Manufacturing has smashed its forecasted performance in the first half of 2010 but risks to the recovery remain, says EEF.
The manufacturing sector has posted the strongest growth in a six month period since 1994, outstripping the best case scenarios from EEF’s last Economic Outlook report in January.
The latest economic report from the manufacturing organisation, in partnership with accountants BDO LLP, shows that the sector has performed much better than expected in the first half of the year.
A first quarter dip in growth that was predicted as a result of stimulus being withdrawn from the economy didn’t materialise, as restocking and demand in both the UK and overseas markets more than compensated.
And the EEF/ BDO Manufacturing Outlook published before this report posted some of strongest balances on record in Q2 this year.
While across the whole economy, net trade has yet to make a positive contribution towards growth, manufactured exports have been rising faster. Actual growth in exports in the first half of 2010 has exceeded forecasts.
However, the positive trends seen this year will have to continue for some time to reverse the decline during recession, as output remains more than 10% below its pre-recession peak, the report cautions.
Further growth prospects are tempered by risks to the whole economy, as the UK moves into a period of fiscal consolidation and political uncertainty. The recovery will be bumpy, with GDP growing by just 0.5% in the following two quarters, says EEF with research group Oxford Economics.
But the risk of a double-dip recession is still only moderate, as growth trends will “bounce around” for a few quarters, as in the 1990s recession, before stabilising.
Investment, which saw modest signs of pick-up in the first half of 2010, with be kept on hold due to uncertain growth in key markets that will reinforce business caution.
Manufacturers supplying to the public sector will receive less business from government procurement contracts, as government capital budgets will be reduced, confirmed in the Emergency Budget. Many firms have anticipated and have tried to diversify into non-core markets, with varying success.
“Those who are reliant on government spending have become less so and have looked to diversify, including into international markets, and we have seen pretty strong growth in emerging markets for example,” says Lee Hopley, chief economist at EEF (pictured).
Further constraints to manufacturing recovery ahead include the VAT rise to 20% in 2011, which will knock consumer spending slightly. Also, much of the impressive growth in manufacturing in the first half of 2010 came from the inventory cycle, as firms ran down inventories in the recession and had to restock them, and a modest pick-up in non-manufacturing investment which boosted orders.
Both of these factors will become redundant, EEF says, as the boost from restocking is temporary and muted consumer spending and business investment will struggle to make up for the contraction in government spending and the economic drag from lower forecast net exports.
Economic recovery in the short to medium term is under pressure from a cocktail of risks, the report suggests. Domestic output is tied heavily to the fortunes of Europe, the US and China. There is risk that the US and Europe – facing the spectre of sovereign default, which may spread to over-indebted economies – may slip back into recession, and that China’s growth is decelerating is it manages an inflated economy and artificially low currency.
British companies will also remain cautious as the political infrastructure remains unstable. The Coalition government has shown support for a “Two-Thirds Way” form of economic policy, something between purist free market economics and fiscal intervention, supporting small government and small public debt but cutting business tax in the last Budget. A referendum on political reform in 2011 with test the coalition, but business confidence will remain low while cuts loom and UK politics are unstable.
“Overall the balance of risks haven’t changed significantly [since January forecasts], but they’re somewhat different challenges for manufacturers looking ahead to the next 12 months,” says EEF’s Hopley.
Some data this week show a substantial rise in new manufacturing jobs. A report by recruitment agency Reed that surveyed 8,000 recruiters nationwide, says that new jobs in manufacturing rose 16% since March and were higher than in any sector. EEF and BDO’s survey, however, cautions that although the private sector is likely to begin creating jobs in earnest, beginning at the start of 2011, it won’t create enough jobs to offset public sector cuts until the first half of 2012. Consumer confidence will take a hit, as ex-public sector workers struggle to find work in a relatively jobless private sector recovery.
Access to finance for manufacturers remains a very mixed picture, with many conflicting anecdotal experiences from banks and companies. “Banks really and urgently need to be re-educated as to their meaning of long term investment, and should be less focused on metrics that dictate prescriptive return on investment in short periods,” says BDO’s Tom Lawton. “A three-year loan at today’s market rates is not a long-term loan as many manufacturers require.”