Irish based firms expect growth in their business volumes in the months ahead but there are signs of a more cautious approach to hiring. This may owe something to an increasing focus on accelerating wage costs but it also likely reflects heightened uncertainty about the implications for their businesses of Brexit and the new Trump administration in the US.
Balancing the conflicting influences of robust increases in their own business volumes of late and the risks posed by major policy shifts in the UK and US poses a dilemma for many companies who would usually be upscaling their output, hiring and capacity levels at this point in a ‘normal’ cycle. Instead, firms to may opt to take a cautious or defensive approach to their business planning for the coming year. This would be consistent with the more cautious approach to hiring even in the face of an anticipation of notably stronger activity levels in the coming quarter. In this and some specific sectoral responses, the survey suggests heightened uncertainty may already be constraining Irish business growth in early 2017.
The KBC Bank Ireland/Chartered Accountants Ireland Business Sentiment Index rose to 104.8 in the winter quarter of 2016/17, a modest improvement from the 100.1 reading in the autumn survey and still well below the peak reading of 131.1 recorded a year ago. As the survey took place from January 17th to 25th, these results should be seen as representing Irish business thinking in early 2017.
Business activity recovers momentum in late 2016
Irish companies reported a strengthening of their activity levels in the past three months, with both an increase in the number of firms reporting rising output and a decline in the number reporting lower business volumes. This improvement, shown in diagram 1 below, marks the first uptick in this metric since the end of 2015. These results appear consistent with the persistence of broadly based growth in business activity at the turn of the year and, as such, suggest that the Irish economy enters 2017 with significant forward momentum.
Much of this momentum is coming from firms focussed on domestic activity; while a narrower range of food and manufacturing companies reported growth than three months earlier, there was a notable increase in the share of construction firms reporting better business and more modest but clear improvements in the tone of responses from firms focussed on consumers and those in the business services area.
The relatively positive activity reading for the past three months may have contributed to a more positive assessment of business prospects for the coming quarter. As diagram 2 indicates, there was a sizeable increase in the number of firms expecting their output levels to increase in the next three months. Again, this was most pronounced in those sectors significantly focussed on the domestic market but there was also some increased optimism on the part of food producers.
Signs of greater caution in new hiring
In contrast to the clearly more positive tone of companies’ assessments of their recent and prospective activity levels, responses to the survey question on recent payroll employment trends struck a notably cautious tone. It should be emphasised that the answers that are summarised in diagram 3 still suggest solid gains in employment across the Irish economy. The survey suggests that the number of firms adding to their headcount is 3 ½ times as many as those reporting a shrinking labour force but compared to previous surveys these results hint that the pace of jobs growth may have eased somewhat of late.
There was no marked change in the cost climate of Irish business of late with the latest survey reading largely unchanged from that elevated reading of the autumn report. The cost environment depicted by diagram 4 suggests that upward pressure on costs is now widely based. We examine this issue further in section two of this analysis.
The most notable feature of the sectoral responses to this question was a clear increase in cost pressures in food and other manufacturing offset by an easing in costs in consumer focussed businesses that may reflect some exchange rate related savings and/or some reaction to intense competitive pressures in the sector.
While businesses reported a slightly better than expected improvement in their immediate operating environment, they remain concerned about prospects for the broader Irish economy. As diagram 5 indicates there was a rise in companies voicing more positive responses but, even though negative responses were unchanged, there were still significantly more companies opting for a less optimistic view on the general economic outlook.
Section 2: Supplementary QuestionsAs usual the survey asked a number of additional questions focussed on some topical business issues.
Average pay rising widely if modestly but seen as key element in rising business costs
One set of questions examined current cost trends in some detail. Some 22% of firms indicated that the markets in which they sell were seeing deflation or disinflation while a further 31% said their markets were characterised by modest inflation and only 2% reported rapid inflation. The most common response offered by 46% of Irish businesses was that selling prices were unchanged in the markets in which they operate.
We then asked companies what area of their internal costs was seeing the clearest tendency to increase. The answers reported in diagram 6 show wage growth as far and away the most notable element of cost increases. This was common to all business sectors.
We also asked companies to indicate the pace at which they envisage their average pay rates increasing in 2017. While the survey indicates little or no incidence of sharp increases or falls in average pay (which we put at changes of more than 5%), only a relatively small number of firms, (some 16% of those surveyed), envisage no pay increases this year. The overwhelming majority of firms surveyed (some 83%) expect average pay in their companies to rise in 2017.
