2006 National Outlook: Stable as She Goes

But Keep an eye on interest rates

Dipika Kohli

Pacific Northwest economic forecast for construction activity this year aligns with trends predicted around the country.

McGraw-Hill Construction researchers are predicting increases in most sectors, but dropoffs in retail, health care and single-family construction.

That's the message Cliff Brewis, an economist who directs editorial content for McGraw-Hill Construction in the Western United States, delivered to a crowd of architects, owners and contractors gathered in Seattle last month. His talk, "Outlook 2006," forecasted the U.S. construction industry's areas of growth and decline.

Brewis said both in the Northwest and across the country, there's a consensus that all is well in construction. Almost every sector is posting positive numbers, he said.

All the big sectors are growing. Total construction in Washington is expected to reach nearly $14.6 billion this year, up 2.02 percent from 2005.

But asked if anything worries him, Brewis didn't hesitate to answer. "Inflation," he said.

If money becomes more expensive to borrow, it will affect every person in construction, he said. "You don't build a building with the cash in your pocket," he added.

Everyone should be keeping one eye on interest rates, which will affect how much it costs to borrow funds, Brewis said.

Over the course of the last decade, the cost of money has gone down, but now it has bottomed, Brewis said. As money became cheaper, building activity increased. In other words, for at least 10 years construction activity has climbed at the same rate that the cost of money has declined.

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But now money might start costing more, putting construction activities at risk.

There's war in Iraq, the aftermath of Hurricane Katrina, a heating economy and unpaid U.S. debts overseas, and Brewis said that all means the table is set for inflation. But he added that no economist is worried that will happen anytime soon.

Meanwhile, the Federal Reserve Board is trying to keep inflation under control by raising interest rates, which puts the single-family market at risk.

In the Pacific Northwest, single-family construction has outpaced other market sectors. Since 2000, it has more than doubled. But if mortgage rates go up even slightly, single-family housing construction activity will decline.

Brewis said housing also drives other types of nonresidential construction, including schools, police and fire facilities and infrastructure.

For the most part, he said construction this year in Washington will rise and fall in much the same way as in other parts of the country. For example, the single-family housing market is predicted to dip elsewhere, too. But construction of schools and industrial buildings here will eclipse the national average.

The state is also expected to do well in industrial construction, Brewis said. Aviation and high-tech companies, for example, are posting strong profits.

As part of his talk, Brewis compared the ways growth in the Northwest's individual market sectors are predicted to stack against each other. Work in hotel, multiresidential, education and highway construction is expected to pull ahead this year, he said. Retail, medical and single-family construction will lag.

Here's a closer look at what's expected in the Northwest this year:

Multiresidential. Construction in multifamily housing has grown steadily across the country, though the climb has been gradual. Brewis said litigation throughout the 90s for multiresidential projects kept many from getting into the market, but attitudes are changing.

New programs to encourage green building could be one reason. Some come with incentives to encourage dense development where people walk instead of drive and help curb air pollution.

Brewis pointed out two local examples of multiresidential projects under way: King County's Greenbridge and Vulcan's South Lake Union.

King County Housing Authority broke ground last summer on Greenbridge, a $235 million mixed-use development in White Center, and Vulcan is redeveloping more than 60 acres of Seattle's South Lake Union neighborhood into a metropolitan village where office, residential, museum and retail spaces would be built around open space.

Education. More people are expected to move to this part of the country, one reason The Northwest is expected to build more schools than other states.

Higher education is a good market to be in, too, Brewis said.

He pointed to a graph illustrating the steady increases in enrolments since 1999. People have been signing up for university and college classes around the country at a nearly constant, rising rate since then. More are expected through 2014.

Hotels. After a sharp decline from 2004 to 2005, construction work in hotels is expected to jump, shooting from $65.4 million last year to $92.5 million in 2006.

Most hotel work this year will be renovations. Even Seattle's Edgewater hotel, where Brewis gave his talk, is in the midst of upgrades.

Office. Office construction is expected to climb this year to $569 million, up from last year's $436 million. But Brewis said there is already ample supply. Owners of existing office spaces built during the dotcom years will need to fill them with tenants before the office market reheats.

Highway. Passage of the federal highway bill means people now have confidence there will be money to fund new highway projects, Brewis said. Yet they also know some of these funds could easily be diverted to Hurricane Katrina recovery efforts.

Single family. The large market sector in single-family housing is expected to shrink slightly this year. In 2005, this was a $6.89 billion market, but this year it's expected to cool to $6.61 billion.

Brewis said interest rates are especially important to watch. By one estimate, they're predicted to reach 6.5 to 7 percent by the middle of this year.

Retail. "Expect the retail side to moderate as the price of oil cuts into discretionary spending," Brewis said.

Retail work will taper in the Northwest, but it won't decline as significantly as in other parts of the country. Retailers are attracted to The Northwest's highly educated residents and their incomes. "It's an attractive market," Brewis added.

Stores such as IKEA, Lowe's and Wal-Mart are expected to do well, but grocery stores will suffer.

Health care. "People often view medical buildings as a can't-miss marketplace, but the health-care market is not quite as big as everybody tends to think," Brewis said. He acknowledged the need to serve an aging population, but pointed out cuts to Medicare and Medicaid raise the question of how to pay for new construction.

In 2004, there were 94 million sq. ft. of health care facilities built around the country, he said. The next year construction of health-care facilities jumped by 12 percent, but it's only expected to increase 2 percent this year.

Religious In past years, there were more opportunities to build religious facilities. Drawing attention to a sharp decline predicted this year, Brewis joked those in this market "haven't got a prayer."

Several in attendance for his talk in Seattle said they were glad to hear Brewis confirm their hunches about where construction is headed. Ellen Alexander of AGC The Northwest said what Brewis' predictions matched those of the AGC.

Ernie Emmert, a project manager with Bend, Ore.-based Howard S. Wright Construction Co., said, "If he's wrong, there're a whole lot of people wrong with him."