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Firms report modest but broadly based easing in pace of business growth of late.
Job gains continuing but hiring plans scaled back slightly.
Easing in external costs but further cost increases in domestically focussed firms.
Views on Irish economy still positive but less bullish than previously seen.
Global slowdown seen as main threat to Irish business prospects.
Brexit and domestic political stability also seen as key issues.
Only one in four companies has taken any action in anticipation of Brexit.
Irish business sentiment weakened notably in the first quarter of 2016 from the nine year high recorded in the previous quarter. This pull-back stemmed from some easing in the pace of output growth and, more importantly, from a notably increased level of uncertainty which weighed on the mood of the corporate sector in Ireland.
It should be emphasised that this reading still suggests the Irish economy is growing at a reasonably healthy pace at present. More importantly, however, the survey suggests there has been a clear easing in the strength and spread of Irish economic growth since the turn of the year. (Technically, the survey examines the balance between the proportion of firms expanding or reducing their output or employment. So, it provides a snapshot of conditions across different companies and sectors at a point in time rather than an aggregation of the money value of output or numbers employed, as is the practice in most macroeconomic indicators.)
The KBC Bank/Chartered Accountants Ireland Business Sentiment Index fell to 117.7 in the first quarter of 2016 from 131.1 in the final three months of 2015. While the previous reading was the highest in the nine years of the survey, the latest is the weakest since the autumn of 2013. As diagram 1 shows, recent years have seen the sentiment index follow a reasonably similar path to the trend in Irish GDP (as depicted in the four period moving average of the quarterly change in real GDP-we use this measure because of the particular volatility of quarterly changes in GDP in recent years).
This comparison emphasises that the drop in the sentiment index hints at a drop in the pace of Irish economic growth of late as distinct from a dramatic weakening in economic conditions. Nonetheless, the index implies there has been a notable easing in the forward momentum of the Irish economy in early 2016.
Irish based companies reported a further increase in output levels in the first quarter of 2016 but the rate of increase looks to have fallen back sharply from that reported in recent quarters. As diagram 2 indicates, some 55% of the companies surveyed increased their business volumes in early 2016 while just 9% reported weaker activity. As a result, the survey still points to improving conditions overall but a more notable finding is that the scale of improvement has eased notably from the very strong readings of previous quarters.
The softening in business growth was seen across all sectors but it was particularly pronounced in business services and manufacturing. While there has been some volatility in manufacturing readings in previous surveys, this result, together with the responses to some supplementary questions discussed in section II, suggests some adverse impact on Irish activity levels from a more uncertain global environment of late. The same influence also seems to have taken a significant toll on business services companies who had provided some of the strongest readings in previous surveys.
Firms whose focus is primarily on the domestic economy such as those facing consumers or in construction also reported a clear easing in the pace of growth in early 2016. In the case of consumer businesses that result may reflect some weakening related to seasonal influences in the aftermath of Christmas and the New Year even though respondents are asked to adjust their responses for such factors. For construction companies, various problems affecting housing supply and other difficulties in scaling up such as the limited availability of skilled staff may have contributed to a somewhat weaker reading. In contrast, companies in the food sector reported only a modest softening in growth rates in the latest quarter.
In spite of a disappointing first quarter, expectations are for a fairly solid level of activity in the second quarter as diagram 3 shows. However, there is something of a changed mix across sectors. Expectations of manufacturing firms have been scaled back significantly while food firms expect a further improvement in business volumes. In most other areas there has been some reduction in the number of firms that envisage stronger activity in coming months but the general expectation is still for an increase overall.
Not surprisingly, an easing in the pace of activity growth has prompted some cooling in the hiring climate of late. Again, it should be noted that it is still the case that notably more companies plan to increase their workforce than envisage a decline in headcount as diagram 4 clearly shows. This diagram also shows there has been no step-up in firms reducing their headcount that might hint at sharply increased concerns about business prospects of late. Instead, the change compared to the previous survey is in some pull-back in the number of firms planning to add to payrolls in the next three months.
While the softer hiring trend of late undoubtedly owes something to a more cautious stance on the part of employers in the face of increased uncertainty about growth prospects, it also hints at some emerging constraints in terms of workers in some job segments such as construction. Answers to other parts of the survey suggest that the recent slowdown in hiring was more prevalent in sectors reporting some decline in the availability of suitably qualified employees. So, demand and supply issues may both be acting to slow the pace of job creation at present.
The healthiest net job balances were seen in business services and consumer focussed firms. The result in business services is encouraging as it suggests the softer activity trend reported in the past three months is not expected to continue while the pick-up in employment in companies servicing the consumer market is consistent with the relatively recent improvement in this area of the Irish economy.
