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Business sentiment held broadly steady
Irish business sentiment holds broadly steady in Q2 2014.
• Current reading suggests modest further GDP gains through this year.
• Firms report increased activity and hiring but trend in confidence marginally softer.
• Business growth stable and solid as ‘catch-up’ in domestic spending now emerging.
• ‘Visibility’ on outlook reasonable but uncertainty still affects domestic focussed firms.
• Lack of pricing power means 70% of firms report flat or falling prices.
SECTION 1: The Summer Business Sentiment Survey In The Context Of An Uneven Irish Economic Upturn
Business sentiment held broadly steady in the second quarter of 2014. This outturn suggests that economic conditions as they affect the Irish business sector have not changed markedly through the past six to nine months after a sharp improvement during the second half of last year.
This seems consistent with a picture of business activity that is picking up in fairly steady steps at present rather seeing a dramatic surge. It also suggests the Irish business sector was relatively early to see and signal the current phase of an upswing that is only now being captured in measures such as GDP or consumer sentiment that have shown notably healthier signs of late.
The KBC Bank Ireland/Chartered Accountants Business Sentiment Index actually declined marginally to 121.8 from 122.2 in the previous quarter. Because the index is constructed to measure changes in economic conditions, this hints at a marginally slower pace of growth in activity in the coming quarter.
It remains the case that all the key elements of the index posted significant positive readings in the second quarter of 2014. So, the survey points to on-going increases in activity levels in Irish business of late. There is also a strong expectation that activity will improve further in the months ahead even if the pace of growth may moderate. Significantly, the survey doesn’t suggest companies are ramping up their output or employment levels in a manner that might imply the Irish economy is moving onto a notably faster growth trajectory. This is not that surprising given various ‘headwinds’ to Irish economic growth. That said, as diagram 1 shows, current business sentiment readings appear consistent with a fairly strong rate of growth in the Irish economy as a whole.
The broad stability in the business sentiment index of late contrasts with notably healthier readings posted by some other indicators such as recent national accounts data for the first quarter. To a significant extent, this reflects timing and technical issues with GDP and GNP measures that meant they showed a notably weaker trajectory through 2013 than that implied by the sentiment survey.
As diagram 1 indicates, the recent national accounts data suggest a degree of catch-up in those measures of late relative to the sentiment index. Our judgement is that the summer sentiment survey also hints at a more modest trend in GDP growth through the remainder of 2014 than the outsized gain recorded in the first quarter.
Irish Business Is More Confident Than The Irish Consumer
The relatively steady picture of Irish economic conditions suggested by the business sentiment survey contrasts with the more ‘noisy’ behaviour of Irish consumer sentiment readings of late. In part this reflects differences in the structure of the two surveys. The business survey is heavily weighted towards the immediate operating environment of the respondent’s firm. This makes it less responsive to general newsflow regarding the economy. In turn, this should make it less ‘jumpy’ than consumer sentiment.
As diagram 2 suggests business confidence is also currently at levels that are a good deal stronger than the corresponding consumer measure. Again, this result reflects the particular coverage of the two indicators. At this point in time, the health of the Irish economy might be expected to look somewhat different from the perspective of the average firm compared to that of the average consumer.
The recovery is further advanced and on a surer footing from a supply side perspective than from the demand side. There is little question that a business sector that is significantly exposed to external as well as domestic economic conditions should find life a little easier than a consumer who has experienced traumatic changes in incomes and employment prospects.
Clearly, the weakness of domestic spending has weighed heavily on many Irish companies but less severe conditions abroad have provided some offset at the aggregate level as has the improvement in competitiveness that is the flip side of the drop in domestic living standards. So, of necessity, the emerging upswing has been led by businesses rather than households.
Diagram 2 suggests to us that the ‘pause’ in the summer business sentiment index may reflect the fact that a more balanced recovery will require some greater strength in areas such as consumer spending. The prospect of this sort of ‘catch-up’ is hinted at in the generally improving tone of consumer sentiment of late.
