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Inflation has been a major disruptor across industries in recent years, and nonresidential construction is no exception. The rising costs of materials, labor, and project values are significantly affecting the surety bond market, particularly for small and medium-sized construction companies.

According to the Mortenson Construction Cost Index, $100 in Q2 2024 had the same purchasing power as just $74 in 2020 — an astounding 34% increase. To put that in perspective, this increase is nearly double the rise in the Consumer Price Index (CPI) over the same period. Construction costs have historically outpaced CPI growth, rising 16% from 2010 to 2014, while the CPI increased by just 8%.

This inflationary environment has created new challenges for contractors and project owners alike. But what exactly does it mean for surety bonds?

Increased Demand for Larger Bonds
At its core, inflation drives up the value of construction projects. As project values increase, so does the demand for more and larger surety bonds. In the public sector, laws such as the federal Miller Act and state-level “Little Miller Acts” require contractors to post performance and payment bonds for projects exceeding certain thresholds — $150,000 for federal projects, for example. These thresholds have remained unchanged for decades, and as inflation pushes up project costs, more contracts are crossing these limits, leading to increased bonding requirements.

In the private sector, project owners are also responding to rising costs by more frequently requiring bonds, often in higher amounts. In many cases, costs have risen so quickly that initial project bids are being outstripped by actual costs, leading to the need for bond riders, overrun provisions, or mid-project adjustments to bond program limits. This can add complexity, cost, and risk for small and midsized contractors already struggling with rising expenses.

The Impact of Supply Chain Disruptions and Labor Shortages
Inflation in recent years has been driven not only by monetary policy but also by supply chain disruptions and labor shortages, especially in the wake of the COVID-19 pandemic. These factors have hit the nonresidential construction industry particularly hard, creating uncertainty around project timelines and budgets.

Surety bonds exist to ensure that projects are completed and subcontractors are paid according to the terms of the contract. In uncertain times like these — further complicated by rising fraud and scams in the construction industry — surety bonds are more critical than ever, but they come at a higher cost. With more projects going off track due to unanticipated expenses, supply chain delays, and labor shortages, there has been a noticeable rise in claims against surety bonds. The natural consequence is higher bond premiums and more stringent underwriting requirements, increasing the barriers for emerging and smaller construction companies to participate in competitive bidding processes.

Financial Strain on Contractors
Beyond impacting individual construction projects, inflation is also squeezing contractors’ overall financial health. Higher operating costs, dwindling cash reserves, and fewer affordable borrowing options can hurt liquidity ratios, profit margins, and available collateral — all key factors that sureties consider during underwriting.

For contractors, maintaining a healthy balance sheet is critical to securing the bonds needed to bid on new projects. As an insurance agent serving SMB construction companies, it’s important to work with surety bond providers who understand these challenges and are committed to helping businesses grow, even in tough economic times.

Find a Partner That Understands the Market
Inflation may present challenges, but with the right surety partner, your clients can continue to grow and succeed. At Gray Surety, we’re committed to supporting contractors with flexible solutions that help them navigate inflationary pressures. We recently increased our capacity to $30 million for single bonds and $90 million for bond programs, empowering our clients to take on bigger projects with confidence.

We also take a disciplined but creative approach to underwriting, offering tools like funds control and SBA guarantees to help small and emerging contractors access bonds, expand their capacity, and win more bids. This approach not only supports contractors but also provides the security and stability that obligees and agents require.

Conclusion
Inflation’s impact on surety bonds is significant, but with the right strategies and partners, contractors can continue to thrive. By staying informed and working closely with surety bond providers who understand the complexities of the construction industry, insurance agents can help their clients overcome the challenges posed by rising costs and win more projects.