Hong Kong 2022: Surviving the inflation and productivity crisis in Hong Kong’s construction industry

  • April 28, 2022
Hong Kong’s construction industry faces a number of challenges resulting from supply-chain congestion, rising demand and fuel costs, and a changing workforce.

On April 28, 2022, McKinsey’s Global Infrastructure Initiative hosted a roundtable with senior leaders from across the value chain, including owners, engineering and construction players, material suppliers, investors, and public-sector leaders to navigate the path forward.

A robust project pipeline, compounded by supply constraints and labor shortages, has fueled inflation in construction costs to an unsustainable level. In fact, Hong Kong’s construction cost is among the highest in the world (at $36 per square meter of building construction), especially when compared with other cities with similar labor wages (Exhibit 1).

Hong Kong’s construction cost is among the highest in the world, especially when compared with other regions with similar labor wages.
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Since 2012, Hong Kong’s wage level has inflated twice as much as the Consumer Price Index (CPI), with material costs not far behind. More recently, reasons for this include supply-chain and freight disruptions and bulk-material price volatility. On the former point, the COVID-19 pandemic has led to unusual levels of supply-chain congestion and rising consumer demand and fuel costs. And on the latter, global supply-chain disruption and resumption of economic activities have increased costs for key commodities.

Over the next ten years, productivity and cost trends are expected to worsen, with additional construction costs of approximately $14 billion to $22 billion due to inflation alone (Exhibit 2). Furthermore, a whopping 41 percent of the active workforce is expected to retire in the next ten years. This means that the workforce needs to triple in size to meet demand by 2030, increasing from around 247,000 manual workers (as of March 2022) to 858,000 (approximately 160,000 more than the current hiring rate).

Hong Kong’s construction productivity and cost trends are expected to worsen by 2030.
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Surviving the productivity and inflation crisis will require proven change agents. To begin, lean construction can effectively leverage productivity gains and mitigate viability through process optimization. New digital tools can uplift project performance across the asset life cycle. Offsite construction can help optimize design and reduce reliance on manual labor. And regulatory and contractual innovations can help catalyze productivity improvement.

Overall, productivity can potentially be improved by some 35 to 50 percent. With this in mind, the following key themes that emerged from the roundtable can help industry leaders navigate the years to come:

  1. Systemic change is needed: Hong Kong’s construction productivity and costs are expected to worsen in the next eight years. Accelerating inflation coupled with declining productivity will drive up construction costs by up to US $22 billion by 2031—and Hong Kong is already among the most expensive cities in the world for construction. There was strong consensus among roundtable participants that systemic transformation is needed across commercial constructs, talent, government incentives, and tech-enabled ways of working. Incremental shifts will not deliver the type of step change needed.
  2. Reinvent the workforce: With 41 percent of active laborers retiring in the next decade, along with increasing attrition and decreasing new entrants, Hong Kong’s construction industry will face a labor shortage of more than 300,000 full-time equivalents (FTEs) by 2031. Even if the industry increases labor productivity by 50 percent, it would still be unable to meet the construction pipeline demand. Alleviating measures would include consolidating roles enabled by more integrated and streamlined processes as well as creating new digitally enabled roles that could replace multiple traditional roles and allow talent beyond Hong Kong to contribute remotely. Partnering with the education sector would help develop, attract, and recruit much-needed talent.
  3. Redefine policies, standards, and requirements: Although lean construction and digitalization can help alleviate the challenge, Hong Kong’s construction players can only do so much without some fundamental innovations. For example, digital certifications, inspections, audits, and approval solutions could become accepted alternatives by the government and private developers, or digital construction capabilities could be formalized and recognized by the education sector and professional bodies. Participants discussed a potential government-led alliance to connect the modular construction ecosystem, standardize requirements, and integrate upstream suppliers to support scale.
  4. Reconfigure incentives to encourage innovation, not stifle it: The industry should shift away from awarding contracts based on minimum cost, which sets a norm of transactional behavior and discourages longer-term investments in quality. “The industry [habitually focuses] on ticking the box instead of delivering a good job,” said one participant. One alternative was the increasing use of a two-envelope approach, in which technical capabilities are evaluated independent of price point. Across the board, participants stressed the need for new mindsets, greater transparency, and increased risk sharing to navigate the crisis.
  5. Take a long-term view when investing in digital: It will take time for digital solutions to produce a positive return on investment. Many organizations give up after a few pilots fail to gain momentum. The challenge is usually not in finding the solution itself, but rather in establishing the commitment and resilience to sustain coordinated behavioral change. “Make it really easy to be digital and really hard not to be,” said one participant. Realizing the benefits of technology will require adoption by the full industry, including small and medium-size enterprises and older workers. While senior members of the workforce have the most practical expertise, they are also generally the slowest to adopt new technologies. Solution providers, educational institutions, and the public sector can take steps to make digital tools accessible for those over 60 years old—for example, through more intuitive user interfaces or targeted training programs.

Hong Kong’s construction industry has passed a crucial tipping point, and society can no longer absorb escalating construction costs. Isolated actions will not be sufficient; only a coordinated effort among all stakeholders can achieve the necessary change. The good news is that solutions are available and can be deployed rapidly if players commit to transformation. There will be challenges ahead as well as opportunities—and what remains to be seen is who will emerge stronger for their efforts.

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