With labour costs rising, contractors must plan early to help address inflation risks, writes Nitesh Patel.
For all construction projects, the two key cost drivers of tender price inflation (TPI) forecasts are materials and labour.
The current dynamics are between easing material prices on one hand, and persistent wage inflation on the other. This is despite weak growth in output since 2022.
Although new works output grew by 1.8% in 2025, this masks the contraction of 1.2% in the second half of the year. Moreover, across 2023 and 2024 activity fell by 7%.
Based on Building Cost Information Service (BCIS) data, the Materials Cost Index grew annually by 2.6% in 2025, below the long-term average of 3.7% and significantly reduced from 25.1% in 2022.
Although prices are still 43% above their pre-Covid level, they have fallen as supply chains have normalised since the end of the global pandemic. Lower energy has also helped reduce production costs for materials such as structural steel.
Prices have fallen for imported plywood and some aggregates, while the cost of copper and imported sawn wood have gone up in the last year.
Construction labour costs grew by 6.4% in 2025; whereas it was 3.2% in the two years before Covid-19. Some of this increase will be attributable to the increase in employer National Insurance Contributions and the rise in National Living Wage coming into effect last April. These are further impacting overall build costs as labour accounts for around 20% of on-site costs rising to 40% when professional staff and management expenses are factored in.
The main driver of wage inflation is the shortage of skilled workers, which has been exacerbated by 244,000 workers exiting construction since 2019. The industry has struggled to attract workers to replace the skilled personnel who either took early retirement, left for health reasons, Brexit or a change of career. While apprenticeships and government training schemes are in place, the shortfall will take time to fill, assuming the gap does not expand.
Despite weak demand, rising labour costs are now the main cause of inflationary conditions in the sector, as figure 2 illustrates. The area above the X-axis shows labour costs as the main driver of cost inflation, which has been the case for most of the period since 2013, except 2020-2022 when material prices soared.
Construction will have a central role in delivering the government’s growth strategy, while private sector clients are waiting for project viability to improve as interest rates fall.
As activity picks up, we can expect input costs to rise from higher demand for materials and labour, in turn driving up tender prices. These are some of the forces behind Turner & Townsend’s real estate TPI forecast rising from 3% in 2025 to 3.5% in 2026, and infrastructure TPI growing from 4.5% in 2025 to 5.0% in 2026.
While inflation rates experienced in 2022/23 are not being predicted, there are lessons to be learned from that period. The sharp acceleration in build costs heightened stress on contractors, with sector insolvencies reaching record levels in Q4 2023.
Cost volatility also led to a shift in contractor attitude to risk which has affected pricing projects of different sizes. As a result, risk-averseness along the supply chain has led to contractors opting for simpler, less complex projects to maintain revenues.
The uncertainty generated by inflation can eat into margins, causing misallocation of risk and delaying or making inefficient investment decisions. This can be addressed by applying sensitivity analysis against different scenarios to assess their impacts.
Another option is to manage risk by looking at alternatives to fixed price contracts – for example, a target cost agreement with incentives to achieve savings.
It is also important to continually revisit the supply chain to test its resilience against both price increases and delays.
With material prices stabilising but labour costs rising, inflation risks are still there. Organisations that plan early, test assumptions and choose the right commercial strategy will be best placed for 2026.
Nitesh Patel is lead economist at Turner & Townsend.
