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Steve Watts had a glimpse of an alternative universe early last Friday morning, after picking up a first edition of the Metro freesheet.

In this world, the campaign to remain in the European Union was cruising towards victory in the in/out referendum, with the pound rallying to its post-crisis peak of $1.50 against the dollar.

A bleary-eyed glance at his Blackberry was enough to remind the Alinea partner that he hadn鈥檛 been dreaming: the UK had in fact voted to exit the EU in last Thursday鈥檚 referendum.

The good - and perhaps surprising - news for the construction industry is that, in one respect at least, it is relatively insulated from the impact of the looming Brexit. A recent study carried out by the CBI showed that construction is the second most domestically focused of the economy鈥檚 major sectors because its companies concentrate overwhelmingly on the UK market. And smaller firms in particular will be glad to be free of the need to comply with the onerous OJEU procurement regime.

So why are shares sliding and executives in construction firms across the country wringing their hands?

Immediate impact

The reality is that the result of the vote will have a profound impact on the construction industry.

The City had clearly made up its mind that it was bad news, with housebuilder and property company shares both hit heavily in the mammoth sell-off that took place on Friday morning. Across the Square Mile, crisis meetings were being rapidly convened in boardrooms as businesses absorbed the previous night鈥檚 shock verdict.

The immediate impact will be a slowdown in activity, predicts Simon Rawlinson, head of strategic research and insight at Arcadis.

A lot of people鈥檚 plans were predicated on being able to do business with the EU. Clients have been quite candid about the alternatives should we depart

Jack Pringle, Perkins + Will

鈥淚n the short term, I suspect a number of projects will be stopped because of the uncertainty in the market,鈥� he says.

The slump in housebuilder and property company shares will make such companies rethink their investment plans.

The results are likely to be felt most acutely in the lucrative central London development market. International financial institutions will retrench their space requirements in a territory no longer covered by EU regulation, with knock-on consequences for Square Mile offices. HSBC has already announced it is moving 1,000 jobs to Paris.

鈥淎 lot of people鈥檚 plans were predicated on being able to do business with the EU. Clients have been quite candid about the alternatives should we depart,鈥� says Jack Pringle, principal, managing director EMEA at architect Perkins+Will. Given that these options generally involved moving people out of London, he gloomily predicts that another recession is on the cards. Ann Bentley, global chairman of Rider Levett Bucknall, reports that clients funded by overseas money are already seeking further instructions before proceeding.

The knock to confidence resulting from last week鈥檚 vote follows a hiatus in activity in the run-up to the referendum. 鈥淲e already had a number of projects where decisions were pending on the outcome of the referendum,鈥� says Bentley.

And it鈥檚 not just financial services that face the threat of slowdown. Higher education has benefited enormously from students across the continent flocking to the UK鈥檚 universities. This sector will be hit hard once it becomes harder for would-be students to enter the country, warns Cullinan Studios鈥� Robin Nicholson, who believes it is 鈥渋nevitable鈥� that some institutions will go bust.

One bright point is that housing development is less likely to be undermined by British withdrawal from the UK than commercial construction.

Adam Challis, head of UK residential research at JLL, estimates that house prices are likely to be up to 5% lower by the end of 2018 than they would have been in a non-Brexit world. The primary hit, he predicts, will be taken by high-end city centre schemes, which have already seen a slowdown due to falling demand from emerging market investors.

Challis believes that the backers of such projects will be tempted to convert them into purpose-built rented accommodation for institutional investors. 

However, the volume housebuilders are less likely to be affected given how this market is primarily driven by domestic demand. 鈥淭he fact is that we still have a supply problem and desperately need to build,鈥� Challis says.

Uncertainty amplified

Overall, though, the confused outcome of the referendum means any uncertainty that existed last week is vastly amplified.

While the UK may know it is leaving the EU, nobody can predict the nature of its future relationship with the bloc that accounts for two-thirds of its trade.

In his resignation announcement, David Cameron said that he would leave it to his successor as prime minister to formally begin withdrawal from the EU. It is reckoned that this process will take around two years once the Conservative Party has completed its leadership election, which will see a new prime minister by 2 September.

And once that happens, negotiating a new trading deal with the EU and its constituent nation states will take even longer. Greenland took three years to resolve its arrangements with the EU when it quit the union after winning its independence from Denmark. With a population of just over 50,000, Greenland鈥檚 negotiations are likely to have been a lot less complicated than the UK鈥檚 will be. 鈥淭he problem we have now is that we don鈥檛 know how long that period of uncertainty is going to be,鈥� says Bentley.

Richard Steer, chairman of Gleeds, believes the construction market will stagnate over the next six months to a year, by which point he hopes the industry should have a better idea about the terms and conditions of the UK鈥檚 exit.

In the meantime, investors may be tempted to put projects on hold for a few months in the hope that they will get better prices from contractors, says Graham Watts, chief executive of the Construction Industry Council.

The uncertainty extends to Whitehall. There are bound to be question marks over the very pro-growth thrust of housing policy, given the extent to which this has been driven by Cameron and chancellor George Osborne. For starters, whoever takes over will be hard pressed to devote much time to any policy area other than renegotiating the UK鈥檚 tightly interwoven relationship with the EU.

