According to a national report from Wells Fargo Economics, construction spending continues to lose momentum as high interest rates weigh on activity. Total construction spending dropped 0.3% during June, with declines registered in both the residential and nonresidential categories. Overall construction outlays were still up 6.2% on a year-to-year basis, however, June marked the second straight monthly dip. Another soft reading on the forward-looking Architecture Billings Index during June provides evidence that construction activity is likely to remain weak in the near term.
Looking further ahead, prospects for construction are beginning to brighten. The Federal Reserve did not make any substantive changes to monetary policy at the July FOMC meeting, yet the Committee laid the groundwork for interest rate cuts later this year, likely beginning at the next meeting in September. Furthermore, although broadly turning down, not every segment of construction is on the decline. The Census recently published new estimates of data center construction spending, which has expanded rapidly over the past several years and is not showing any meaningful signs of slowing as firms race to keep up with the Artificial Intelligence (AI) revolution.
Residential Building Stuck in a Rut
- Overall construction spending dipped 0.3% in June, reflecting a broad weakening in both residential and nonresidential outlays.
- Residential construction suffered its third decline in the last four months. Although recent weakness has been shared across single-family and multifamily construction, June’s 0.4% decline was entirely owed to a pullback in single-family building.
- High mortgage rates in recent months have put a damper on single-family home demand, especially as prospective homebuyers eye potential rate cuts later this year. Private single-family outlays dipped 1.2% in June, the third sequential decline following a 12-month string of improvements from April 2023 to March 2024.
- Multifamily construction, meanwhile, continues to moderate off of the record high set in June. Private apartment construction spending posted a slight 0.1% improvement in June, the first positive reading in seven months. Taking a step back, private multifamily outlays have declined in en of the last 12 months and remain 7.4% below the pace one year ago.
- We expect single-family building to continue weakening in the months ahead. Single-family permits in June retreated to their lowest level in over a year while starts hit an eight-month low. Multifamily development is also set to soften as builders reevaluate starting new projects amid an already lofty pace of apartment construction.
Nonresidential Construction Turning Down, but Not Everywhere
- The lagged effects of monetary tightening are also weighing on nonresidential building. Total nonresidential construction spending slipped 0.2% in June, the second consecutive decline.
- A downshift in nonresidential construction on the public side was responsible for the bulk of June’s drop. Lower outlays on educational, office, commercial and highway and street projects all dragged on public nonresidential investment in June.
- Private nonresidential outlays also waned in June, amounting to the fourth decline in the last five months. Although still up 4.2% year-over-year, a slower pace of commercial, power and healthcare projects weighed especially heavily on private nonresidential construction.
- Although credit tightening is less widespread today than in the immediate aftermath of last year’s banking sector instability, the credit environment remains generally restrictive for commercial real estate (CRE) lending. On top of tighter standards, CRE developers also continue to contend with high financing costs and a tepid demand environment, disincentivizing nonresidential construction.
- Not every nonresidential sector is in decline, however. Developers remain bullish on manufacturing construction as public incentives and global competition encourage an upshift in high-tech manufacturing.
- As explored in our recent Construction Spending Outlook, data center building has also surged amid increased use of productivity-enhancing software and artificial intelligence. Private data center construction outlays, which the Census includes in the “office” category, were up 62.4% year-over-year in June. The rapid rise in data center development explains why total office construction was down only 0.4% year-to-year in June. As shown in the chart below, general office construction has contracted sharply in the wake of the pandemic and increased prevalence of hybrid work.
- The Architecture Billings Index (ABI), which tends to lead nonresidential construction spending by about a year, improved somewhat in June but continued to signal pessimism on the outlook for nonresidential construction. Architecture firms have now reported a downdraft in billings activity for eleven straight months.
