Dominance of small construction firms drags down productivity, CEDA says

At a time of languishing construction productivity growth, the Committee for Economic Development of Australia (CEDA) has found that larger construction firms tend to be more productive than the smaller businesses that dominate Australia’s construction landscape.

“While many factors are dragging down construction productivity, a critical contributor is the dominance of very small businesses,” CEDA chief economist Cassandra Winzar said.

“We’ve found 98.5 per cent of Australian construction companies have fewer than 20 employees and 91 per cent are microbusinesses with fewer than five employees.”

Productivity in the construction sector has remained stagnant since the mid-1990s, CEDA found, hampering government efforts to build 1.2 million homes over the five years from July 1, 2024, to address an ongoing housing crisis.

Master Builders forecasts that 1.03 million homes will be built in the five years from 1 July 2024, a shortfall of 166,000 relative to the government’s 1.2 million target.

Meanwhile, affordability issues have worsened throughout Australian cities. Sydney is the second most expensive housing market in the world, while Adelaide is sixth and Melbourne is ninth, CEDA pointed out.

Its analysis found that building companies with 200 or more employees generated 86 per cent more revenue per worker than those with 5 to 19 employees.

If building firms were similar in size to manufacturing firms, CEDA found that the construction sector could generate an extra $52 billion in revenue per year, equivalent to gaining 150,000 additional construction workers.

This could be an impactful way to boost construction in Australia as builders continue to struggle with labour shortages.

“Smaller firms are less productive than bigger firms because they can’t achieve the same productivity gains from innovation, investment and economies of scale,” Winzar said.

CEDA identified several factors which discouraged Australian construction businesses from growing.

Firstly, Australia’s tax settings have been geared to favour smaller businesses. Being self-employed could result in paying less tax than a salaried employee earning the same income, while incentives such as asset write-offs favoured small businesses.

Furthermore, a complex and decentralised system of regulation has made it difficult for firms to expand interstate, while state-based occupational licensing has created barriers for productive businesses wanting to grow.

Other factors included an economy-wide shift towards outsourcing and contracting, as well as the cyclical nature of the construction industry, which made contracting and sub-contracting a more attractive option.

To encourage existing firms to expand, CEDA urged the government to streamline land-use regulation across all levels of government and consider adjusting the relative tax rates between small and large businesses as part of a broader tax reform package.

It also suggested the government could reduce volatility by creating a more predictable pipeline of work for construction firms through their social housing and infrastructure projects.

Improving construction productivity would be imperative to addressing the housing crisis, CEDA warned.

“We must ensure that basic policy foundations such as regulations and tax don’t stand in the way of targeted measures to build more homes,” Winzar said.

“If we don’t, Australia will struggle to build the housing we so desperately need.”