Lumber Prices Hammer Construction and Housing

The construction and home building industries have suffered more than their share of hardship through the financial crisis and recession for well over a year now. Cautious home owners wary of employment security and wanting to reduce debt have put off discretionary repairs and renovation to say nothing of how and why new housing starts have tanked. So just as manufacturing appears to be making gains and other numbers appear encouraging in advance of a change in employment, lumber prices have sawed their way up -- way up -- in contrast to other building related commodities.

Today’s WSJ reports that "Lumber prices have climbed 32% on the futures market this year, a sudden and unexpected surge that could raise construction costs or force builders to swallow an added expense." But I'm not too sure about the "sudden and expected" nature of this price rise. The increase appears to be a somewhat interesting text book case of economic supply and demand theory -- replete with near perfect and transparent information -- at a time when most markets are far more complex.

The Journal states that "When the housing market cratered, mills in the U.S. and Canada cut production; output plummeted about 45% between 2005 and 2009, according to Random Lengths, an industry data provider." Then "Wholesalers shrank their own inventories and had little incentive to build them back up last year [as] Housing is the largest single source of demand for lumber, and new-home sales fell 7.6% in December from the prior month, to 342,000 units." Coupled with "speculative construction in the hope that an expiring federal tax credit would boost the market … [and] annual restocking for the spring construction season, there was little slack in the supply chain, causing a squeeze on prices."

Since Lumber producers will be majorly incented to increase production given current price levels and futures trading, it will be interesting to see if lumber prices reach equilibrium by the summer. But as we all know, consumer spending will remain at the core of economic recovery. So if the employment figures don't play ball this Spring -- and the indicators are not strong that they will -- lumber prices are likely to settle down in time for those summer projects you've been putting off. And if you can't wait and want to transfer some Spend Management principals from the workplace to your home -- literally -- then you're better off sawing down that old oak in the backyard than paying what the market is currently demanding.

William Busch

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