Construction and credit booms

E I have conveyed the following message a few times over the last decade or so: If you rely on one or two sectors alone, eventually you fall into the trap of diminishing returns. E Too much capital accumulation, and down the road returns to capital invested would fall. Too much reliance on labor supply – such as growth with unlimited supplies of peasant labor due to internal migration - and the same thing happens.

E Nevertheless, if you mainly rely on construction, the outcome would be even worse. Because construction doesn’t create productivity, because its final product is non-tradeable but its inputs are - or can be - imported, it leads to a dead end.

E Now an IMF blog tells us that construction is also related to bad credit booms, booms that end either in sub-par growth or in financial distress.

E Construction costs are rising rapidly. In the last 12 months, overall construction material costs increased by 43% and labor costs by 20.6%. The overall increase is a very high 35.5%, compared to much lower consumer inflation, officially speaking.

E Costs reflect on sale prices. Although mortgage rates are high compared to the unusual summer of 2020, residential house prices went up by 27.5% in Istanbul and 34% in Izmir over the last year.

E All these price and cost developments occured amid large drops in sales. In July 2020, mortgage sales were 130,521 whereas in May 2021 they stood at 10,560 only. Total sales also fell, but prices have gone up nonetheless.

E This is so also because there are large front-loaded financial needs to fund large construction drives. If construction and energy firms are entangled then not only productivity is harmed in the long run, but also energy prices could go up unnecessarily to cover the construction investment debt and risks that emanate from there. E This means higher cost inflation, if nothing else – which may explain recent energy price hikes, is built into the very structure of the input-output sectorial nexus.