorably on permanent repeal of the Estate Tax, which stands a better chance of passing (but getting 60 votes in the Senate would still be difficult.)

“As part of the 2001 tax bill, the Death Tax will be gradually reduced between now and 2009, and repealed entirely in 2010,” said AED’s Klein. “Unfortunately, because of the way the bill was written, the tax will be reinstated in 2011. Making repeal permanent would free up resources that owners are holding back for future estate tax purposes. They could put these resources into new equipment and technology.”

Klein said AED also will push for more tax incentives for business investment. These would include restoring the Investment Tax Credit, increasing the depreciation bonus on new equipment purchases from 30 percent to 50 percent, and increasing expense limits for small businesses.

“I think we have a pretty good shot at getting something done on the economic stimulus front very early in the 108th Congress,” Klein explained. “There’s a good deal of consensus among both Democrats and Republicans that something has to be done to power the economic recovery and avoid a ’double dip.’ I’d look for a package that combines business tax incentives with help for investors and something to put cash into the hands of middle-income taxpayers.”

Klein pointed out that there has already been a significant increase in equipment purchasing since the Economic Stimulus Bill was signed into law last March, and that business investment is expected to continue to increase.

Matt DiIorio, AED’s vice president of marketing in Oak Brook, IL, said the law’s 30-percent depreciation bonus for new equipment purchases will help increase rentals this year, with contractors beginning to replace aging fleets.

Another positive force for 2003 is the Terrorism Risk Insurance Act, passed just before Congress adjourned in the fall. The new law means that contractors on commercial construction projects will be able to purchase affordable insurance, with the federal government paying a large part of claims over $10 billion this year and $15 billion in 2005.

The administration’s tax reform package also will include eliminating the double taxation of dividends, which will help investors, corporations and the economy by making investments more attractive.

Utility Contracting

Utility contracting during 2002 was a mixed picture. States like Delaware and New Jersey had all sorts of work, while the West Coast was short on work. The year ahead could be better, if proposed funding comes through for much-needed projects.

“I would say that, all in all, 2002 was a good year,” said Eben Wyman, vice president, government relations, of the National Utility Contractors Association (NUCA) in Arlington, VA. “Construction of water and sewer lines remained pretty stable even while the economy was going into the tank. If there was a decline, it was slight.”

The picture for 2003 isn’t clear yet, Wyman added, because Congress passed the continuing resolution without resolving any appropriations bills for next year.

“We’re not sure, for clean water, whether we’re looking at the $1.35 billion that we’ve had for the past six or seven years, or whether there’s a possibility we will receive a $125-million increase, which the Senate appropriators have proposed,” he told CEG. “They haven’t worked that out. We’re pushing hard to get $1.45 billion for clean water and $875 million for drinking water. These are badly needed resources, really just a drop in the bucket as far as needs go, but a step in the right direction. Hopefully, the House appropriators will keep to those numbers though it’s tough to go for increases in a time of budget battles and shrinking surpluses.”

The clean water state revolving fund (SRF) authorizations actually lapsed in 1994 but Congress has continued to appropriate funds because of the success of the programs.

Under the SRF “leverage” program, states match a certain amount of the federal capitalization grants and loan money out for a 20-year period. When the loans are paid back, the funds are loaned out again, so each grant is working in perpetuity, continuing to revolve for sewer work.

“I would say that the nation’s water needs even outweigh highway needs,” Wyman said. “EPA [Environmental Protection Agency] needs have gone from $150 billion at the present time to $600 billion by 2019. Obviously, $1.35 billion isn’t cutting it. We have a lot of aging infrastructure. The needs are crazy, and getting worse and worse.”

Reauthorization of the highway program at high levels, and the strong market in the single family housing, also will have a positive effect on utility construction and relocation – and on jobs.

“We estimate that every billion dollars of federal investment in clean water creates 55,000 jobs,” Wyman relayed to CEG.

McGraw-Hill’s Outlook predicts that sewer construction will decline 3 percent this year after a 17-percent jump in 2002. It ascribes the expected drop to “the tighter fiscal environment for the states.”

Equipment Manufacturing

The Association of Equipment Manufacturers (AEM) in Milwaukee, WI, said in its annual “Outlook” survey for 2003 that manufacturers of construction machines expect increases of 2 percent in the U.S. market, 3.2 percent in Canada and 3.3 percent in the international sector.

The manufacturers said they expected to close out 2002 with business declining 5.6 percent in the U.S., 2.8 percent in Canada and 0.8 percent in other worldwide markets.

“The construction machinery manufacturing industry has followed the general economy in experiencing a slowdown during the past 18 months or so,” explained Arthur L. Kaplan, president of Metso/Dynapac in Schertz, TX, who is AEM’s construction vice president. “We are cautiously optimistic that the current downturn will remain mild, but concerned about the uncertainty caused by mixed economic signals.”

Institutional Construction

McGraw-Hill’s Construction Outlook said that institutional building will edge up 1 percent in dollar volume in 2003 although square footage will be down 2 percent. It added that school construction “will continue to settle back from its record high reached in 2001,” while healthcare facilities “should at least equal this year’s heightened contracting.

“While institutional building will no longer be able to cushion the declines shown by other sectors of the construction industry, the level of activity in 2003 will still be high by historical standards, 3 percent above its average for the 1991-2000 period,” the Outlook said.

Other Sectors

Here’s the 2003 outlook for other sectors:

Electric Utilities – the value of new construction starts expected to decline 24 percent as this market continues to retreat from a record high two years ago.

Income Properties – There is a 2-percent gain in dollar volume because of the expected increase for multifamily housing. Excluding the multifamily sector, commercial categories are expected to fall 1 percent, following a drop of 16 percent in 2002. Office construction in 2003 is projected to decline 8 percent, to 148 million sq. ft.; warehouse construction is to decline 25 percent, to 185 million sq. ft.; hotel construction is estimated to decline 2 percent, to 39 million sq. ft.; and store construction may decline 4 percent, to 240 million sq. ft. A big question for 2003 is whether the decline in commercial construction has run its course. If so, what will be the timing of recovery?

Manufacturing – construction of buildings are expected to rise 6 percent, aided by a modest improvement in capacity utilization, following a drop of 22 percent in 2002

Airports – new terminal construction was down 28 percent during the first nine months of 2002 but runway starts increased 7 percent. The September 11 attacks have not widely disrupted expansion plans for 2003 and beyond.

Mass Transit – rail-related work is expected to remain high, with both the Bush Administration and Congress proposing increased funding.