By Max Clarke

Renewed fears over domestic demand have dealt a blow to business confidence for the start of the New Year, according to the latest Business in Britain report from Lloyds TSB Commercial. Firms across Britain are concerned about their prospects for the coming months, and plan to freeze investment and raise prices, in the face of continuing economic uncertainty. Nevertheless, most have kept their faith in export markets as a source of future growth.

The twice-yearly report, which canvasses the views of more than 1,800 firms, shows that business confidence has slipped back for the first time in 18 months, driven by an increase in the number of firms concerned that sales and profits might fall this year. The Business in Britain Confidence Index, which tracks firms’ views on sales, order books and profits for the next six months, has slipped to a balance of 12 per cent1 — from 18 per cent in the last survey. This balance is 10 per cent below the average of 22 per cent, over the survey’s 16 year history.

John Maltby, managing director, Lloyds TSB Commercial, said: “Businesses across Britain have seen strong growth over the past six months, and they were rightly confident about their prospects for the final months of this year. But this sense of optimism is starting to give way once again to concerns about domestic demand.”

The confidence index is the average of the confidence balances, for sales (24 percent), orders (12 percent) and profits (0 percent), based on businesses’ views of how they will perform over the next six months. These individual balances show the net percentage of businesses with a positive outlook — the number of companies expecting a rise minus those expecting a fall.

John Maltby added: “Businesses are without a doubt less upbeat than they have been, about prospects for sales, orders and profits — and we are seeing that reflected in our index. Many businesses will be planning price increases to keep profits at current levels, but in general firms are evenly split on the chances for a profitable 2011. And it is still true to say that more firms are optimistic about sales, than not.”

[u]Domestic demand[u/]

The dampening optimism highlighted by the survey appears to be driven by fears about domestic demand. Almost two thirds of businesses (57 per cent) say weaker home markets pose the greatest threat to their business over the coming six months. These fears are reflected evenly across the regions, but the Midlands and Scotland (63 per cent) are most affected. There is a consistent picture across the sectors too, but the worries are particularly marked in retail (68 per cent), reflecting fears about the impact of rising VAT and fragile consumer confidence.

Despite businesses’ almost universal concerns about domestic demand, most are hopeful about the potential for overseas trade and are upbeat about their trading prospects for the year ahead. Two fifths (42 per cent) believe they will grow exports in the first half of 2011, and believe their business activity will gain momentum this year. A similar number of firms (44 per cent) expect to continue exporting at current levels, while just one in twelve (8 per cent) expect a fall. This faith in exports is held across most regions while, amongst the sectors, energy and communications firms are the most hopeful, and construction and real estate, the least.

[u]Investment on hold[u/]

In the face of these weakening prospects, businesses are toeing a cautious line in terms of investment and recruitment. Only one in five firms (20 per cent) plan to boost investment over the coming six months, while slightly more (21 per cent) plan to cut back, meaning that the balance of firms expecting to increase investment remained unchanged at -1 per cent. Almost half (47 per cent) plan to keep spending at current levels.

Equally, few firms plan to ramp up recruitment. Just one in five (18 per cent) expect staff numbers to rise over the next six months, while 15 per cent anticipate a reduction. Two thirds (65 per cent) say they expect no change in staff numbers during the first half of the year. The overall balance for firms expecting to increase recruitment in the next six months is three per cent - a slight fall from the from the balance of five per cent recorded in the last survey and much higher than recorded in the December 2007 and June 2008 surveys, just before the start of the recent recession.

John Maltby added: “It is easy to understand why businesses are choosing not to invest. Worries about the economic outlook coupled with the fact that most firms aren’t operating at full capacity suggest that, on the face of it, a cautious line on spending may seem to be right approach. But there is a real danger that without continuing investment and innovation, the competitiveness of British businesses could be undermined — and the worries firms harbour about weaker growth could become a self-fulfilling prophecy.”

[u]Plans to raise prices[u/]

The combination of rising inflation and the prospect of higher interest rates is weighing on the minds of many businesses. A third of firms (36 per cent) are more worried than they were six months ago about inflation, and two fifths are braced for interest rates to go up in the next six months.

Faced with these concerns, and in an effort to keep profits stable, many businesses (a balance of 18 per cent) are planning to increase prices. Almost a third of firms (29 per cent) say that they plan to put up prices over the next six months and more than half (56 per cent) plan to keep them at current levels. Just one in ten (11 percent) plan to reduce prices through the year.

[u]The economic perspective[u/]

Trevor Williams, Chief Economist, Lloyds Bank Corporate markets, said: “After strong growth in the final months of 2010, it is clear we can expect a more volatile start to the New Year. Businesses have lost some of the confidence they had regained and are bracing themselves for a slowdown in trade. They are also bound to be concerned about the likelihood of high inflation and the consequences for interest rates.

“Across Britain firms are wisely placing their faith in the opportunities presented by overseas markets. Exports are no ‘silver bullet’ for businesses seeking growth, but if firms can successfully harness demand outside the country, then there is hope that the economy can rebalance and that will bode well for the future. It remains the case that we should steer clear of a double dip.”