The construction industry is struggling with a dizzying array of challenges. These include soaring costs for building materials, chronic shortages of skilled workforce, declining margins on house building, and stagnant housing completion rates.
Despite the very strong demand for new housing, the industry is still falling around 40% short of the completion rates needed to meet the National Housing Accord commitment to build up to 1.2 million new well-located homes over the next five years.
Typically, when a product or service is in short supply, this creates a demand and price spike that pushes up output and performance from the relevant industry. But not so for housing construction. Record level prices and unmet demand are failing to stimulate sufficient activity to build the houses that Australia needs. Why is house building defying the basic laws of supply and demand?
Ai Group Research & Economics have covered this vexing question in a previous research note. But we’re now armed with a new body of evidence from the Productivity Commission – detailed long-term data on productivity in the construction sector. This new data allows us to dig into the factors behind why the housing industry has not been able to raise its supply in the face of soaring demand.
The story does not make for reassuring reading. Productivity in the sector has faced stagnation, with labour productivity in housing construction slowly going backwards for two decades. Even the sub-segments which have raised their productivity – such as higher-density (apartment) construction – have failed to keep pace with the broader economy.
Factors contributing to this productivity gap include limited investment in new construction methods, slower adoption of technology, supply chain inefficiencies, and regulatory and planning constraints that curtail competition, all of which complicate project timelines and cost. Workforce shortages also make it difficult for new entrants to compete and for smaller enterprises to grow.
This research note explores the factors behind the precipitous decline in Australia’s housing productivity over the last two decades. It is only by addressing these underlying industry issues that we can achieve the uplift in house building needed to address the national housing crisis.
The first indicator that something is amiss is the cost of building houses – which has raced ahead of normal inflationary levels in Australia.
Over the last twenty years, the cost of building a new house in Australia has more than doubled, rising by 121% since 2004. While inflation has raised all prices during this time, the blowout for house building is especially pronounced. Industrial prices have risen 64%, and consumer prices 73%, over the same period.
The problem began at the start of the mining boom in 2009, when house building prices started rising faster than background inflation. By 2019 they had increased to 55% their 2004 levels, well above the 37% seen for other industrial product prices.
But it was during the pandemic things got out of hand. House building prices have surged a further 43% in the last five years alone, tearing away from background price indicators. This was despite the pandemic seeing the worst inflationary outbreak in over a generation.
But equally interesting is that this is a story about house building prices. The price of “other residential buildings” – a statistical long-hand for apartments – has not shown this pattern. Over the long-term apartment build prices have broadly kept pace with background inflation. And even though they outpaced other prices since the pandemic – rising 27% compared to a 19% background rate since 2019, apartment costs have risen by only a modest amount in comparison to houses.
This data provides a critical hint to where the housing productivity problem lies – house building. Apartment build costs are rising, but its house costs that are really doing the damage. Why?
Corresponding to this explosion of prices has been a steady decline in the industry’s productivity. A new Productivity Commission dataset – visualised in the chart below – tells the story:
The significance of this productivity collapse is brought into sharper relief when compared against economy-wide productivity. Labour productivity in Australia has increased by 24% during the same period – a normal development as technology levels rise - against a 14% slide for housing and 25% for standalone houses. No other industry shows this pattern of long-term decline.
This productivity decline is directly connected to challenges facing the industry – and indeed for our housing market writ large. It results in higher costs for construction – as more labour is required to produce the same amount of housing – eating into business margins and profitability. It drives prices higher as builders have to recover these labour costs. It also exacerbates skills shortages, as the constrained construction workforce is being used less efficiently.
Innovation in Australia’s construction industry has historically lagged behind other sectors which have embraced automation, digitalisation, and process efficiencies at a much faster pace. While advancements in construction technology have emerged, the sector remains heavily reliant on traditional, labour-intensive methods limiting productivity growth.
Data on innovation activity in Australia reveals the challenge. When it comes to product innovation construction is one of the weakest performing industries, with only 12.4% of constructors undertaking innovation activities. The national average is nearly twice as high at 21.7%. The only lower-ranked industries are mining and agriculture, which produce standardised commodities and therefore would not be expected to engage in product innovation.
When it comes to process innovation – improving methods to make a product - construction similarly fares poorly. Its innovation rate of 24% is the lowest of any industry in Australia, and below the national average of 31%. It also compares particularly poorly to allied industrials such as manufacturing and wholesale trade, with innovation rates in the 40s.
