US-China tariffs: What next for the US construction industry?
It has been over a year since the US President announced the imposition of a wide range of trade tariffs on goods from some of the country’s largest trade partners.
Initially, this list included Canada, Mexico, Brazil, South Korea and China. Since then, exemptions and revised trade treaties have been signed and agreed with some of these countries. However, there still remains to be agreement with China - possibly the largest and most consequential of these trade partners.
Initially scheduled to take effect from 1 January 2019, increases were then delayed until 1 March 2019. President Trump has subsequently announced that, following “productive talks” with China, the tariff increase date has been postponed until further notice. As a result of this uncertainty, what might the impact of this increase have on the US construction industry?
In December 2018, John Robbins, Managing Director (USA), published an article focusing on the anticipated effects of the tariffs on the US construction industry. This detailed a cost study undertaken to ascertain the ramifications of the tariff on construction project costs, particularly looking at those trades that use steel and aluminum in their materials or construction installation.
With the threat of further increases from ten percent to 25 percent, these costs could add one percent onto the overall project cost. For the more steel intensive buildings the increase could top six percent.
What is the industry saying?
While there are many opposing views on the pros and cons of the proposed tariffs on steel and aluminum, there is consensus that the lack of a clearly defined strategy or finality on the matter is causing some uncertainty in the economy. This has affected almost all markets within both the US and Chinese economies.
Within the construction industry, we are seeing the various effects of this in the key aspects or constraints on our projects. Projects across the USA have seen this indecision affecting:
- Cost – increased trade prices due to “pricing-in” or “hedging” by material manufacturers, subcontractors and general contractors.
- Time – schedules are being extended to allow for anticipated slower processing of imported goods at ports of entry. Alternatively, projects are being delayed in flight where these delays have not been accounted for or built into delivery schedules.
- Specification – clients and designers are now faced with limited or reduced choice for project material specifications as they try to avoid being impacted by the tariffs. This could lead to increased costs or delayed schedule.
The above constraints do not inherently exist or operate in a vacuum. They can all lead to a vicious circle where the schedule delays lead to increased costs of labor expended in trying to recover the schedule.
Therefore, it is increasingly important to evaluate all three constraints in unison and ensure that the entire project delivery team maintains the necessary level of focus. Furthermore, risk management must be at the fore when considering all decisions.
Trade packages and material costs affected
As part of this effort, it is vital to understand the particular trade packages affected the most. This is crucial in order to influence the design specifications, procurement strategy and risk mitigation.
In the days following the initial announcement regarding tariffs, the supply chain was caught unaware and was largely forced to absorb a portion of the increased costs where orders were already placed and pricing was fixed.
In our sampling of projects on the East and West Coasts, we have seen the following packages and trends as the most affected and volatile:
- Steel and reinforcing steel – 15-20 percent increase on raw steel costs for structural and reinforcing
- Mechanical – 15 percent increase on piping, ductwork material, and steel support material costs
- Electrical – 10-20 percent increase in light fixtures costs and associated wiring.
These key material cost increases have been reported by leading contractors as a result of the uncertainty and due to escalating global trade tensions. The material increases will therefore have a domino effect on the overall trade package costs.
Further feedback from general contractors is that due to strong demand and more tariffed product reaching the market, we will see the increases continue to be reported across more projects.
Feedback from general contractors
Where we have not seen specific costs increases incorporated into packages, many general contractors and subcontractors are including caveats to ensure their risk for potential cost increases is mitigated.
An example of such a condition we have seen issued by a general contractor for a project is as follows:
“The Owner will issue a Change Order to increase the Contract Price for any additional costs caused by Federally Imposed legal tariffs that are imposed and/or put into effect after June 30, 2018 for materials (a) not in the United States or (b) not authorised by Owner to be procured as of the date of the First Amendment."
Even the above qualification can fall short in fully covering the effects of the tariffs, as we expect the price for domestic steel and aluminum to continue rising due to the exponential increase in demand which could easily far outpace production and supply.
Furthermore, the construction industry supply chain is more globalised than before meaning a switch to mostly domestic materials and products is a long-term target and very difficult in the immediate future.
With contractors planning and pricing for these potential surges in material costs, it is imperative that clients follow suit.
We need to mitigate the risks associated with not only the potential increase to project costs but also the effect of the uncertainty around unknown market factors, as well as potential schedule effects. The following actions should be taken:
1. Planning ahead
- Minimising escalation:
- Early buy out of all trade packages and materials (where possible)
- Incorporate escalation clauses to allow for adjustments in fees/wages.
- Contract language:
- A clear procurement strategy that provides distinction in risk mitigation and allocation
- Include price increase provisions into contracts, stipulating how and when these are applied
- Be specific and incorporate the word “tariff”.
2. Reducing the effects
- Pre contract:
- Interrogate the design specification to protect against unnecessary risk from materials that could be sourced locally
- Keep informed of policy decisions and changes as they unfold
- Review contracts thoroughly to ensure we know when to negotiate for price adjustment.
- Post contract:
- Know what alternate sources of material are available or under design development
- Target Value Design and Value Engineering.
The increase in tariffs already imposed will have the greatest impact on the projects already in construction, but there is the opportunity to mitigate the risks to future projects.
Tariff forecasting should form part of budget formation and development for future projects. The early purchasing of raw materials, inclusion of contract clauses relating to price increases and robust management of both change and contingency are all key ways to minimise the effects moving forward.