Builders Fret As The I-Word Bandies Between Wall Street And Capitol Hill
As market-rate builders sweat out Fed policy agenda on managing inflation and its impact on borrowing costs, site-level risk -- from potential construction defect backsliding -- also grows.
For veterans of a housing economic cycle or three, the "transitory" vs. "underlying core" debate over inflation, ricocheting back-and-forth between Wall Street and Capitol Hill, hits a raw nerve.
They've seen it before. And they don't much like what they're see now.
Don Neff, president of Irvine, CA and Miami-based LJP Construction Services – a national construction quality advisory firm whose clients include homebuilders like Shea Homes, multifamily developers, property management, architects, engineers, and insurance companies – puts it this way.
"I'm always looking out six months to a year from the present. I'm registering the inflationary spikes that are starting to occur. That could well drive up interest rates. I'm also concerned about all of the public money being floated by this White House Administration, because when we get a flooding of public money into the economy, that drives inflation."
But inflation in pricing and supply chain bottlenecks that so beleaguer builders trying to source materials and products for their job sites these days, are not the root cause of real concern. Price spikes, everybody knows, will resolve as more of the economy catches up with itself. Those spikes in price and scarcity of this commodity or that product are the symptoms, not the cause, in the view of people like Neff.
"You end up then raising interest rates to slow down the expansionary growth rate of the economy, and then you go into recession. In my conservative opinion, we've got an Administration that doesn't have a lot of business acumen relative to business cycles, and I'm somewhat fearful that we're going to wind up in the can again with a recession because the interest rates are going to have to ratchet up to slow down inflationary pressures."
Neff cites the Biden administration's agenda, pushing for a multi-trillion dollar infrastructure investment package that includes money for building roads, bridges, electric vehicle charging stations, and so forth.
The logic chain for Neff – and many builders and their business partners tossing and turning these nights as the "transitory" vs. "underlying core" sparring plays out, and as various partisan and bi-partisan efforts to enact law that would fund major new infrastructure investments come to a head in Congress.
Home price escalations, says Neff, are common as homebuilders work to keep up with rising material prices. So long as interest rates stay low, housing demand will continue, the thought goes. However, as "underlying core" inflation pressures mount – fueled not only by the flood of rescue and stimulus money, but by extended unemployment insurance programs that have contributed to delayed labor participation.
The endgame Neff fears, is that "underlying core" inflation will drive interest rates higher and could crater the housing market, and thus the national economy.
For Neff, assessing risk goes with the turf, with about 500 active projects across the U.S. in pre-construction, construction, and post-construction phase analysis, only this time he's looking through a macro lens on the residential construction sector as a whole rather than at a particular builder's construction quality and defect risk.
Neff notes that chronic skilled labor capacity constraint – exacerbated by the pandemic – raises the alert-level on construction quality for builders, since disruption to supply chains has interfered with start-to-c0mpletion schedules and contributed to a mindset of rushing construction cycles through the pipeline to deliver as many work-in-process inventory turns as possible.
"Builders are working hard right now to bring inventory to market to satisfy pent-up demand that grew dramatically through COVID-19, and fortunately, we've seen an increase in quality over that period of time. Builders are hypersensitive to delivering good product in the face of potential construction defect litigation risk. This is a ripe topic for us to be counseling our clients on. Just because you're facing incredible pent-up demand for your house units doesn't mean you can short-circuit assuring quality during construction because that's going to come back and bite you eight years from now."
Research LJP conducted of more than 2,000 construction projects show the most common causes of defects stem from issues related to weather barriers, framing, mechanical systems, plumbing systems, fire resistive assemblies and window/door installations. Common causes of construction issues include deficiencies in field workmanship, misinterpretation of plan details, and deviations from manufacturers’ recommendations.