Alongside a slightly softer pace of activity growth, Irish firms reported some easing in the pace of increase in their business costs of late. As Diagram 5 indicates, this represents something of a break from the recent trend which has seen a small but steady increase in costs. The pull-back this quarter was most noticeable in responses from companies in areas such as manufacturing, food and business services while more domestic focussed areas such as construction and consumer sectors reported some pick-up in costs. To the extent that this divergence reflects a stronger momentum evident in domestic activity of late some element of pick-up in domestic costs is to be expected and it should be noted that the acceleration compared to the previous quarter was relatively modest.
Although the spring survey does not signal a particularly threatening trend in the domestic cost environment of Irish business it does warn against any undue complacency in this regard. The survey suggests some recent easing in external costs that likely reflects currency fluctuations as well as a tougher external business climate. This highlights the need not to allow domestic costs move onto a trajectory that would damage the Irish economy’s competitive position.
While the primary focus of the KBC Bank/Chartered Accountants Ireland business sentiment survey is on the immediate operating environment of the respondent companies we also ask for an assessment of the broader Irish economic backdrop each quarter. As diagram 6 suggests, there was a sharp change in thinking in early 2016. Again, we must emphasise that it remains the case that notably more companies felt more optimistic than pessimistic about the Irish economy in the past three months but the difference between the current and the previous quarter testifies to a notably more cautious judgement on Irish economic prospects of late.
A notably more guarded view of the outlook for the Irish economy as a whole was common to all sectors in the latest survey. However, the sharpest sentiment change was reported by firms in the construction sector where the balance of views is now only marginally positive. In contrast, manufacturing firms reported the least substantial change and currently reflect the most positive view of the Irish economic climate. It could be that this reflects continued stability in areas of Irish economic policy of greatest significance for their businesses and perhaps a perspective informed by comparisons with recent trends in other economies.
As usual, the KBC Bank/Chartered Accountants Ireland business sentiment survey asked a number of additional questions on topical issues. In the context of increased concerns about a number of aspects of the international economic climate and a change of Government at home, we decided to ask companies for their assessment of potential threats to their operating environment.
First of all, we asked whether firms felt that downside risks to their companies’ activities had changed notably of late. While roughly 60% of respondents indicated there had been no change to their businesses, a substantial 34% noted an increased downside risk to their business of late while just 3% suggested that downside risks had eased.
Irish based firms were then asked to indicate what they saw as the biggest risk facing their businesses at present. Because of the complexity of the business landscape, we allowed respondents cite more than one risk and roughly one in three noted more than one concern. Responses to this question, shown in diagram 7 below, show a strong focus on a small number of key issues.
Reflecting the importance of exports to a broad swathe of Irish companies, it is not entirely surprising that weaker global demand emerged as the most significant threat and was cited by 49% of respondents. As such, these results appear to reflect a specific focus on this issue at the corporate level.
The strongest proportion of responses emphasising concerns about the world economy came from manufacturing companies but this was followed closely by business services firms. Indeed, in all private sector areas, other than construction and property, the global economy was the most frequently cited concern. Our judgement is that this highlights the importance of international developments even for ostensibly domestic focussed firms such as those in the consumer area where tourism and other external sales remain crucial.
The prominence attached to ‘Brexit’ as a key concern is to be expected and a notable feature of these responses was their consistency across sectors. Although ‘Brexit’ was marginally less important for manufacturing firms and correspondingly more important in responses from construction firms, the gap between these two came to just 5 percentage points of responses in the two sectors. This emphasises the expectation that ‘Brexit’ would be broadly felt across most sectors.
Domestic political uncertainty also featured as a significant issue for many Irish businesses. As might be expected, this was not the case for manufacturing or for business services companies while it was particularly prominent in responses from construction and property firms where it was the most widely noted source of concern. As expected, it was far and away the key concern for public sector respondents but it featured significantly in most responses from all sectors with a substantial domestic aspect. The survey was taken between the 6th and 12th of May, just before a new Government was confirmed.
Some 16% of firms indicated other issues were seen as the key risk facing their business and provided information on those issues. Within this grouping roughly one in four firms highlighted competitiveness concerns and one in eight focussed on regulatory issues. Notably smaller numbers cited difficulties in accessing funding-as little as 1% of the overall survey, and a broadly similar number mentioned low oil prices. There was also a wide range of other issues mentioned that encompassed concerns as diverse as demographics and a deterioration in rural economic circumstances. The range of responses to this question once again underlines a key contribution of the sentiment survey in highlighting significant problems with a ‘one story fits all’ treatment of the Irish economy.
We previously examined aspects of the implications of ’Brexit’ for Irish business in the second and fourth quarter surveys for 2015. These considered the expected impact on companies and concluded that it would be significantly negative. We decided to update this work in the current survey by asking if ‘Brexit’ had become a more important issue for Irish business as we draw closer to the June 23rd referendum date with opinion polls suggesting the outcome is too close to call definitively at this point.
