How competition reduces construction costs?
While there was little information on this subject available from academic, peer-reviewed sources, I was able to pull together some key findings: industry experts have created a 5-tier classification system for the correlation between competition and pricing in construction markets. In general, the system is based on the overall pattern that high levels of competition and low levels of available work results in low costs, and as more work becomes available, or the number of competitors in the market decrease, costs rise. To illustrate this system, I've included case studies from two cities in the United States, one in Canada, and one in South America.
Below you'll find an outline of my research methodology as well as a deep dive into my findings.
Despite extensive searching, I could not find any academic, peer-reviewed, and recent research on this topic from high-quality sources. I searched academic databases, trusted media sites, industry reports, and other sources. Through an exhaustive search, everything I could find was either too old to be relevant or from non-academic sources. The best sources I found to answer your question are market research reports and insights from industry experts. I've outlined my findings from these sources in the next section.
Turner and Townsend, a professional services company serving the construction industry, had outlined a classification system for explaining the correlation between construction costs and market competition for this industry. There are five levels of classification: cold, lukewarm, warm, hot, or overheating. In a cold market, costs are low because there are many contractors competing for only a small amount of available work, which drives prices down. As competition decreases and prices go up, a market becomes warmer. When a market has an overabundance of work, and less competition, prices tend to be very high, and this market would be classified as hot or overheating.
There are only two markets in the world that are considered to be overheating: New York City and Seattle, Washington. In NYC, prices were up by 4% in 2015. In the city, unique regulatory requirements, the dense environment, and labor shortages have led to a lack of competition, meaning that prices have shot up and are up to 50% more expensive than other major cities. The average cost of construction in NYC is $3,650 per square meter, the second highest in the world after Zurich, Switzerland. Similarly, Seattle faces labor and skill shortages and very little competition, causing price hikes in the city. Prices were up 5% in 2015, expected to rise another 8% in 2016, and another 8% through 2017.
Cities that fall under the "cold" classification include Moscow and São Paulo. Brazil's economy has been hard hit by the decline in oil prices, and as a result, the economy has contracted and the country's currency has lost much of its value. The construction industry in particular is contracting, "as declining confidence and corruption scandals lead to a fall in investment, with the major infrastructure projects particularly affected." Moreover, there is a surplus of available labor in this market, one of only four in the world with this problem. As a result, the cost of labor is very low. In 2015, São Paulo saw a 7% increase in construction costs, among the highest recorded. Prices were expected to rise by another 8% in 2016. The average construction cost in São Paulo is just under $1,000 per square meter. Interesting, São Paulo also has some of the highest preliminary costs in the world, up to 15% of the total construction cost. Margin rates for contractors are actually quite high in this city, averaging around 10%, as compared to the global average of 6.1%.
There are many cities that are considered "lukewarm" or "warm", including Toronto, Beijing, Johannesburg, Singapore, and Melbourne. Hot cities are Dublin, Kuala Lumpur, London, and San Francisco. In Toronto, resources construction has reduced significantly in recent years, with no promise of rebounding. However, the residential construction market is still strong, which is keeping the overall industry stable. Moreover, commercial and infrastructure construction are both growing strongly and projected to continue, particularly "boosted by the new government’s promise to pump in an additional CAD60bn over the next decade." Overall, construction costs are growing by a low 2% per year. Contractors margins are about average, at 6%, and preliminaries account for 10% of costs.
To wrap up, despite the lack of publicly available academic research on this topic, I did learn that industry experts have created a 5-tier classification system for the correlation between competition and pricing in construction markets. In general, the system is based on the overall pattern that high levels of competition and low levels of available work results in low costs, and as more work becomes available, or the number of competitors in the market decrease, costs rise. On the prior end of the spectrum are cities like Moscow and Sao Paulo, in the middle are cities like Toronto, and on the latter end are cities like New York City and Seattle.