What is Driving Construction Spending?

Total construction spending has contributed to real Gross Domestic Product (GDP) over the past two quarters and is expected to add to economic growth through 2013.

Construction spending rose 0.8 percent in October and has increased at a 3.5 percent annual rate over the past three months, which suggests residential and non-residential construction spending will likely make a positive contribution to real GDP for the third consecutive quarter.

We are projecting outlays on non-residential structures to rise 5.0 percent in 2011 and 9.5 percent in 2012. Despite gains in the second, third and fourth quarters, spending for residential construction will still likely decline 1.8 percent in 2011 before rising 3.7 percent in 2012, Wells Fargo economist, Mark Vitner, wrote in a note to clients.

That said, with the fundamentals still weak, what is driving the growth?

While overall residential and non-residential outlays are on the mend, details show a heavy degree of spending is concentrated in just a handful of project categories, specifically construction outlays for energy exploration and new power plants, the analyst said.

Outlays for mining, petroleum and natural gas exploration, which account for just less than 19 percent of total structures outlays have accounted for a whopping 56 percent of the growth over the past year. Power, which includes conventional sources such as coal and natural gas, as well as new energy projects (e.g., wind, solar, and biomass), accounts for just less than 10 percent of structures outlays but has comprised more than 26 percent of the growth in outlays.

Meanwhile, the balance 17 percent of the growth in structures is mostly in residential, of which brokerage commissions account for a disproportionate share of the past year's growth.

On the other hand, spending for new single-family structures, which accounts for 14 percent of overall structures spending, actually declined 4 percent while spending for new multifamily structures, which accounts for 2 percent of structures outlays, accounted for 6.6 percent of the growth.

While we continue to expect growth in total construction spending, commercial construction spending remains weak. Indeed, the slow pace of improvement in office, warehouse and retail outlays reflects anemic fundamentals, Vitner said.