Some 46% of companies indicated that ‘Brexit’ has become a more important issue for them of late. As this is significantly greater than the 37% of firms that cited it as the key concern for them in diagram 7 above, this suggests that notwithstanding the generally positive current condition of the Irish economy, the broad ‘macro’ climate relevant to many Irish companies is quite challenging at present and is presenting them with a range of concerns.
We also asked what Irish companies were currently focussing on in terms of the potential impact of ‘Brexit’ on their activities. Roughly 45% said that ‘Brexit’ wasn’t a key focus for them at present. A further 45% said they were primarily concerned with the threats posed to their businesses while the remaining 10% were looking at opportunities it might present.
It is not entirely surprising that firms in the food sector were most pessimistic in this regard with a relatively high number of firms seeing ‘Brexit’ as a threat and comparatively few anticipating opportunities. Manufacturing firms saw a marked split with roughly equal numbers indicating significant concern and a lack of focus on the issue-an outcome that may reflect a distinct split between ‘traditional’ and ‘multinational’ sectors within manufacturing. Very few manufacturing firms envisaged any notable upside from the prospect of UK departure from the EU.
A similarly negative overall but slightly less uniform view of ‘Brexit’ was held by business services companies. Again, there was a relatively large proportion of firms not concerned with ‘Brexit’ but firms looking at opportunities were about one third of the number focussed on threats, about twice the ratio seen in manufacturing. In view of the ‘domestic’ nature of many of Ireland’s business links with the UK, it was slightly surprising that the share of consumer companies not focussed on Brexit or unsure of its implications matched the survey average. Of those considering its likely impact, the ratio of consumer companies concerned about adverse effects to those anticipating potential gains was roughly six to one, a roughly similar number to that seen in manufacturing.
A somewhat surprising result was the higher than average focus on ‘Brexit’ by construction and property firms. While the proportion of respondents worried about adverse implications was marginally higher than the overall average and, consequently, a strong majority of responses from this sector, the share of building/property firms examining possible opportunities prompted by ‘Brexit’ was materially greater than in any other sector.
This divergence may reflect a split between those focussed on what is expected to be a poorer ‘macro’ environment in the event of ‘Brexit’ and those considering some more positive implications such as a need to accommodate the demands resulting from a prospective relocation of investment into Ireland from the UK or perhaps larger Irish construction firms who envisage either less competition from UK counterparts for EU projects or those with an interest in the UK that envisage a reduced regulatory burden in that country.
With diagram 8 suggesting that roughly 55% of Irish businesses are currently focussed on ‘Brexit’, it might be expected that this would translate into a significant level of preparedness for such a possibility even if the relevant ‘Article 50’ exit process envisages a period of up to two years before the UK would be outside the EU. However, some of the survey findings, such as those illustrated in diagram 9, hint that this may not be the case. Some 27% of companies do not envisage any direct impact on their business from ‘Brexit’ while a further 47% have not taken any action as yet, meaning some 26% of Irish companies have taken some action in relation to ‘Brexit’.
There are several reasons why Irish companies might not have taken substantive action ahead of the UK referendum on EU membership. Some companies may have delayed their consideration of the implications of Brexit for their operations because the “article 50” process under which the UK would exit the EU in the event of a vote to leave entails a two-year window before the exit becomes effective.
It might also be argued that for many companies there are no easy actions to pre-empt the possible effect of ‘Brexit’ on their activities. In addition, companies are grappling with uncertainty as to whether Brexit will occur and a range of arguments that have generated far more heat than light as to as to its likely consequences.
These varied considerations forcefully argue against companies making dramatic changes to their business models at this point in time. However, the manner in which this survey question was framed allowed for responses that entailed actions as basic as undertaking an assessment of the specific impacts relevant to a particular firm. Judged from this perspective, these results hint at significant shortcomings in Irish companies’ readiness should the UK take the decision to exit the EU.
While the question of ‘Brexit’ has attracted a considerable amount of media attention, our survey responses suggest it has not prompted any dramatic shift in business behaviour. Within the range of actions taken by companies ahead of the UK referendum, some 4% of respondents indicated the prospect of Brexit had caused them to postpone, scale back or cancel activities while 1% of firms had increased activities. At the margin, these actions would have some limited impact on overall activity levels but it seems that the most notable consequence of the looming UK referendum is to feed into a more broadly based mood of caution of late. Many companies have yet to fully assess what Brexit might mean specifically for their business activities.
This non-exhaustive information is based on short-term forecasts for expected developments in the economy and financial markets. KBC Bank cannot guarantee that these forecasts will materialize and cannot be held liable in any way for direct or consequential loss arising from any use of this document or its content. The document is not intended as personalised investment advice and does not constitute a recommendation to buy, sell or hold investments described herein. Although information has been obtained from and is based upon sources KBC believes to be reliable, KBC does not guarantee the accuracy of this information, which may be incomplete or condensed. All opinions and estimates constitute a judgment as of the date of the report and are subject to change without notice.