Thursday, April 29, 2004
The last shoe to drop
Posted by David Smith at 08:51 PM
Category: David Smith' s magazine articles

Manufacturing has had a good first few months of 2004. While official figures on the sector's output have been unexpectedly weak, surveys point to quite a vigorous recovery in demand, largely on the back of much stronger export markets.

The British Chambers of Commerce (BCC), for example, in its spring quarterly survey, reported a positive balance for manufacturers' home sales of 19%, up from 17% in the previous quarter and the strongest reading since the end of 1997. Other figures in the survey were also strong. Home orders jumped to their highest level since 1999.

The biggest change, however, is coming from exports, with sales and orders both hitting their best for seven years. Confidence was at its highest for five years, while even employment expectations turned higher, and reached their strongest for three years.

It is not hard to explain why this is happening. Manufacturing is acutely sensitive to the global economic cycle. Over the past three years timely cuts in interest rates by the Bank of England, together with tens of billions of extra public spending from Gordon Brown, have kept the overall economy growing. For manufacturing, however, there was no such comfort. But now that global growth is turning up, manufacturing is plainly benefiting.

It could be benefiting by more - weak economic growth in the euroland economies, which are on course for an expansion of less than 2% this year, mean the world upturn remains tilted firmly towards America and the Far East. But export market growth is back, after a long absence. And sterling, which earlier this year appeared set for a period of uncomfortable strength, has slipped lower.

That is not the only good news about manufacturing. Profitability among UK manufacturers rose strongly in the final quarter of 2003, official figures show. The net rate of return rose to 8.6%, from 7.7% in the previous quarter. Profitability has gradually recovered from a low of 6.4% in 2001.

So what’s missing? The confirmation of this manufacturing recovery, the shoe that has yet to drop, will come with an upturn in investment. That would not only show that the sector is putting its money where its confidence but it would provide a much-needed boon for capital goods industries.

So what has been happening to manufacturing investment? The good news is that the latest official figures show manufacturing investment rising - up 5.5% in the final quarter of 2003. The bad news is that this was still 1.5% down on a year earlier. For 2003 as a whole, manufacturing investment was down a worrying 7.6% on 2002. The latest quarterly figure, while slightly up, was 22% lower than the recent peak recorded in the spring of 2001.

This cautious message was confirmed by the BCC survey. It showed a drop in investment intentions for manufacturing in the first quarter, implying that even the modest fourth quarter recovery may have been a flash in the pan. Manufacturing investment, it seems, remains in the doldrums. How long will that last?

The Treasury and independent forecasters are upbeat about prospects for overall business investment. The official forecast is for 3.5% to 4% growth this year and between 5.5% and 6.25% next year. Royal Bank of Scotland says that this will be the best year for business investment since the late 1990s. But while the overall business investment climate may be good, manufacturing has good reasons to be cautious.

There have been false dawns for the sector before, and several in recent years. Profitability may be improving but there are other factors, like the problems of pension fund deficits, which continue to hold back investment. Manufacturing investment will recover, of that there can be no doubt. But we will probably have to wait until later in the year, at the earliest, for this particular shoe to drop.

From The Manufacturer, May 2004