The reason for so many migrants in construction industry isn鈥檛 because they are cheap, that鈥檚 a myth. It is because they are skilled. The cost of buildings will go up or we won鈥檛 be able to build at all

Ann bentley, Rider Levett Bucknall

These questions extend to the government鈥檚 ability to implement the now-battered Osborne鈥檚 infrastructure drive. Top of this list of course is the third runway at Heathrow airport, a final decision on which had been pencilled in for the next few weeks. Martin Curtis, associate director at lobbying firm Curtin & Co, says it is 鈥渋nevitable鈥� that this decision will once again be kicked into the long grass. And it will be curtains for the oft-delayed project if Tory leadership front-runner and long-term opponent Boris Johnson enters No 10. He says: 鈥淚 can鈥檛 see in those circumstances the government making a decision on Heathrow.鈥�

The prospects for Osborne鈥檚 pet initiative, the northern powerhouse,
look shaky too. Even HS2 will be harder to justify if the UK enters a fresh recession and a public spending squeeze, as predicted by the Treasury and other economic forecasters in the run-up to the referendum. Already the National Audit Office is talking of the project鈥檚 鈥渦nrealistic timetable鈥� and major cost presssures - and that in a report written before the
Brexit vote.

Money and people

A more immediate worry for the industry is the impact that the sharp depreciation of the pound against the euro will have on construction costs. The UK鈥檚 dependence on eurozone construction materials will put further pressure on the embattled margins of those contractors that have committed to build projects on a fixed-price basis.

And any exclusion of the UK from the single market tariff-free zone will cement in these cost increases long term, warns Arcadis鈥� Rawlinson. 鈥淚n the medium term, we will definitely see increases in construction above inflation due to material prices because the majority of our materials come from the EU tariff-free area at the moment and they won鈥檛 be any more.鈥�

The end of free movement for labour is potentially even more worrying. The human cost of this was clear to Cullinan鈥檚 Nicholson the morning after the vote. He says the atmosphere in his architecture practice鈥檚 polyglot north London office was one of 鈥渞eal shock鈥�, he says. 鈥淚t鈥檚 not very nice for them to think that they are not wanted.鈥� 

Rawlinson doubts that the industry will be able to plug its skills gaps from the UK labour force if the EU free movement of labour ends. RLB鈥檚 Bentley agrees: 鈥淭he reason for so many migrants in construction industry isn鈥檛 because they are cheap, that鈥檚 a myth. It is because they are skilled. The cost of buildings will go up or we won鈥檛 be able to build at all.鈥�

Of course, the industry鈥檚 ability to access labour will depend on the type of deal that Britain can cut with its erstwhile EU partners. The situation is complicated by the Leave campaign鈥檚 failure so far to articulate a clear position on what the nature of what these arrangements should be. The construction industry would like to see the UK retain as much access to the single market and free movement of labour as possible, and the CIC鈥檚 Watts says the industry should argue for 鈥渁s much flexibility as possible鈥�.

Given the industry鈥檚 reliance on imported materials, Bentley agrees that the UK should seek a tight trading relationship with the EU. 鈥淚t鈥檚 fairly straightforward: we need to be able to import fairly easily. We would need a measure of free trade otherwise the cost of buildings will go up.鈥�

Gleeds鈥� Steer believes that the same point applies to labour. 鈥淲e need EU labour to work on sites in the UK so we need a relatively easy movement of people coming from, for example, Poland. Their accessibility to the UK market is important in terms of skills and labour.鈥�

And he doesn鈥檛 believe that Vote Leave鈥檚 preferred Australian points style system, under which immigrants would be allowed to settle in the UK only if they meet set skills criteria, would meet the construction industry鈥檚 needs, as this would not take account of fluctuations in requirements. 鈥淲e need people coming in at the peaks and not so much during the troughs.鈥�

In the meantime

However, Steer worries that, like any negotiation, the ball will not entirely be in the UK鈥檚 court. 鈥淚t will depend on negotiations and the attitude the EU takes towards us and whether they will try and reprimand us.鈥�

In the meantime, the CIC鈥檚 Watts points out that last week鈥檚 vote will not result in an immediate clampdown on EU labour entering the UK. And while the UK remains a member of the EU, it will still be obliged to implement Brussels鈥� directives, he adds: 鈥淲e still have to abide by EU law and will have to do so for at least two years.鈥�

This includes, says British Energy Efficiency Association honorary president Andrew Warren, the implementation of the energy performance of buildings directive, which is due to be implemented in 2018, long before the UK is expected to leave the EU.

In the longer term, he adds, the continued access to the single market that Boris Johnson says he wants would bring with it obligations to implement the EU鈥檚 standards, as already happens in Norway and Switzerland. 鈥淚f we are in the single market, we would have to abide by the various rules and regulations incorporated in the single market, which include things like the directives.鈥�

And CIC鈥檚 Watts says the government should not rush its negotiation with the EU but instead seek to secure the best post-Brexit deal. 鈥淭he longer game in terms of negotiating the exit is probably likely to be better because there is more time to answer the 鈥榳hat ifs鈥�.鈥�

As for the here and now, he says: 鈥淚 wasn鈥檛 a supporter of Leave personally but now that decision has been made, we just have to get on and do the best we can.鈥� His fellow Remainer Bentley agrees: 鈥淲e need to steady the ship as quickly as possible.鈥�

However, with Westminster imploding in feuds, that prospect right now looks an unlikely one.