Investment Lull To Limit Construction Growth

BMI View: While the German construction industry has returned to growth over the first half of 2014, in line with our forecasts, we continue to note that activity in the sector will not impress over our 10-year forecast period. Weak domestic consumption and concerns over the impact of the Ukraine crisis will discourage investment. Meanwhile, the government continues to offer little in terms of major infrastructure investment plans.  

Despite Q114 data revealing that the German construction industry grew in real terms by 7% year-on-year (y-o-y) over the first three months of 2014, we are maintaining our forecasts for full-year growth of 1.7% y-o-y. Not only was Q113 data particularly weak, meaning base effects have boosted Q114 data, but there are also signs that the German economy - and by extension activity in the construction sector - will slow over the second half of the year.

After performing well over 2013 and the beginning of 2014, a number of leading construction indicators are pointing to slowing momentum in the construction industry. The Markit Germany Construction Purchasing Managers' Index has now been in negative territory for four consecutive months and is currently standing at 48.2 (50 represents neutral).

Muted Outlook Begining To Show
Construction Industry Value (EURbn) and Real Growth (% Change y-o-y)

BMI View: While the German construction industry has returned to growth over the first half of 2014, in line with our forecasts, we continue to note that activity in the sector will not impress over our 10-year forecast period. Weak domestic consumption and concerns over the impact of the Ukraine crisis will discourage investment. Meanwhile, the government continues to offer little in terms of major infrastructure investment plans.  

Despite Q114 data revealing that the German construction industry grew in real terms by 7% year-on-year (y-o-y) over the first three months of 2014, we are maintaining our forecasts for full-year growth of 1.7% y-o-y. Not only was Q113 data particularly weak, meaning base effects have boosted Q114 data, but there are also signs that the German economy - and by extension activity in the construction sector - will slow over the second half of the year.

Muted Outlook Begining To Show
Construction Industry Value (EURbn) and Real Growth (% Change y-o-y)

After performing well over 2013 and the beginning of 2014, a number of leading construction indicators are pointing to slowing momentum in the construction industry. The Markit Germany Construction Purchasing Managers' Index has now been in negative territory for four consecutive months and is currently standing at 48.2 (50 represents neutral).

In particular, the civil engineering sector has registered the largest contraction, supporting our view that infrastructure investment within Germany is still too low to support growth. The IMF has recently suggested that Germany could afford to boost its infrastructure spending by around 0.5% of GDP per year over four years, without violating debt reduction commitments. However, we do not believe the government's budgetary goals will allow for such spending. The absence of state backing and a fragmented banking sector will also continue to inhibit major infrastructure investment.

Looking Less Positive
Markit Construction PMI (LHS) And Construction Industry Orders Index By Sector, 2010=100 (RHS)

As we have noted previously, the residential sector in Germany has been one of the bright spots in construction, owing to high demand in cities for real estate ( see 'Project Rejection Belies Housing Demand', 29 May). This has continued to be the case, with residential construction orders outperforming non-residential and civil engineering orders over 2013 (see chart above). While we note that this should support growth over 2014, orders have now begun to fall and we expect that - in combination with falling house prices - the residential construction sector will contribute less to overall growth in the coming quarters.

Non-residential construction has been an area we have been concerned about in terms of growth. Investment in domestic projects in Germany is already low, owing to a prevailing view that better returns can be made on international investment. Also, capital allocation within the German banking sector is very inefficient and, as such, the funding construction firms and real estate developers need is not readily available to them.

This already bleak investment picture is being exacerbated by Germany's weakening economic performance and concerns over geopolitical risk. German industrial output rose just 0.3% month-on-month in June. Output missed a consensus forecast of 1.3% as fears over the crisis in Ukraine weighed on growth - adding to signals that Europe's largest economy may have stalled in the second quarter. With our Country Risk team now even further below consensus on German growth for 2014, we do not expect growth in the construction sector to pick-up markedly over the remainder of 2014. .

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Related sectors of this article: Infrastructure, Construction, Residential Construction, Commercial Construction, Industrial Construction
Geography: Germany
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