Costs and prices in construction: what their relationship means in practice

Sam Parkin, senior economist at BCIS, explores how changes in costs feed through to prices in construction, and what that means for cost planning and pricing decisions.  

It is often assumed that if costs go up, prices follow, but in practice the relationship is less direct than that. Cost increases at the start of the supply chain do feed through to prices, but not necessarily immediately and not always in a consistent way.  

This largely comes down to how construction inputs are layered. At the upstream end are raw materials such as oil, steel and copper, while further along are processed and manufactured products that combine multiple inputs before reaching the final stage. A finished product, whether that is a building component or a wider manufactured good, reflects several layers of cost added over time, so changes in upstream costs have to pass through a number of stages before they appear in final prices.  

At each of those stages, the impact can be delayed, reduced or absorbed.  

Upstream prices themselves also tend to be volatile. Many are globally traded commodities and respond quickly to changes in supply, demand and market sentiment, with energy markets providing a clear example where prices can move sharply on expectations of disruption rather than actual shortages.  

That volatility does not translate directly into downstream prices. In the short term, firms can absorb cost increases by working through existing stock, operating under fixed contracts, or delaying purchasing at higher prices. This is why sharp movements in commodity prices do not always show up straight away in tender prices or project costs.  

But pricing is not purely cost-driven – periods of volatility can also create opportunities to increase margins, meaning downstream prices may rise faster, or fall more slowly, than input costs alone would suggest. 

Additionally, the position often changes when higher costs persist. A short-lived increase in energy or material prices may be absorbed, but if those higher costs remain in place, firms are eventually forced to buy at those levels. As contracts reset and inventories run down, the higher cost base starts to feed through, creating a lagged relationship where costs move first and prices follow later.  

Even then, the relationship is not one-to-one. Downstream prices reflect a broader mix of costs, including labour, energy, logistics and overheads, and are also shaped by market conditions. When demand is weak, firms are more likely to absorb cost increases to remain competitive, whereas stronger demand makes it easier to pass those costs on.  

This is why similar cost pressures can produce different pricing outcomes at different points in the cycle.  

Monetary policy also plays a role in shaping this process. Higher interest rates tend to reduce demand and limit how far firms can pass on increased costs, while lower rates can support demand and allow price increases to come through more readily.  

Labour adds another layer. Unlike materials, labour costs tend to adjust more slowly but are more persistent once they rise, and strong wage growth can sustain inflation even if material costs stabilise. For construction, this means cost pressures can build over time, with materials feeding through first and labour following later.  

For those involved in cost planning and procurement, this helps explain why price movements do not always align with current cost data. There can be a delay before changes in input costs are reflected in tender prices, but once they are, they tend to be more difficult to reverse. While upstream prices can fall quickly, downstream prices are generally slower to adjust downwards.  

This relationship is also reflected in how different construction indices behave. Cost indices, such as the BCIS General Building Cost Index (GBCI), tend to respond more quickly to changes in input costs. Tender price indices, such as the BCIS All-in Tender Price Index (TPI), typically follow with a lag and are influenced by market conditions, including demand and competition.  

This is why movements in cost indices do not always align with tender prices in the short term, but can provide an early indication of the pressures that may feed through later.  

In practice, this means that cost volatility at the start of the supply chain often translates into more gradual, but more persistent, pressure on project pricing. Understanding that lag is key, not just in terms of where costs are today, but how long they have been at that level and how far they have yet to feed through into prices.