Broadly similar numbers of companies expect average pay to rise by less than 2% (39% of firms) and by between 2 and 5% (41% of firms). This similarity is largely a reflection of a preponderance of relatively modest pay increases in the food area. In most other sectors, the proportion of companies seeing average pay increases of 2 to 5% is around the mid 40’s. As many firms don’t expect their selling prices to increase this year, pay increases may be emerging as a source of concern in relation to the competitiveness of their product offering.
In some 56% of companies, the scale of planned pay increases were similar to last year while a further 28% expected pay rises to be larger than in 2016 with the remaining 16% anticipating somewhat slower pay increases this year than last. Across all sectors the most frequently given response was that pay increases would be similar to those of 2016.Of the balance of replies, somewhat larger rather than smaller pay increases were the norm across most industries for 2017. Only in the food sector did a greater proportion of companies envisage smaller rather than larger pay increases than a year ago.
Negative Brexit impact already being felt widely
We have examined a number of aspects of the implications of Brexit for Irish business in recent quarters. In the winter 2016/17 survey we tried to assess the nature and extent of impacts already being felt by Irish based companies. As diagram 7 indicates some 56% of firms indicated they had not seen any notable effect on their business (including those who answered ‘Unclear/don’t know’). This means that almost half of the companies surveyed have already detected some impact on their activities from the UK’s decision to leave the EU.
Of those who indicated some impact on their business, negative effects outweighed positive effects by a ratio of roughly 10 to 1. Positive responses were much more prevalent in areas such as property and construction than in other sectors but even here they were clearly outweighed by negative responses. The sectors reporting the most strongly negative impact were food and consumer facing businesses. In both of these areas some 50% of companies indicated they had already seen some adverse Brexit-related impact on their activity levels.
We then asked companies how Brexit was affecting their businesses at this point. The responses shown in diagram 8 allowed firms to cite more than one channel of influence (consequently the percentages don’t sum to 100). The diagram shows that two responses dominate and both of these relate to effects already being felt. The combination of a significant hit to companies cost competitiveness and elevated uncertainty about what might happen next is a particularly threatening set of circumstances for companies to handle. In addition, firms are also reporting they have already faced other impacts related to a need to focus on a wide range of implications of Brexit that could quickly become key current issues.
Firms in areas such as food, other manufacturing and consumer focussed activities tended to emphasise exchange rate volatility as more important than increased uncertainty whereas firms in construction were notably more concerned about uncertainty. These responses are consistent with the relative importance of adverse currency movements to the former group and the importance of ‘visibility’ to the feasibility of long term projects to the latter.
Trump presidency adding to uncertainty
We thought it might be instructive to ask somewhat similar questions to those asked about Brexit in relation to the prospective impact of the new Trump administration on Irish business. As diagram 9 illustrates, a significant 18% of firms are unsure of the prospective impact. It could be argued that this number is relatively low given the lack of clarity and apparent contradictions in many of the recent policy utterances from the US.
Adjusting for ‘don’t knows’, the proportion of companies not envisaging any impact is only modestly greater than the comparable responses to the similar question on Brexit. Similarly, negative responses dominate the remainder of replies, albeit to a slightly lower extent than on Brexit. It is probably not surprising that manufacturing firms are notably more negative in their responses than all other sectors although there is also some evidence of a divergence of opinion in that the incidence of positive responses was also greater among firms in manufacturing than in other areas.
Responses to a final question which are shown in diagram 10 give some sense as to why a relatively large number of firms indicated that the new administration in the US might have an impact on their business (reflecting a lack of detail on the new administration’s policies, we asked the firms to cite only the most important channel of influence).Roughly half of those surveyed indicated that the most important aspect of the new US administration for their business was the increased uncertainty it generated. Again, these responses give a sense of the substantial challenges Irish companies face as a result of major policy shifts in the UK and US.
Irish business adapting to a notably less clear 2017With Brexit and the policies of the Trump administration now casting a large shadow over the economic outlook, it has become very difficult for Irish companies to adopt an approach of ‘business as usual’ at present. However, the reported increases in activity in the past three months and expectations for further gains in output in the coming quarter imply that firms are being driven by a still generally positive operating environment.
Where the survey does suggest some clear impacts of the ‘new normal’ are being seen is in specific sectors, particularly those exposed to Sterling weakness. It could also be that a more cautious approach to hiring is another consequence of elevated uncertainty at present but the survey’s findings of rising wage costs may also be a restraining factor in this regard. In broad terms, the survey results suggest Irish business is still driving forward at a healthy pace but much foggier conditions mean they are likely to adopt a relatively cautious approach to expansion in the months ahead.
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.