Business Activity Still Improving But Corporate Confidence A Touch Softer
While there may be some focus on the marginal drop in the headline sentiment index in the second quarter, we think the details are altogether more informative in terms of the current circumstances of Irish business. The slight drop in the index reflects a small revision to expectations. As diagram 3 highlights, the ‘confidence’ element of the survey (comprising companies own output expectations and their confidence in the broader Irish economy) has recently tended to run ahead of the ’current conditions’ element (made up of companies own output and employment experience in the past three months). A slightly more cautious assessment of the future may reflect some of the uncertainties about the global economy that have emerged of late and/or a recognition that the range of headwinds to an Irish recovery are only slowly easing.
Business Activity Continues To Strengthen
The survey details show a further increase in activity levels in Irish business in the past three months. As diagram 4 shows, 56% of companies reported a rise in their output, the highest number since the spring of 2007. Only 12% of companies reported a decline in activity. Again, this was the lowest number in seven years. These responses point towards healthy conditions across a broad swathe of Irish business. All the main business sectors reported strongly positive output balances. Manufacturing, food, and Construction all reported notably stronger results than three months ago. Responses from consumer focussed firms were marginally better than in the spring survey, with positive responses outnumbering negatives by four to one. A broadly similar ratio was reported by firms in the business services area but this was somewhat lower than three months ago. Overall, these numbers point to a very healthy Irish business environment of late.
Strong increases in activity are expected to persist in the coming quarter. As diagram 5 indicates, 61% of companies surveyed see their output increasing in the next three months compared to just 7% that envisage a decline. These are fractionally weaker responses than three months ago. We don’t see this as pointing towards notably weaker conditions in coming months.
We think this result likely reflects the fact that in some sectors current output levels are probably in line with anticipated demand and companies see no reason to ramp up production further. We did think that these results might also be informed by a degree of uncertainty about the broad economic outlook. However, responses to supplementary questions asked in section 2 suggest this is unlikely to be the case.
The sectoral breakdown of responses to the question on expected activity levels also sheds some light on the relatively constrained view of the next three months. The most notable area where responses were less positive than three months ago was from consumer focussed businesses. This might suggest an understandable caution after a marked shift to relatively positive readings in recent quarters from the consumer sector after a prolonged period of poor results.
Jobs Market Remains On A Strengthening Trend
A clear sign that the summer business sentiment results point to a healthy level of activity is the improvement in the jobs element of the survey. The number of firms reporting increased numbers at work rose from 33% of respondents three months ago to 36%. While the increase is relatively modest, this is the highest reading for this element of the survey since the summer of 2007. Again, this points to encouraging but incremental rather than seismic changes in business conditions of late.
It would be wrong to overstate the significance of a marginal rise in the number of firms signalling reduced payrolls of late particularly as some of these reductions may reflect switches to other firms. However, this result emphasises that conditions across the spectrum of firms operating in the Irish economy today vary significantly. Attempts at one number summaries don’t really capture the range of conditions being experienced in the Irish economy at present.
As diagram 6 indicates the contours in the Irish jobs market as signalled by this aspect of the survey are notably smoother than those suggested by official jobs data but the broad trend in the two measures is very similar. This might suggest that there could be some acceleration in employment growth in CSO jobs data for the second quarter from the marginal gains reported for the first quarter.
The sectoral breakdown of the jobs element of the survey also points to significant variations around a generally improving trend. Hiring in Manufacturing and construction was particularly strong in the past three months. While job gains in business services were similarly strong, they were slightly softer than in the first quarter. Jobs growth in food-related businesses were comparatively modest while there was a net reduction in employment in the public sector.
Costs Remain Constrained
The cost climate of Irish business remains subdued. As answers to one of the supplementary questions discussed in section 2 suggest, a lack of pricing power is an important feature of the Irish business landscape at present. The majority of companies continue to report unchanged costs. An illustration of the entrenched nature of cost constraints is the fact that the last time more than 50% of companies reported rising costs was in the autumn of 2008.
