Most industries in the UK are likely to be affected by the upcoming exit from the EU in some way, but few will feel the impact more keenly than the construction sector.

Access to labour and construction materials from the EU has been a key advantage for British building firms for years. Beyond that, the health of construction has always been especially sensitive to wider economic fluctuations – depressed investor confidence means fewer building projects, after all, and the industry has barely recovered from the disastrous financial crisis that kicked off in 2008.

With two years of negotiations due now the UK has triggered Article 50, the rumblings that have been felt the in the construction sector since the EU referendum vote in June last year are just the ghosts of Brexit future; anxiety over the prospect of Brexit rather than the reality of Brexit itself. But real impacts have been felt in the wake of the vote, from sharp volatility in the construction purchasing managers’ index (PMI) to complications related to the value of the pound, which slumped after the referendum to its lowest level against the dollar since 1985.

It’s little wonder, then, that property and construction industry leaders were so firmly set against leaving the EU in the run-up to the referendum; a Smith & Williamson property survey published in January last year revealed that just 15% of construction executives thought Brexit would have a positive impact on the industry. It’s also no surprise that there is considerable concern in the industry about the final form a UK exit will take, and whether companies will still have access to the single market on the continent.

With these issues in mind, how has the Brexit vote affected the construction industry, and how might the impact of the UK’s eventual departure from the EU be felt?

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Climbing material costs

One of the most pressing issues facing construction companies in the aftermath of the referendum vote is the potential for input costs to rise. The EU is an important source of materials and labour for British construction companies, and losing them could be a dangerous tipping point for a sector that has already seen its profit margins squeezed tightly.

The industry has already had a taste of what might be in store due to the depreciation of the pound since June. The pound’s value fell to historically low levels in the second half of 2016 and then dropped further at the outset of 2017, with the pound’s current price at the time of writing resting at €1.15527. Despite surprising post-vote economic growth signalling the resilience of the UK’s economy, Bank of England governor Mark Carney warned in February that businesses and consumers would be feeling the squeeze as 2017 progresses.

For construction firms, the depreciation of the pound spurred by the Brexit vote has led to significant increases in the cost of raw materials, given that a quarter of the materials used in the UK construction industry are imported. A September 2016 Arcadis market report on the impact of Brexit on the construction industry noted that the depreciation of sterling has added 6-8% to the cost of imported materials.

“70% of construction SMEs have experienced increased material costs as a result of the weakened pound.”

“This is a significant risk factor on commercial and residential projects where dollar or euro denominated expenditure could contribute to 20-30% of costs,” the report concluded. “Some work packages are particularly vulnerable, for example cladding or switchgear.”

The pain of this input cost inflation is being felt most strongly by smaller firms. A survey by the Federation of Master Builders (FMB), published in January, found that 70% of construction SMEs have experienced increased material costs as a result of the weakened pound, with further increases of 10-15% expected through 2017.

“Anecdotally, construction SMEs are already reporting an increase of 22% in Spanish slate and 20% increase in timber,” said FMB director of external affairs Sarah McMonagle. “There is also an added headache for the builder, as material price rises can come at short notice and if they are mid-project, the original costing is no longer accurate. This makes pricing jobs problematic and leads to construction SMEs having to cover themselves against sudden price swings.”

Labour concerns despite falling demand

The material cost increases are particularly concerning given the potential for construction demand, which has already plateaued in some sectors, to fall after Brexit, or even after the triggering of formal exit negotiations, which the Arcadis report noted “will determine confidence by influencing ‘go/no go’ decisions for programmes and projects”.

Falling demand brings with it the risk of downwards pressure on construction tender prices. “Our revised tender price indices represent a significant reverse in price movement for the buildings sectors,” the Arcadis report warned. “Even based on our low impact scenario, London prices could be 7% lower at the end of 2017 than were forecast in early 2016.”

Some sectors, such as the internationally-exposed commercial property market and complex prime residential projects, are likely to be more at risk of falling demand than others, such as large-scale infrastructure, which is to some extent insulated from market volatility by long-term state-backed investment programmes.

Considering the anticipation of falling demand, can the industry at least expect some respite on the construction labour and skills constraints that, even before the referendum vote, the Recruitment and Employment Confederation described as “critical” and Construction Industry Training Board chairman has called “a skills time bomb”?

Unfortunately, regardless of any drop-off in demand, the construction industry’s labour issues are likely to continue. Data from the Office for National Statistics reveals that only 3% of the UK’s construction workforce was registered unemployed at the start of 2016, compared to a base unemployment rate of more than 5%. Wages have gone up by 27% since 2006, and the Arcadis report asserts that “although construction demand is expected to level off, labour constraints are so severe that the issue will remain an inflationary factor”.

It seems labour expenditure – which in the short-term has been forecast to rise by 6% per year – can be added to the pile of increased input costs that construction companies will have to balance against the risk of depressed product value.

Immigration was one of the major pillars on which the EU referendum was fought, and a hardening of borders between the UK and the continent, which seems inevitable, could have a massive impact on the demographics and capacity of the construction labour pool.

Of the 2.1 million-strong UK construction workers, around 12% are overseas workers, with the lion’s share originating in the EU. Another piece of Arcadis research from November states that in a ‘hard Brexit’ scenario, British construction stands to lose 215,000 workers between now and 2020, with around 135,000 fewer workers even if a softer exit is negotiated, for example with immigration quotas or sector-by-sector migrant policies. Certainly the industry will need to double down on training and recruitment programmes to address any skills gaps and keep labour cost inflation in check.

Resilient economy and infrastructure boom: reasons to be cheerful

Of course, in the midst of the doom-and-gloom predictions for the construction industry, there are still reasons to harbour some optimism about the future. The UK has an advanced economy that has defied pessimistic expectations and remained resilient in the face of Brexit. In February the National Institute for Economic and Social Research revised its economic growth forecast for the UK up to 1.7% in 2017, just 0.2% lower than the year before, and higher than all other G7 countries other than the US.

The construction sector, too, has proven resilient; the Construction Product Association’s State of Trade Survey in October recorded the industry’s fourteenth consecutive quarter of growth in Q3 2016. Construction activity made a strong comeback in the second half of 2016 after a post-vote slump.

“Resilient housing market conditions and a renewed upturn in civil engineering activity helped to drive an overall improvement in construction output volumes for the first time since the EU referendum,” said IHS Markit senior economist in October. “A number of survey respondents noted that Brexit-related anxiety has receded among clients, although it remained a factor behind the ongoing decline in commercial building work.”

“The infrastructure sector has the potential to drive construction demand as other sectors fall away.”

While commercial, industrial and retail construction look to bear the brunt of Brexit-related troubles, the infrastructure sector has the potential to drive construction demand as other sectors fall away. In this sense, the UK government is providing considerable reassurance to international investors and the industry itself, allocating £100bn of state investment up to 2021 under the National Infrastructure Delivery Plan. It also affirmed its commitment to large-scale, long-term infrastructure schemes such as High-Speed 2, Hinkley Point C, Crossrail and others, although Brexit could throw up complications for the many large projects that have received substantial international investment.

At this point, it’s possible to make educated speculation on the real costs of Brexit for the construction industry, but there is still a level of uncertainty that makes the coming years hard to predict. Lib Dem peer and former building regulations minister Lord Stunell will lead a high-level review into Brexit’s effect on UK construction, and more indicators will emerge as the UK begins its European divorce proceedings. Until then, the government will need to listen closely to the warnings of an industry that is set to become a vital foundation for the UK economy outside of the EU umbrella.