There is nothing inherent to the construction industry which leads to such low levels of business innovation. Housing is not a commodity product with standard market expectations that would suppress product innovation; nor are its processes inherently resistant to innovation. Indeed, the labour-intensive nature of the construction process would seem to encourage innovation – with fewer automation options available to drive cost saving, other types of process innovation should be more prominent in the mix.
One factor that is unique to construction is the impact of regulatory burden. It is one of the most stringently regulated industries in Australia, with complex product, employment and safety regulations governing all aspects of the construction process. Many industry participants argue that these governing pressures limit innovation, as firms are forced to prioritise meeting strict compliance requirements over exploring new construction methods and technologies.
The National Construction Code (NCC) has become a significant driver of regulatory complexity and uncertainty, despite its central importance to Australia’s construction industry. The NCC is an essential mechanism to ensure the safety, health, amenity, accessibility and sustainability of Australia’s buildings. However, the NCC and related guidance now runs at over 2,000 pages and is subject to regular updates approximately every three years.
To add to the complexity, enforcement of the NCC is undertaken by different state-based authorities. The breadth of policy objectives the NCC is being used to support – from improving environmental sustainability to maximising market competition – also risks creating scenarios where elements of the Code work at cross-purposes with one another. A more strategic, systematic approach to designing the Code is arguably required, but its scale makes this practically difficult for the Australian Building Codes Board (ABCB) which administers the NCC.
These regulatory challenges are compounded by the chronic workforce shortages plaguing the industry. According to the ABS’s most recent business innovation survey, 64% of construction business identifying barriers to innovation, cited a ‘lack of skilled workers’ as their primary barrier. Undertaking business improvement not only requires a workforce with the right level of skills, it also requires there to be sufficient latency for that workforce to be deployed towards longer-term improvement processes.
In addition to cost and margin pressures, the construction industry is also struggling to secure enough labour, which is putting even more strain on builders. The sector relies heavily on skilled trades, and these trades are currently in severe shortage. According to Jobs and Skills Australia, every occupation within the construction trades field was identified as facing a national shortage in 2023, making construction the most labour-shortage-affected industry in Australia.
This shortage has resulted in a significant backlog of vacant positions. In the first quarter of 2024, there were 27,500 vacant construction jobs, accounting for 2.2% of all jobs in the industry—nearly double the typical vacancy rate. While the vacancy rate peaked at 3.1% in mid-2022, it has since decreased slightly with the easing labour market. Despite this, the shortage of skilled workers remains a major challenge for the industry, with vacancy rates remaining well above their normal range.
Therefore, factors affecting Australia's construction industry are not only straining builders but also impacting housing affordability and the sector's long-term growth. The slow pace of change highlights the need for greater investment in technology, streamlined regulations, and workforce development. Addressing these issues will be crucial for enhancing productivity, fostering innovation, and ensuring the sustainability of the construction sector in the years to come.
It has been a regular refrain from political leaders and policy specialists that Australia's housing crisis is fundamentally a problem of supply. Indeed, previous Ai Group research has shown the Australia needs to very quickly increase the rate of housing completions by 40% if we are to meet our national target of 1.2 million new well-located homes by the end of the 2020s. This will require a completion rate – of 60,000 new homes per quarter – which Australia has never sustainably achieved before.
And we have little chance to reaching these levels with a home building industry ravaged by declining productivity. Trying to extract more houses from an industry with declining productivity is like filling a bucket with a widening hole. Without action to turnaround this decade-long decline Australia has little chance of meeting its targets, or ensuring affordable and secure housing for our changing population.
Governments control many of the levers – for skills, standards and permitting – which are necessary for a productivity turnaround. It is critical they ensure regulatory frameworks, such as the NCC, are match fit. The objectives of advancing safety and sustainability must be proportionally balanced with the necessity that our construction industry be able to rapidly apply innovation and increase the speed of project completion.
Failure in this task will not only curtail the contribution of the construction industry to economic growth, but it will have negative ramifications for Australian social equality as housing will inevitably become more inaccessible to a greater number of Australians.
Jeffrey Wilson is Head of Research and Economics at the Australian Industry Group.
He leads our economics team and provides strategic direction in developing the research program to support our advocacy, service delivery and policy activities.
Dr Wilson specialises in international economic policy, with a focus on how trade and investment shape the Australian business environment.