Construction has emerged from a half-decade of volatility into a new era of stubbornly high costs and persistent capacity issues.

These cost pressures, together with financial, logistical and regulatory headwinds, continue to affect construction project viability. Meanwhile, developers also face increased demands from tenants and enhanced environmental, social and governance (ESG) standards.

For the construction industry, the challenge is how to adapt – and succeed – in this tougher environment.

Top three factors limiting construction activity globally

Source: RICS Global Construction Monitor

Finance challenges in construction

The past three years have seen the end of the low interest rate era, with the cost of money spiking in most developed economies. While rates are now coming down, concerns about persistent inflation are slowing this decrease, meaning the cost of development and construction finance remains a barrier in many countries. Lenders are requiring more security in the form of equity on their loans, and have increased their due diligence requirements.

Solutions to these challenges can be found in alternative forms of funding, such as institutional or patient capital, which can back projects with long-term, reliable returns. In the UK, for example, institutional investors have supported ‘for profit’ social landlords to build affordable housing, which offers stable, low-risk returns backed by largely government-guaranteed rental streams.

Tackling higher build costs

The growth in build costs has been notably extreme. In nine major economies, build costs consistently outpaced consumer price index (CPI) inflation between 2020 and 2024, according to our analysis. While the gap has since lessened, it hasn’t closed, as contractors seek to recover margins.

Build cost inflation has outpaced CPI across major markets

Source: Savills Research using national sources. Average of Australia, France, Germany, the Netherlands, Singapore, Spain, Sweden, United Kingdom, United States

In many parts of the world, these increased costs have affected project viability, forcing schemes to go on hold and putting some contractors out of business. In the UK, the impact has been severe: construction companies accounted for 17% of all insolvencies in 2024, the highest number for any sector.

But there are regional variations. Will Forwood, Regional Managing Director, Asia Pacific, Savills Projects, notes costs are less of a factor in many emerging Asian economies – but pressures remain. “We’re seeing high demand in several markets – in Malaysia for new build, high-value industrial manufacturing facilities; in Japan for high-grade hotel and retail assets; and in India for office and residential space,” he says. “Labour costs are rising well above inflation rates within the construction industry in these sectors in these markets.”

Price pressure is exacerbated by the increasing demand for quality, driven by regulatory and market demands. Michael Glatt, President, North America Project Management at Savills, says: “Higher construction costs for prime office space comes as occupiers seek premium design with associated high-quality materials and finishes. This, coupled with elevated costs of materials, labour scarcity, as well as financial constraints, contribute to a higher cost of fit-out.”

There are few shortcuts to tackling inflation. However, bringing contractors in early to scope and de-risk projects, and thinking carefully about procurement strategies, will be key. While lump sum, fixed-price contracts still dominate, larger developers may consider other contract forms if they can reduce prices by absorbing more of the risk on materials and labour.

Ken Ng, National Head, Project Management at Savills Australia, explains how this works in the state of Queensland, where prices are being bolstered by the demand stemming from the forthcoming 2032 Brisbane Olympics. “Here we’ve seen the highest cost escalation of all Australian states, and forecasts for the next few years exceed 6% annually, making project feasibilities difficult to stack up,” he says.

The key is “more frequent” early contractor involvement (ECI), he adds. “The ECI allows the developer and contractor to impart their preferred construction methodology resulting in more realistic pre-construction pricing. This also saves time.”

Greater use of Building Information Modelling (BIM) – an approach to collaborating on build projects using shared digital designs – could also be beneficial. BIM can help to create more efficient designs, detect potential problems and reduce waste. While BIM is widely deployed by designers and main contractors on the largest projects, there is the potential for it to be used on smaller schemes and by construction firms further down the supply chain.

Dealing with skills shortages

Another key global challenge is finding a workforce. The construction sector is increasingly losing the battle for young talent to non-manual and digital occupations, particularly in developed economies. Construction vacancies in the US, for example, were 56% above their 20-year average in 2024.

Amid low general unemployment levels and these deepening skills shortages, construction labour costs have risen sharply. This is particularly evident in complex infrastructure and high-end data centre projects, which have driven demand for specialist skills.

While the construction labour challenge is less intense in many developing economies, this is not universally true. In India – which saw the absorption of 75 million sq ft of office space in 2024 across six key markets – a shortage of skilled labour is exacerbated by seasonal fluctuations.

“Many construction workers are drawn from the rural workforce,” says Sumit Rakshit, Managing Director and Head of Project Management at Savills India. “They often return to the countryside to work during harvest seasons – increasing labour scarcity and costs for construction (due to project delays). The informal nature of much construction work, with many workers lacking formal employment contracts or social security benefits, contributes to this seasonal migration.”

One way of tackling the industry’s skills shortages and productivity challenges is increasing the use of modern methods of construction (MMC) – building methods which involve a significant degree of off-site manufacturing before on-site assembly.

From component systems to full volumetric modules, MMC can help cut build times, improve quality control, reduce site labour requirements and potentially reduce foundation work. India is making increasing use of offsite construction to mitigate labour issues. Singapore, meanwhile, has experienced success with modular builds. Even in markets where labour is more readily available, MMC is valued for its ability to deliver improved build quality and reduced site time.

Overcoming other challenges

As well as finance, build costs and labour shortages, developers face other challenges. The need to adapt to climate change has led to the introduction of higher building standards in some countries to ensure buildings can cope with extreme weather.

In mature markets, land availability and planning obstacles are major bottlenecks, often exacerbated by increasing regulation.

Additionally, many geographies are constrained by power availability, as countries switch to digital-first economies while reducing reliance on fossil fuels. The development of data centres to support AI usage is driving this trend, with ChatGPT queries consuming 10 times the energy of a Google search. Governments are attempting to help with these burdens, with several administrations elected in 2024 promising to boost housing and cut planning red tape. In the UK, planning policy has become more pro-development, with the government keen to boost construction.

Chris Buckle, Director, Residential Research at Savills, says large sites can provide a long-term source of development land to underpin housebuilding volumes – but the problem is the “upfront investment” they require. “There are only a small number of players taking such sites forward,” he says. “The appetite for investment is not infinite, so there is a role for government to accelerate delivery.”

Seizing the opportunities

Despite economic uncertainty, demand in many areas remains strong – meaning there are opportunities for firms that can navigate project viability challenges.

For example, even though development is increasing, there remains a lack of prime office supply in major cities in the UK, EMEA and other core global markets. As a result, landlords could use lease renewals or re-lets as an opportunity to improve their buildings. Creating high-quality, prime spaces will attract higher rents, in turn offsetting the cost of delivery.

“We are seeing increasing collaboration between landlords and tenants in aligning ESG ambitions from real estate, which is resulting in the opportunity for lease re-gears on existing office assets as part of sustainability-driven redevelopment and retrofitting,” says Simon Collett, Executive Director, Building and Project Consultancy at Savills. “We anticipate seeing a movement towards new development in the next upswing of the property cycle.”

Challenges remain – but construction firms that adapt to this new and evolving landscape are well-placed to prosper.