Leap in business confidence for second half of 2006

UK economic growth is expected to accelerate in the second half of 2006, according to accountants and business advisers BDO Stoy Hayward.

The latest BDO Business Trends Report reveals a leap in business confidence in both the short and medium term. Growth is expected to reach 3.4 per cent in the third quarter of 2006, compared to 2.4 per cent in the final quarter of 2005, and to continue at this level until the end of the year.

As a result, it looks like the UK economy will provide a pleasant surprise for businesses and the Chancellor alike later this year. Contributing factors include a consumer spending rebound, European economic recovery and a rapidly rising stock market.

The report also reveals that expectations regarding UK inflation levels are falling, with inflation expected to be 2.2 per cent in the third quarter of 2006. With strong growth predicted and inflation still expected to move above the Bank of England’s two per cent target, those who have been clamouring for a cut in interest rates are likely to be disappointed. BDO Stoy Hayward predicts that the Monetary Policy Committee (MPC) will keep interest rates on hold for the rest of 2006.

Peter Hemington, partner at BDO Stoy Hayward, commented: “Short-term confidence has risen to its highest level in over two years and it is good to see that medium-term confidence has stabilised at its highest point since last April. Businesses are responding by planning for better times ahead – stocks are being built up and capital expenditure looks set to rise in the coming months.”

Douglas McWilliams, chief executive of the centre for economics and business research, added: “The Bank of England will be relieved to see the inflation index remaining at a level compatible with its target. But, with inflation showing no signs of falling significantly below two per cent, and oil prices still threatening, there is no suggestion yet that the MPC should consider interest rate cuts”

The BDO output index – correlates with economic growth in the following quarter

• The UK output index bounced up by 2.3 points from 99.5 in January to 101.8 in April – its highest level since April 2004. This implies an economic growth rate of 3.4 per cent for the third quarter of 2006.
• This is one of the sharpest improvements in the index during the last few years, and suggests that order books are now benefiting from the continental European recovery and the acceleration in UK consumer spending over recent months.
• The service sector output index is leading the way, leaping 2.8 points from 100.1 to 102.9, but manufacturing has also shown a respectable increase from 96.9 to 97.2.

• The UK optimism index consolidated at 101.8 in April, which is it highest level in a year, and implies growth of 3.4 per cent for the fourth quarter of 2006.
• The optimism index is more volatile than the BDO output index, but it is interesting that both indices are now implying similar rates of growth. The scene seems set for 2006 to be a significantly better year than 2005, with companies benefiting from improved domestic and export orders.
• The service sector optimism index rose by 0.2 points to 102.8 in April from 102.6 in January. However, the manufacturing index suffered a setback, slipping from 98.6 to 98.0.
• Optimism among small firms ticked up from 100.7 in January to 101.1 in April. However, optimism for large firms fell from 102.7 to 102.2, perhaps showing the early impact on big corporations of the latest worries over oil prices and the nuclear stand-off with Iran.

• The UK inflation index dropped by 1.7 points to 102.1 in April from 103.8 in January
• This index now seems to be on a gradual downward trend, as the period of most sharply rising oil prices – last spring and summer – recedes into the past.
• The biggest moderation in inflationary pressures is in the manufacturing sector, which has dropped from 99.5 to just 95.8, reflecting the more stable oil price between January and March. The service sector inflation index also dropped from 106.5 to 106.1.