The Economy and Architecture: What the Data Show
Q & A with Kermit Baker, PhD, Hon. AIA, AIA chief economist, on the state of the economy for the architecture industry
This interview took place on July 13, 2023. Future editions of the AIA/Deltek Architecture Billings Index may reflect changes in the economic outlook.
What are the top three “headlines” related the economy and the architecture industry?
Design activity has slowed down significantly since the fourth quarter of last year, and construction, which always lags design, will be slowing down soon.
There is variability among the three sectors we track: Commercial by and large is fairly weak. Industrial in incredibly strong. And, institutional is holding its own, and will probably slowly accelerate.
An increasing portion of work is focused on reconstruction: renovations, retrofits, historic preservation, and additions to existing buildings.
What are the major factors that are impacting the slow down?
While inflation is a measure of what is happening in the overall economy, architects care more about what is happening with construction costs, which is best tracked with the Producer Price Index. The index’s numbers have been all over the board.
As an example, inflation was at a high of about 8 or 9 percent, but inputs to construction have experienced a high of 20 to 25 percent. A developer can’t pencil out a project if material and labor costs are that high or volatile. This is a factor that has slowed down construction activity, and therefore design activity, for the last couple of years.
Construction material costs are starting to come down, with lumber and steel now cheaper than they were a year ago. Labor costs remain high, though, and in this kind of economy, employees can demand higher wages and justify them because of the increased cost of living.
Can you explain the variation among the sectors?
Commercial includes retail, office, and hotel, and it is not surprising that this sector is fairly weak. Retail brick and mortar construction is down, yet the federal government classifies distribution facilities as retail so ecommerce warehouses have helped to balance this out. The office market, no surprise, is soft due to remote work; we don’t yet know how weak the office market really is because many companies have leases that have not yet come up for renewal. The government classifies data centers under offices, though, and data centers are a red hot market with AI, so that is a bright spot. Hotel construction was low during the pandemic, but now that people are traveling again, we are seeing growth in this area.
Industrial is not huge in the Northeast because we don’t do a lot of manufacturing here. The recently-passed microchips act is generating construction in parts of the country. Reshoring—production being brought back to the US from oversees—is also picking up. Given their experience during the pandemic, many companies feel it is too risky to have all production offshore so they are bringing back 10 to 20 percent. The third area of growth is related to the increase in fracking; industries making products with oil and natural gas are experiencing expansion.
Institutional is mostly work for public sector and nonprofits, including education, health care, religious institutions, and more. This sector tends to be more stable. Health care is strongest due to the pandemic and an aging population needing more care. Education is not as robust a market because the college age population is declining, yet facility building that was put on hold during the pandemic is coming back.
According to the May AIA/Deltek Architecture Billings Index, business in the Northeast is not as strong as other parts of the country. What is contributing to that?
The Northeast and Midwest are growing slower than the South and West. These geographic distinctions are less important than a trend that we have been seeing for 30 to 40 years of people moving out of urban areas—Boston, New York, and DC on the East Coast—to more affordable locations. The pandemic accelerated this. People who had been living in Boston have moved to western Massachusetts, New Hampshire or Vermont—or other parts of the country—because they can work remotely in a place that has a lower cost of living. The result is slower job and population growth in Northeastern urban centers.
What are your thoughts about the future?
We are in a modest design rut. It doesn’t look like this will change anytime soon. Through the ABI, we asked firms what they are seeing for new work and these numbers are flat. So, we asked: how about inquiries for new work? That has been pretty flat too. It doesn’t look like there is anything that is going to jump start the industry in the short term, so I expect about the same for the rest of the year.
There are some exceptions. A big infrastructure bill passed a year ago is going to create a lot of opportunity for projects, but not many that involve architects. As I mentioned, there was a bill passed on semiconductor chips; that will create work for some firms, but likely not many in the Northeast. And, the third is clean energy provisions under the Inflation Reduction Act, and they are having some impact, mainly in power generation, including solar and wind. Upgrading systems in buildings will be assisted by this funding. These opportunities will help but probably won’t move the needle significantly, especially in the Northeast.
In summary, the outlook is “more of the same.” For some firms, that is good news. For others that have seen a downturn, this is not good news.
What challenges lie ahead for architecture firms?
Staffing has been the number one issue for firms for the last couple of years and has been a background issue for longer than that. This problem is lessening as work slows. When things pick up again, though, which I expect will happen next year, we are going to go through another period of “how do we find workers?” I am not sure the profession has a good answer for this.
In other areas of the economy, you can lure workers away by offering more money. For architecture, it not that simple. We rely very heavily on the 6,000 graduates of architectural programs each year. We are stuck with not enough workers when the economy is strong and too many when the economy is soft. We are looking at how we can make the architectural workforce more productive as a potential solution to these imbalances.