Construction sector hit by fiscal consolidation, inflation

KARACHI: The construction sector, long a beneficiary of cheap credit-fuelled building boom, slowed sharply in the first quarter of current fiscal year as a result of a negative impact of monetary tightening, a slash in government development spending, and high inflation, central bank report said.

A fall in development spending during the interim government, which was in office for almost the first half of Q1FY19, lowered the demand on the public sector front, while the imposition of ban on transfer and purchase of properties in excess of Rs5.0 million dented the demand of the private sector, the State Bank of Pakistan (SBP) said in it quarterly report on the state of economy.

The government's fiscal consolidation measures resulted in a reduction in development spending in the revised budget for FY19. Consequently, during Q1FY19, public sector development programme dipped to Rs106.6 billion from Rs165.0 billion.

Resultantly, private sector spending on housing projects also slowed down with the resurgence of inflationary pressures and certain regulatory measures.

"The combined direct contribution of construction and housing sectors to GDP has been consistently higher than nine percent over the past decade; whereas, a steady expansion in wholesale and retail trade activities in the country has kept the buoyancy in commercial real estate intact," the central bank said.

The report said the property market in major urban centres of the country has been under pressure due to genuine demand emanating from a heavy influx of population from rural areas, and consistently rising remittance inflows over the past decade.

"This demand was fuelled by property purchases for wealth concealment and tax avoidance, as well as for earning significant capital gains." Speculative and short-term investments also found their way into the sector. "Resultantly, price pressures in the property market have persisted," the SBP said.

In April 2018, the government announced (as part of budgetary measures for FY19) the imposition of ban on property purchases (above five million) by the non-filers. Furthermore, it was also suggested to abolish the FBR rates, whereas an advice was made to provincial governments to abolish the DC rates.

“An early implementation of the announced reforms is crucial,” the SBP said. It appreciated the establishment of the Directorate General Immovable Properties, which would act as FBR’s specialised agency on all matters relating to the real estate sector.

However, it said that since credible data on transaction volumes was not available, a sense of market activity could only be taken from information available on prices, which suggested subdued activity.

Between April and September 2018, plot prices in Karachi have dropped by around 15 percent, whereas the same in Lahore have nearly stagnated. In the near-term, therefore, tax collection might remain subdued due to a lower transaction volume, but in the medium- to long-term, these reforms would improve both the revenue collection as well as the overall incentive structure.

The SBP said CPI data indicated that prices in the construction sector rose sharply from 4.1 percent in Q1FY18 to 9.6 percent in Q1FY19.

“Construction items that have a heavy import footprint such as paints, ceramics, sanitary, and steel surged in tandem with an increase in the international prices and depreciation of the domestic currency,” it reported.

The cement sector’s output contracted by 1.4 percent in the quarter under review against a sizeable growth of 12.4 percent during the same period last year. The decline came despite the fact that the sector’s capacity grew from 49.4 million tons to 54.2 million tons during the review period.

“A slowdown in cement dispatches in the midst of capacity enhancements resulted in a fall in the utilisations levels by four percent in Q1FY19 to 80 percent,” the SBP reported.

However, in Q1FY19, the domestic sales witnessed a decline of 0.4 percent on a year-on-year basis, putting considerable pressure on the utilisation levels. “Encouragingly, however, exports grew remarkably, as they did during the previous expansionary phases as well,” the report said. Steel output too shrank by 2.9 percent in the quarter, compared to a significant growth of 47.0 percent during the same period last year. “Given the dependence of the steel industry solely on domestic market, this deceleration is in tandem with the overall slowdown in construction activities in the country,” the central bank said.

The increase in raw material prices in the aftermath of exchange rate adjustments also played a pivotal role in undermining the sector’s performance.