CPA economist: Infrastructure's bright but risky future

Prospects for UK infrastructure are bright but key risks threaten growth, says CPA economics director, Professor Noble Francis

The future looks bright for new infrastructure construction over the second half of the decade and it will be a key driver for growth in the construction sector as a whole. Infrastructure output is expected to double between 2015 and 2019 and, as a consequence, is expected to lead to a 21.5% rise over the period. Increasing general levels of activity within the key infrastructure sub-sectors of water & sewerage, roads, rail and energy are expected to be boosted by several major projects such as the Thames Tideway Tunnel, HS2 and Hinkley Point C. 

Overall for 2016, the forecast for construction growth has been revised marginally downwards, from 3.8% to 3.6% due to slower expected UK economic growth. However, after this year, forecasts for total construction growth have been revised upwards, primarily due to growth in infrastructure and the inclusion of main works on HS2, which we had previously excluded due to our concerns about delays due to planning and cost issues. Growth in 2017 is now forecast to be 4.1% compared with 3.7% in our previous forecasts.

"Increasing investment is expected to lead to output in the sector in 2019 worth £27.6 billion, 101.8% higher than in 2015."

Despite the bright future, however, there are some key risks to the infrastructure sector’s growth prospects such as a deteriorating global economic growth, the UK’s impending EU referendum and skills shortages. These risks are currently causing concern in the short-term but these concerns could turn to reality and harm infrastructure growth significantly.

Firstly, some context. New infrastructure construction output fell 8.2% between 2010 and 2014 as government funding cuts hit some major projects and local authority improvements programmes, which was partly offset by growth in activity in some areas and whether you enjoyed the first half of the decade was very much dependent upon which infrastructure sub-sector you were operating in.

Water & sewerage maintained workloads over the period due to work on 5 year spending plans. Rail work increased as activity on Network Rail’s five year spending plan was boosted by work peaking on the current projects of Crossrail, Europe’s largest project by value, and Thameslink, both in London. Energy construction also increased considerably between 2010 and 2014 on the back of growth in renewables and ever increasing decommissioning work. However, offsetting this growth was activity in the roads sub-sector, which almost halved between 2010 and 2012 alone as the Highways Agency found its budgets cut by over 40% and local authorities found their budgets highly constrained without sufficient funds to finance even basic repairs and maintenance as the Asphalt Industry Alliance’s ALARM survey clearly highlights each year. 

Looking forward, increasing investment is expected to lead to output in the sector in 2019 worth £27.6 billion, 101.8% higher than in 2015.

"The key issue will be whether skills constraints are felt in the infrastructure sector, given the rapid expansion that has been forecast." 

In 2015, rail sub-sector, work on Crossrail, the Thameslink programme and major station redevelopments in London will continue to provide the main activity. However, after the Hendy Review into overruns and escalating costs, renewals work will lose out as Network Rail changes its focus towards large electrification projects. Phase One of HS2 is clearly the largest project that will occur in the forecast period and drive activity in the sector and the £563 million redevelopment of Bank station in London will also boost activity levels. However, the electrification of the Midland Mainline and TransPennine routes has been postponed to CP6, between 2019 and 2024, if it occurs at all. Overall, prospects in the rail sub-sector are very bright and from 2017 onwards, growth rates are expected to average 15.0% per year.

Electricity is now the largest infrastructure sub-sector. In the near-term, activity is expected to be driven by ongoing nuclear decommissioning and work around National Grid power connections. Output will be supported by main works starting under the Round 3 Offshore Wind programme. A final investment decision was reached on the Rampion Offshore Wind Farm in Sussex and the Walney Extension in Cumbria in 2015. In addition, work on the Hornsea One offshore wind farm is expected to start this year. Our forecasts have main works at £18 billion Hinkley Point C nuclear power station starting in 2018 but EDF are still to give the go-ahead, with the final decision on investment once again delayed in January 2016. Energy infrastructure is forecast to rise 11.0% in both 2016 and 2017 before accelerating to 22.0% in 2018 and 17.0% in 2019.

In the water & sewerage sub-sector, output rose 16.0% in 2015 and looking ahead, framework spending under the current five-year Asset Management Plan (AMP6) running from 2015/16 to 2021/21 is set to increase but water companies will be focusing mainly on the maintenance of existing assets, rather than new build, to make best use of their funding and improve efficiency. A boost to the sector will be the £4.2 billion Thames Tideway Tunnel, which is due to begin in early 2016 with the main tunnelling works occurring in 2017 and so, overall, water & sewerage output is forecast to grow 13.0% in 2016, followed by 19.0% in 2017, 16.0% in 2018 and 9.0% in 2019.

Roads construction output should, theoretically, be the fastest growing infrastructure sub-sector. Highways England, which replaces the Highways Agency, has confirmed a £15.2 billion Road Investment Strategy for capital enhancement and renewals between 2015 and 2020, intending to increase investment threefold by the end of the decade. However, early indications in to the five year period are that there are concerns that Highways England is enduring cost and time overruns on current projects. If so, this could lead to it to focus on meeting its targets on a smaller number of projects, reducing the growth of work on the ground. Despite this, roads activity is still expected to rise 5.0% in 2016, followed by growth of 8.0% in 2017 and 10.0% in 2018 and 2019.

Despite all the forecast growth, it is worth sounding a note of caution. Although the forecasts are optimistic there are some key risks out there that could especially impact upon infrastructure. 

Uncertainty regarding global economic growth is currently a key issue and at the moment is affecting financial markets, especially with respect to China. Worsening of the economic environment in China or other emerging markets may have an adverse impact on UK economic and construction growth but it could also hinder investment. Another issue that hasn’t a significant impact this year will be the EU referendum. No assumption has been made regarding the result of the UK’s EU Referendum but, in the months leading up to the referendum, uncertainty regarding the result could lead to a hiatus in investment in the UK as well as causing a slowdown in new orders or previously signed new orders being put on hold. 

Two greater threats to the growth are supply constraints and project delivery. The CPA’s forecast assumes that the skills are there to meet the needs of the projects in the pipeline and ensure the forecast growth is achievable. However, issues regarding the availability and cost of skills have already been highlighted in private house building, where post-recession recovery has been most rapid. The key issue will be whether similar issues are felt in the infrastructure sector, given the rapid expansion that has been forecast. This could especially be the case in sectors like roads, where the growth the Highways Agency anticipates is extremely ambitious or in the nuclear sector where we haven’t done a new nuclear power station since Sizewell B in 1995 so do we have the skills for Hinkley Point C? And if so, do we have the skills for Hinkley Point C at the same time as Wylfa in Angelsey? Skills needs appear to be determined at the project or programme level but when these are occurring at the same time as other projects, are they still feasible? 

The final concern is about project delivery. This is the first forecast in which the CPA has included main works on HS2 in 2017. Previous forecasts excluded it due to uncertainty regarding its cost, planning and timing. Now we have main works in there but it could face delays from the anti-HS2 lobbyists. Hinkley Point C has been in the CPA’s forecasts since preparatory works for the project began in 2012. However, we have had to push it back further and further each year in our forecasts. At this point the CPA has main works on Hinkley Point C starting in 2018. However, EDF, the primary investors, have yet to confirm their decision on the project and that means that further delays cannot be ruled out.

Despite this, there are still reasons to be very positive. The risks are around the forecasts, not factored in as yet. The future is bright for infrastructure and, all being well, we should see considerable growth in all the key sub-sectors, which should be a boost for the whole industry.