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While full order books mean the construction industry is likely to remain busy in 2008, the impact of the credit crunch on new developments remains to be seen, warns a new report compiled by cost consultant Davis Langdon.

The report indicates that the rate of tender price inflation was 1.7% in the third quarter of 2007, giving an annual increase of 7% in Greater London due to strong workload and an increase in the prices of materials and labour.

Construction materials prices rose by 4.5% in the first eight months of 2007 with timber seeing the biggest gains as world demand redirected supplies away from these shores. Fabricated structural steel prices rose 19% over the year to August whilst stainless steel prices, after peaking in June after more than doubling in 18 months, have now fallen back 20% in response to a sharp fall in nickel prices.

Peter Fordham, author of the report, said: "Other materials prices may be more restrained this year than last but with oil prices breaking new records, manufacturers may be facing new input cost rises, and that may presage a new round of higher than usual price increases in the new year."

The forecast also shows that the value of new work rose by more than £3bn over the last two years, led by high office and housing activity with the strongest housing growth in the north of England, whilst London dominated the office market.

However, whilst new orders surged ahead in the first half of the year, 7% higher than the previous year and 14% higher than 2005, figures for July and August were a cause for concern, with orders down from the first half. This follows the FTSE in July recording its sharpest one-day fall since 11 September 2001.

Next year’s rise in activity is expected to be led by private commercial work, particularly offices, whilst retail growth will be muted but the leisure sector boosted by the 2012 Olympics.

Fordham said: "We need to ask ourselves whether July and August’s downturn in new orders will be magnified by the credit crunch.

"Offices and housing gave the industry its biggest fillip for two years and these are the areas most at risk. With house prices declining in some areas and mortgage applications down, private housebuilding is anticipated to reduce next year. Buy-to-let landlords may benefit from the change to capital gains tax but with higher mortgage rates and funding less readily available, this market may have peaked."

David Ainsley, of Davis Langdon’s bank and finance group, said: "My team has noted clear signs of nervousness among banks as regards the funding of private sector residential developments, including the withdrawal of facilities at short notice."

To what extent the private commercial side will be affected by the credit crunch remains to be seen as viability was sometimes already coming under question as costs rose. Tighter, more expensive finance has added another burden.