US growth settles down

While the US economic cycle is expected to reach maturity in 2020-21, its construction market is forecast to remain relatively robust. As a result, the Portland Cement Association (PCA) forecasts modest growth for the cement sector in the medium term. By Ed Sullivan, PCA, USA.

The United States economy and construction market are expected to remain relatively strong during 2020-21. However, the economy is entering a mature stage in the business cycle with slower growth rates. Some of the zip and vigour that characterised the economy during the early stages of recovery, and fuelled by the release of pent-up demand, are now largely gone (see Figure 1). The Portland Cement Association (PCA) expects real GDP growth to range between 2.1-2.4 per cent in 2020. Slightly lower growth is anticipated for 2021.

This implies that the US cement market is likely to grow for the 11th consecutive year. From 2010 to date, the average annual growth rate in cement consumption has exceeded four per cent. With moderating economic expansion, cement demand in the US is expected to slow and range between 2-2.5 per cent in 2020. As economic growth inches down in 2021, slightly lower advances are anticipated for construction activity and cement consumption.

Economic growth factors

Labour market

Labour market strength and consumer spending are the two pillars upon which continued economic expansion rests. The labour market remains strong and is the backbone of the US economy. On a monthly basis, the economy generated 175,000 net new jobs last year and is off to a positive start this year (see Figure 2). However, this pace is down from previous years and the PCA expects a continued easing of job creation throughout 2020.

Even though the pace of job creation is expected to slow in each of the next two years, tight labour market conditions are expected to persist. Difficulties in securing skilled and semi-skilled workers are expected to continue in the years ahead and will restrict the pace of construction activity – to the detriment of growth in cement and concrete consumption.

Tight labour market conditions are not unique to the cement and concrete industry. The conditions are pushing wages up at a faster pace. However, despite rising labour costs, inflation remains tame. There are more ingredients in the calculation of inflation than wages alone, with these all combined together to generate the inflation outlook. Wage inflation is expected to play an important role in determining the inflation outlook. Worker benefits and rising healthcare costs, tariffs, fiscal stimuli and tightened immigration policies also contribute to inflationary spirits. In addition, the inflation picture is coloured by downward price pressures such as soft/declining oil prices, the strengthening of the US dollar, and an aggressive competitive environment as well as other costs of business. These offsets are expected to keep inflationary expectations in check. Lacking a ratcheting up of near-term fiscal stimuli, these offsets support the concept of modest or moderate inflation increases.

Interest rates and consumer spending

The strength in the labour markets and the tameness of inflation suggest that the economy lies in the “Goldilocks Zone” – running neither too hot nor too cold. This suggests that the Federal Reserve’s monetary policy action will be largely neutral – neither raising or lowering interest rates to any significant degree.

Strong labour markets and low interest rates signal a continuation in rising home values, albeit at a slower pace than previous years. This expands home equity, a large contributor to middle-class wealth. Add all these factors together with low prevailing interest rates, and a picture of a strong and stable economic consumer spending environment emerges. Consumer spending accounts for more than 70 per cent of US economic activity. Even if emerging and existing threats strengthen, it will take some time for these strong fundamentals to unwind and create an environment where broad economic growth turns negative.

Construction sector outlook

Residential construction

The residential market strengthened beyond expectations during the fourth quarter of 2019. This elevated pace is expected to endure throughout the next 18 months. Compared to the PCA’s autumn forecast, this elevated pace in residential construction could add as much as 1Mt to cement consumption in 2020. Even with this positive adjustment, the outlook for both the single-family and multifamily markets is characterised by cyclical and structural factors. On the cyclical side, moderate job growth is expected to support modest growth in household formation – the underlying force behind residential construction.

Mortgage rates now stand below four per cent and are expected to remain near, or below, current levels. While affordability is favourable in most areas, there remains several large population markets where it restrains sales and construction activity.

These generally-favourable residential cyclical factors are partially offset by structural factors. The baby boomer generation no longer dominates the new homebuying market. By sheer numbers, Generation X and Millennials now play a key role in generating housing demand. Structural issues such as large student loan debt work to the detriment of more robust housing sales numbers.

Already low mortgage rates are expected to decline another 50 basis points through 2020. The combination of slowing rates of home price increases, coupled with lower interest rates, translates into modest declines in the average monthly new home mortgage payment. This, in the context of labour market strength, leads to improvements in affordability. While this is expected on a national basis, it is not necessarily true regionally.

Months supply remains depressed and stands at a weighted average of 3.8 months, well below the PCA’s assumption of a target inventory level of five-months’ supply. This suggests that inventory building will support the modest sales growth.

It should be noted that the PCA’s single-family starts forecast anticipates 14 years of growth, with only one brief and mild pause. Such an outlook sounds very optimistic. By 2024, after recording successive years of growth, single-family starts are still expected to remain nearly 44 per cent below the past cyclical peak recorded in 2005.

Commercial construction

As the US economy increasingly enters the late stages of the business cycle, commercial investment activity typically slows since the near-term potential for revenues is less robust. Commercial construction activity also slows. These cyclical declines are either reinforced or offset by structural trends.

Online retail sales, for example, are curbing the requirement for big-box retail stores. The need for new warehousing space is increasing due to the same structural trend. Retail construction, a large source of demand for cement, weakened in 2018. That weakening has accelerated during 2019 and its drag is expected to continue in 2020-21. In addition, the ageing of the business cycle, coupled with adverse trade policies, has triggered softness in industrial construction. Aside from these two areas, the non-residential sectors most influenced by the business cycle reflect very modest growth, if any, and is consistent with an ageing economy.

Infrastructure construction

Public construction continues to receive the benefit of the 2018 federal budget that allowed for US$20bn in spending on roads, bridges, water and rail projects over 2018-19. While the monies are allocated for 2018-19, actual construction activity is dispersed over subsequent years. The benefits, coupled with various state infrastructure initiatives, had generated a strong growth in public construction. These gains come in the context of increased challenges at the state-level to manage deficits as entitlement spending growth continues at a strong pace. Overall, public construction spending is expected to grow two per cent this year, followed by a gradual softening to less than one per cent as the positive impact from the 2018 budget initiatives start to wane and state fiscal problems accelerate.

Summary

PCA expects United States real put-in-place construction activity to grow 1.2 per cent during 2020-21. Allowing for growth in cement intensities, a trend that has been ongoing for four years, the rise in cement consumption is expected to hover between 2-2.5 per cent each year in 2020-21.

The direction of the forecast beyond 2021 is subject to two key conflicting factors. Currently, PCA assumes that a large infrastructure programme, over and above the FAST transportation initiative, will materialise with pouring beginning in 2022. While there is bipartisan support for a heightened commitment toward infrastructure spending, there is some disagreement as to how to fund the extra spending. As a result, there is no guarantee that this long overdue infrastructure spending programme will be implemented. If it fails, annual growth rates for cement consumption in the final years of the PCA forecast may range less than 1.5 per cent.

A second key factor also shapes the forecast beyond 2022: federal debt. It took from George Washington to Ronald Reagan for the USA to first run up US$1trn in debt. However, we are currently spending freely, cutting taxes and generating US$1trn in debt annually. In 2011 Congress passed a budget act that mandated limits on the expansion and debt, and created an automatic process within the budget to limit the expansion of debt via spending. That process was called sequestration. The law is still in effect, but a reprieve has been given until 2022. If the sequestration materialises, at a time when the economy is further along in the business cycle, then slower economic activity is likely to follow – potentially threatening meagre growth in 2022 cement consumption.

This article was first published in the April 2020 issue of International Cement Review.