Construction Costs

Still expensive, but increases will slow significantly

The U.S. construction industry continues to grapple with numerous interconnected challenges that have led to unprecedented spikes in construction costs over the past two years. Total construction costs are the sum of three major cost components: materials, labor and margins. Materials costs likely won’t rise next year as supply pressures ease, but labor costs likely will increase. While margins can vary significantly across projects in different sectors and locations, CBRE expects rising construction spending next year to support higher margins as contractors try to recoup higher input costs absorbed in 2022. Taken together, we expect total construction cost escalation in 2023 to be slightly higher than the historical norm but well below that of 2022.

Despite fewer starts, construction activity will remain strong next year

The record-high value of construction starts in 2022 will generate robust construction spending in 2023. Typically, about half of spending on non-residential starts and about 30% of that on residential starts is spent in year two of any project. Dollar values are partially inflated by higher construction costs and a few big-ticket projects, but the pipeline still appears quite full when measured by square footage.

Rising interest rates and an economic slowdown are beginning to weigh on starts, which will lower activity in late 2023. This will be most apparent in the residential sector, particularly single-family housing, though annualized starts as of September 2022 were still higher than pre-pandemic levels (significantly so for multifamily). Nonresidential construction spending, which has been slower to recover from the 2020 downturn than residential, may accelerate somewhat in 2023, though much of this activity will remain concentrated in the industrial sector (warehouses and large manufacturing facilities). The government’s $500 billion infrastructure program will also support construction spending growth over the next several years.

Figure 28: Annualized Dollar Value of Construction Starts by Property Type

Note: 2022 data is annualized as of August.
Source: CBRE Strategic Investment Consulting.

When there is consistent demand for construction jobs and backlogs grow, more contractors can raise bid prices and remain competitive. Because prices for construction inputs have increased much more over the past two years than the output prices contractors have passed on to developers, contractor margins are expected to increase in 2023 across markets with healthy construction pipelines, which will increase total construction costs.

Commodity prices to stabilize

CBRE expects that the global supply chain disruptions causing higher construction costs over the past two years will largely dissipate next year but that some commodity shortages, particularly from Russia, Ukraine and China (e.g., oil/gas, aluminum, nickel, stainless steel, semiconductors, appliances) will persist. Nevertheless, broader supply chain recovery and easing inflation should help stabilize construction input costs next year. For some commodities, this will mean price declines from recent peaks, but most are not expected to return to pre-pandemic levels. For others, price levels will not fall but price growth should slow to a minimal, more predictable pace or remain flat.

Labor market to remain tight, pressuring wages

High demand for construction workers in a tight labor market likely will persist in 2023 given expectations for robust construction activity. Since growth in construction wages has lagged total private wage growth in recent years, tight labor conditions will likely fuel stronger construction wage growth in 2023. This should be particularly pronounced in markets with the most construction activity or in highly unionized markets where labor contracts are up for renewal, as unions will want to account for the high inflation in 2022.

CBRE index points to pace of escalation moderating, but prices won’t reset

Figure 29: CBRE Construction Cost Index, Annual Increase by Scenario

Sources: CBRE Econometric Advisors, CBRE Strategic Investment Consulting, Q3 2022.

CBRE’s proprietary construction cost index incorporates all three major cost components to provide a comprehensive indicator that can also be used to forecast future escalation. After two years of double-digit increases, CBRE expects construction cost growth of 5.4% in 2023. Higher interest rates and slow economic growth could cause delays to many constructions projects. This would alleviate labor and materials shortages and limit the extent to which contractors could boost margins. In this scenario, we expect construction costs would rise by 2.7% in 2023, in line with the historical 2%-to-4% range.