What do the latest inflation figures tell us?

Firstly, we are set for a heightening of the row between the quantitative easers and those leaning towards the views of the Austrian school on the matter of pumping money into a busted boom. Put simply what should we fear most: deflation or inflation?

Secondly, it is wise at the moment not to try to predict exactly where inflation will be month to month. I woke up to stories of the UK heading into deflation. Well it didn’t and CPI inflation actually rose.

Thirdly, with so much confusion about it is hard to make sensible predictions. Just to pick two examples: Honda calling for wage cuts (deflationary); Sterling on the floor (inflationary). Who knows how impactful each will be and, even if you get your analysis of the market right, you’ll find it a devil of a job to predict the next move by the policy makers.

Add the above together and you get to “no one really knows what the hell is going on and there is a huge amount of risk out their”.

As I read it, the key word in the obligatory letter sent by Mervyn King, the Bank of England Governor, to Chancellor Alistair Darling was “volatile”.

So what does this mean for construction?

Well the construction industry is a risk business. That means, on average, those that succeed will tend on average to be better at managing risk than those that fail.

But before the above is misinterpreted I should just add that being good at managing risk is not a panacea for success. In reality successful firms are more often than not just those that have been luckier.

That said and putting randomness to one side, the main point is that you give yourself an edge if you are smart around risk taking and risk avoidance and you increase the chances of a major upset if you aren’t.

Managers in construction over the past dozen of so years have had a very stable business environment. Workloads have been more predictable than in most of the previous 50 or so post War years, inflation has been far more stable, clients have been far more stable and financially sound and relationships up and down the supply chain have been less tense.

Well those four legs of the construction stool don’t look quite so stable any more, so it is time to watch where you plonk yourself and probably time to get managers that understand risk.

If the industry reverts to form, and I have heard talk of it already, there will be temptation to head for volume over quality.

For me one of the real tests of the “change agenda” will be if main contractors adopt a policy of managed retreat on turnover growth.

Here is an observation from a book by David Adamson and Tony Pollington on the UK construction industry “reform movement” 1993-2003. The book is called Change in the Construction Industry.

Discussing the problems of the industry prior to the 1990s it says: “Irrespective of whether they were so-called main contractors, sub-contractors (or ‘specialist’ contractors), ‘professionals’ or materials and components suppliers, every sector of the supply side of the industry was obsessed with volume. The trades unions shared this obsession.”

Now I have seen signs of some firms trimming their sails, or should it be sales, as we head towards more choppy waters. But I fear that the culture in the main contracting companies may not be as “changed” as many had hoped.

With the Government such a large client and the private sector clients in disarray, workloads in construction are almost certain to fall quite dramatically over the coming years and probably quite sharply after the next election. This will mean either big firms going to the wall or big firms shrinking, or a combination of both.

Undoubtedly the majors will start to trade down the food chain, taking on smaller contracts than they would hitherto have bothered with. This will put huge pressure on mid-sized contractors.

The question is how will this battle be resolved? Will firms forego work or bid ever cheaper to win it?

I suspect the latter.

Not wise. As I see it the only sound way to offset risk is to price it or hedge. That means, broadly speaking, an increase not a decrease in acceptable margins.

Will that happen? Probably not. It will most likely prove too tempting for managers in a tight corner to take risks in the secure knowledge that the consequences will not emerge for a year or two when the building is well under way.

So expect a few little pressure-switched time bombs to be placed hither and thither within construction firms.

There is of course an alternative view of the future, one in which the reform agenda has permeated the industry to such an extent that these foolish mistakes are not repeated.