Housing quality defects cost

This Issue This is a part of the Building better feature

By and - , Build 179

Eliminating quality defects in residential construction would boost productivity. In recent research, the New Zealand Institute of Economic Research (NZIER) quantified the benefit to our economy and households.

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Figure 1: CGE model representing the circular flows between all the agents and activities in the economy. (Source: NZIER)

QUALITY DEFECTS in residential construction impose productivity losses and economic costs on society, the wider construction industry and individual firms. Rework to address quality defects is common in many industries, not just the construction industry.

The aim of this research project was to estimate the economic cost of quality defects in residential construction.

Motivation to address defects

The motivation for the project emerged from two observations. Firstly, estimates of the economic costs of productivity impairments can be vital in motivating industry leaders and governments to invest in addressing the issue. Secondly, others had published good research on the size and causes of the issue, but no one had estimated the economic cost of quality defects for New Zealand.

We aimed to contribute to efforts to eliminate the quality defects by robustly and conservatively estimating the size of the prize for those working actively to eliminate quality defects.

Kept scope manageable

The scope of the research was designed to ensure that the project was manageable. We limited the focus to residential construction but recognised that quality defects are a challenge throughout the construction industry.

We also limited the scope to quality defects that were identified during the construction process. This meant that the quality challenges as a result of the leaky building saga and material failures were out of scope.

CGE model

We used NZIER’s top-down computable general equilibrium (CGE model) to capture the full impact of an increase in productivity resulting from the adoption of higher quality standards in the residential construction industry. Using a CGE model of the economy, we considered the direct costs to the construction industry and the flow-on effects to the rest of the economy. Our model contains 106 industries and 201 commodities.

CGE models are data driven and are used to capture the effects of a new policy or technology or other external shocks affecting economic activity. They capture the economy-wide effects of changes directly on the affected industry as well as indirectly on supplying industries, competing industries and factor markets – labour and capital.

CGE models show the full effect of a change, which includes impacts from indirect effects that aren’t immediately obvious. The cumulative impact of indirect effects can outweigh the direct effect of a change. CGE models also estimate the effect of a shock on macro-economic variables such as GDP, employment, wages and trade.

A visual representation of our top-down CGE model is seen in Figure 1. It highlights how the model can capture the complex and multi-directional relationships between the various parts of the economy and how they interact with the rest of New Zealand and the rest of the world.

The design of economic shocks was based on existing estimates for the prevalence of quality defects and the cost implications. To estimate the economic cost of quality defects, we transformed the prevalence and cost implications of defects into an equivalent productivity shock.

We also recognised the residential construction industry is made of two industries – residential construction (builders) and construction services (specialist tradespeople). Based on data from Stats NZ, we estimated that 45% of the output from construction services was engaged in residential building.

We found that eliminating quality defects in residential construction would be equivalent to a 5.4% and 2.4% productivity improvement for residential construction and construction services, respectively.

Figure 1: CGE model representing the circular flows between all the agents and activities in the economy. (Source: NZIER)

Eliminating defects to boost economy

Eliminating quality issues would improve the productivity and performance of residential construction in New Zealand. As such, eliminating defects would release opportunities for additional consumption and economic growth. Residential construction output would increase by $112 million annually, and capital investment across the economy would increase by 1% annually. The productivity improvement in residential construction would lead to a 1.3% increase in wages throughout the economy.

The results show that economy-wide effects of an increase in productivity would see New Zealand’s GDP rise by $2.5 billion as the industry’s overall costs of production decrease. Households would have $1.4 million additional income available to spend on goods and services, which would increase aggregate living standards.

While eliminating 100% of quality defects might not be possible, our modelling shows the size of the prize for builders, the construction industry and the wider economy from improvements that lead to a reduction in defects. Rework is expensive for builders and has flow-on effects upstream to suppliers and downstream to consumers.

Scope for further research

Our research fills a knowledge gap about the economic effects of quality defects and should encourage industry and government to invest in eliminating them. There is still plenty of scope, however, for further research.

We focused on quality defects discovered during the construction of new residential housing in New Zealand. Quality was defined as compliance with the New Zealand Building Code at the time of construction. To ensure that the research was manageable, the areas deemed out of scope were:

  • alterations and maintenance
  • non-residential construction
  • undiscovered defects
  • leaky buildings
  • earthquake remedial work.

These issues are all important areas for future research and were only ruled out of scope due to normal constraints on a research project. The approach taken provides a foundation for further exploration.

We relied on detailed Australian project level studies for the cost implications of quality defects. Such studies are time consuming. Investing in this sort of rich, bottom-up research would deepen the understanding of the quality defects issue in New Zealand and contribute to eliminating defects.

Lastly, our research has set the stage for evaluating the benefits and costs of targeted interventions to address an issue. The modelling approach could be applied to assess the industry and economy-wide implication of proposed interventions.

Note

The work was funded by BRANZ from the Building Research Levy and contributed to BRANZ’s Eliminating quality issues programme. See ER49, available from www.branz.co.nz/pubs.

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Articles are correct at the time of publication but may have since become outdated.

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Figure 1: CGE model representing the circular flows between all the agents and activities in the economy. (Source: NZIER)

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