One in three companies reported higher costs in the past three months. As diagram 7 suggests, this was about the same proportion as in each survey for the past three and a half years. The number reporting falling costs was notably smaller at around one in eight and broadly similar to the pattern of the past year. The only notable exception to the picture of persistent cost constraints was the construction sector where just half of those surveyed indicated their costs had risen modestly in the past three months.
Confidence In Irish Economic Outlook Slightly Softer But Still Strong
Irish business continues to have a very positive view of the broader Irish economy. However, as diagram 8 suggests, there was a marked upgrading of the economic outlook in the winter survey and companies have not really altered their thinking in the interim. It doesn’t seem that the early July publication of stronger than expected GDP data or the related indication that the upcoming Budget 2015 might not be as tough as previously signalled altered Business perceptions of economic prospects. This may suggest that companies are more focussed on developments that provide a measure of clarity about the policy outlook as was the case with the successful exit from the EU/IMF assistance programme.
As the answers given to one of this survey’s supplementary question indicate (see diagram 9 below), companies seem to think there is more than adequate ‘visibility’ on the economic outlook at present. With no dramatic changes to the business landscape in the past three months, responses to this question were fractionally weaker than in the spring survey if still consistent with a very favourable judgement of economic conditions. Our sense is that it might take a notable ramping up of domestic spending or a global boom to produce notably more positive responses to this survey question.
SECTION 2: Supplementary Questions
As usual, the summer survey included a number of additional questions intended to shed some light on particular aspects of current business conditions. There has been a great deal of commentary focussed on uncertainties in the current economic outlook and their potential impact on corporate employment and investment. We thought it might be worthwhile to examine the extent to which Irish business felt constrained in its decision making.
The answers shown in diagram 9a and 9b suggest that companies do not seem to be ‘blinded’ to any marked degree by the current environment. It could be argued that the fact that only 9% of companies say the twelve month outlook for their business is ‘very clear’ highlights the difficulties in setting out a clear path for expansion or survival but a clear majority say the outlook is reasonably clear. Only 4% of those surveyed indicated that the outlook for their business is very unclear.
Equally telling were answers to a further question as to whether companies’ own business outlook was more or less uncertain than usual. 61% of responses indicated that current conditions were normal in this respect with only 16% indicating conditions were more uncertain than usual and possibly surprising 23% saying conditions were less uncertain than usual at present.
As diagram 9b indicates, ‘visibility’ on the broader economic outlook was, as might be expected, a little hazier than in respect of companies own prospects. A strong majority feel the outlook is reasonably clear at present. However, 39% of respondents say the outlook was somewhat or very unclear. In turn, a clear majority of those firms for whom the Irish economy is relevant to their business say this uncertainty is influencing their business decisions. Not surprisingly, about three in four construction companies and just over half of those firms focussed on the Irish consumer indicated that uncertainty was affecting them.
These results suggest that uncertainty is playing a less dominant role in business decision making than might have been thought. In part, this may reflect an acceptance that a significant element of uncertainty is simply part of the ‘new normal’ of the business landscape. It could also be the case that measured against the gyrations of the boom and subsequent bust, current uncertainties appear non-threatening. In addition, many companies focussed on US and UK markets may be reasonably confident of continuing growth in these markets. For all these qualifications, it remains the case that a clear majority of firms in ‘job-rich’ areas such as construction and consumer spending are still signalling that uncertainty is weighing on them.
We also asked companies what was happening to the selling prices of the goods and services they produce. As indicated earlier in the survey, the cost environment remains subdued. We wanted to see whether this also held in terms of firms own pricing power. Companies could be sourcing and selling in markets experiencing very different conditions and as such might be seeing notable changes in their margins. More generally, the extent to which costs and sales prices move together would be a pointer as to how widespread and entrenched the current low inflation climate might be.
As the responses shown in diagram 10 indicate, there is a very strong similarity between trends in costs and selling prices. Some 58% of firms say their sales prices are not changing with just 29% reporting increased prices and 13% saying their selling prices were falling. So a low inflation environment seems fairly strongly embedded in the Irish economy at present.