The Economics Of The Brick Cycle and Its Effects on Firm and Industry Structure
2.2 House Construction In The United Kingdom
The high level of importance of the house building activity to those non-specialist firms that supply 90% of the brick market makes it necessary to investigate the house building industry itself in some detail. In particular the mechanisms, by which small fluctuations in the general trade cycle are “multiplied” into large fluctuations in the demand for bricks, have to be more fully explored. These “multiplier” effects are quite complex mainly because the house market is made up of two sections.
The house building industry in the U.K. contains a large public sector. The aim of this government involvement is to fulfil two policies; to build up the country’s housing stock, and to provide jobs. Public-works house building dates back to the 1920’s and 1930’s. However, it was after the second World War that the schemes became particularly popular under demand-management policies because house building is simple to organize (and quick), uses relatively large amounts of labour, and involves little or no flows of money abroad.
This involvement has meant that the demand for the house-building industry’s finished goods has relied heavily on government spending. Indeed, n average, almost 50% of activity during the post war years came from this source. However, the years 1977 onwards saw a marked decline in the sector’s relative importance, until by 1982 it represented only 27% by value of all homes built. 1 Even this figure however, means that the house building industry is heavily dependent for some demand on general levels of public spending.
The existence of both public and private sectors in house building means that two sets of demand functions will exist for new houses. It can be seen form Table 1, which breaks down total house-starts that demand fluctuates quite markedly in both sectors. The table shows that the average percentage yearly change is greater in the two separate sectors than it is for total demand. This suggests that the two sectors combine to produce a “smoothing” effect on total demand.
Housing and Construction Statistics, DOE, 1972-1983.
Table 1. House Building-Starts by Sector (‘000’s)
Source: Housing and Construction Statistics, DOR, 1972-1982.
Capital spending, of which spending on houses is a part, makes up about 20% of total government expenditure. The remaining 80% is mainly made up of wages to government employees and social security benefits; as such, this figure is difficult either to increase or decrease. Capital spending therefore usually experiences the brunt of any change in total spending, because it is relatively easy to change in the short-term. This effect can be seen from the table overleaf, which shows capital spending decreasing in relative and absolute terms during the tight fiscal policy years of 1980, 1981 and 1982. However, as a small up-turn in the economy was experienced in 1982 and 1984, so capital spending was seen to rise faster than current expenditure.
Table 2. Public Spending in Real Terms (1982-83 prices). £Millions.
Source: Economic Progress Report, February 1984. P.2&3.
The table also shows that much of the reduction in capital spending in the years 1979 to 1982 was obtained specifically through a reduction in the level of spending on house-building. Some of this decline was due to the change in administration that occurred in 1979. Some is also due to the fact that in the short-term house-building expenditure is, of all the constituents of capital spending, the easier to cut and to increase.
When such changes in spending are imposed, then the effect on house building itself is interesting to note. House building projects take 15 to 18 months to complete. If it were decided to increase spending in houses by 10%, there would be two ways of doing this: firstly, by increasing the rate of work on existing projects, the scope to do this however, would be limited unless prevailing work rates were already low. The second option is to increase the number of projects started over the next few months. This could be quickly done by bringing forward commencement dates of existing projects, all the new work could be under-way in less than three months.
If it is assumed that (i) houses take 18 months to complete, ii) monthly spending is spread evenly throughout the full length of the project, iii) house building activity had previously been stable and (iv) all new work can be bought underway within three months, then an increase in spending of 10% on house building would bring about a much larger percentage increase in the number of house starts over the next three months of the order 10% ٪ 1/6 = 60%.
In other words, given the time period assumptions, multiplier of 6 would exist. This figure is very important to the brick industry because a small change is government spending could, in a short period of time, lead to a 6-fold increase in house-start activity and therefore a correspondingly large increase in the demand for bricks. In reality, the effects of the multiplier are probably smaller, firstly because the time period assumption are inaccurate, and secondly because changes in government spending levels tend to take place more slowly with some degree of warning. However, the existence of the multiplier effect does explain some of the erratic behaviour of monthly house-start statistics.
A very similar multiplier exists in the private sector. However, here it operates
on changes in private demand for new houses. This in turn is dependent, at any one time, mainly on levels of mortgage lending in the economy. Thus, the price of mortgages (interest rates), generally determines levels of privately supplied revenue available to house builders. Therefore, changes in the availability of such funds, although caused for different reasons, are multiplied in a similar way as changes in the supply of house building funds (described above). The demand for bricks from this section therefore, also fluctuates widely.
Graph 2 shows clearly the way the multiplier effects of the house construction
industry are felt. House completion levels are seen to fluctuate more than does demand in the general economy. In addition, house-starts are seen to fluctuate even more widely than house-completions. The extent of this fluctuation gas serious consequences for the brick industry especially because brick demand for the whole industry, is a derived demand and therefore very price inelastic. The brick industry therefore has to change production levels completely to equate this fluctuating demand. The ongoing need to this rapidly must be one of the most dominant features of brick production.
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