Wednesday, March 14, 2007

Construction activity and future growth

Armenia's economy has grown at double digit rates over the past five years. Construction activity accounted for much of the recent growth in the economy (see recent post). Changes in the underlying trend in construction activity and its composition over the past decade, however, may foretell further growth and expansion in the economy.

Construction activity grew from 33 billion Drams in 1995 to 585 billion in 2006, or from USD 60 million to about 1.4 billion. Activity in the manufacturing and electric and gas utilities grew from 4.6 billion Drams to 92 billion in 2006. Even more impressive, activity in the transportation and communication sectors grew from a mere one billion (i.e. USD 2 million) to 63 billion.

..1995 ...2000 ...2006
32,829 100,990 584,608 Total Construction, in millions of Drams
.4,646 .10,488 .92,147 Manufacturing & Utilities
.1,091 .36,606 .63,392 Transportation & Communications
14,780 .21,098 306,030 Housing/Real Estate

Impressive gains are also observed in the housing and commercial real estate sectors. Construction activity grew from 15 billion in 1995 to 306 billion in 2006. These figures in part may reflect a wealth effect as more and more new and expansive buildings are built and older homes are renovated. Also these activities expand the volume of rental property and office space available in the market place.

Gone are the days when humanitarian aid accounted for 10 to almost 20 percent of construction activity. Indeed, such source of funding accounted for less than 1 percent of the total in 2006, down from close to 20 percent (45 billion Drams or slightly less than USD 100 million) in 2003. Also, it is gratifying to see an expanded construction activity in the education sector, which increased from a mere 360 million Drams (less than USD one million) in 1995 to 10.7 billion (about USD 25 million) in 2006.

These activities are bound to expand the country's productive capacity and add to future growth and expanded employment opportunities. Do we know of any studies on how labor markets are impacted by this? Also, has anyone explored the effects on future growth?

[March 15 -- I have had some difficulty in posting the detailed construction data for 1995-2006 on the aea.am site. Perhaps I'll be able to do so within the next day or two, and the link above will be more useful then]

5 comments:

NM said...

David,

Such a dramatic growth in a low-value added sector such as construction does not do much justice to Armenia's future growth potential (you are not really building any productive capacity here, since this is not infrastructure you are talking about but rather consumption of residential housing). In addition, because construction is non-tradable/non-exportable, it is bound to have limits to how much it can grow. Finally, and more importantly, because construction competes with other sectors for inputs of production, it is bound to depress those other sectors by making them uncompetitive (why would someone care to bust his behind making $200/month working as an IT professional, if he/she can get paid $400 working on a construction site?....arguably an extreme example, but strong enough to demonstrate the point). So all in all, relying on construction to generate most of your GDP growth is a disaster waiting to happen. And of course there are reasons why construction sector in Armenia is growing like there is no tomorrow---unlike some other sectors, it is not taxed! NM

Anonymous said...

NM,

Perhaps the reason the construction industry is growing so rapidly is the fact that the entire infrastructure and housing stock of the country has to be rebuilt.

David,

Is there no thought given to transforming the construction and engineering sector into export-oriented services - i.e. engineering/construction companies selling their services abroad?

Liborale

David said...

I don’t buy the argument that growth in construction and its growing contribution to GDP is a disaster waiting to happen, because no one can tell us what the alternative should be. Indeed, one can easily make the case that more construction activity is needed given the experience of the 1990s.

Also the tax argument has little support as local businesses (except for the little guys) don’t pay much in taxes anyway.

One way to look at the country is as one big construction project attempting to replace much that has been lost/destroyed in the post independence years (is anyone writing on how we got into this mess?). Indeed, could you imagine what the economy would have looked like today had it not been for the growth in construction activity during recent years? In any event, I can’t imagine what particular industries is this activity crowding out? Don’t you need factories to be able to produce tradables? How about electricity and gas distribution facilities? What about hotels and hospitality facilities to serve the 100s of thousands visiting the country every year (I don’t think armstat’s figures on hotel construction are right?)? How about quality housing to attract foreign human capital or at the very least retain our own professionals? The quality of housing in many sections of Yerevan is pretty bad if not downright unsafe. It is noteworthy that per capita total spending over the 12 years of 1995-2006 was 61000 drams or USD 153 per year!

More directly on the tradable/non tradable point, the country exports very little (other than diamonds and raw metals) and imports a very diverse set of products. You may check the composition of exports here http://aea.am/files/data/Exports.xls and that of imports here http://aea.am/files/data/Imports.xls. The picture does not look pretty now nor did it looked pretty before the recent surge in construction activity. Domestic industry is in the process of recovery, but unfortunately the process has been painfully slow. It is unable to compete globally or adequately supply the domestic market, as it has yet to fully mature. Consider the case of the stone fence built around the US embassy. This must have cost a bundle, yet my understanding is that it primarily benefited the Chinese and the Poles as local businesses were not able to guarantee the quality of the work.

Labor markets are trickier, and way out of my expertise. In any event, construction accounts for little over 3 percent of employment (see http://www.edrc.am/project.html?cat_id=77), and the average wage is much higher than that of most sectors except for finance and government. Workers get paid the value of their marginal product (VMP), and society decides that value!

akhanjian said...

Construction is considered a major economic sector and the number of construction permits could be considered a leading economic indicator, because instead of crowding out production in other sectors, construction in every country stimulates the production of other sectors and in the case of Armenia it stimulates the production of furniture, tiles and stones, carpets, drapes etc. When Armenians from Diaspora buy apartments in Armenia, or Armenians in Armenia buy a second apartment they also have to buy everything that goes inside of that apartment. Therefore construction helps the development of other sectors. In that sense construction is a very important economic sector not only in Armenia, but also in every country, including the U.S. In the National Income and Product Accounts of the U.S., construction is considered investment and not consumption. In Armenia by the time the growth rate of construction sector starts to slow down, hopefully other sectors related to construction would become established. These sectors could continue to produce and take care of the maintenance of the existing apartments and the needs of the newly constructed apartments.

David said...

There is some merit to the points made by nm. Construction is one of the least productive sectors of an economy. But I just don't see what other sector is supposed to contribute to the economy in a big way. There is so little investment in education that I don't see how capital intensive and high tech industries, with high productivity, can ever take off.
Also there is the catchup factor; too little construction has taken place for a decade or so!