Can lean UK firms buck US slide?

The Bank of England will not follow the US interest rate cut. But with the fortunes of the two economies so interlinked, will UK companies be able to survive?

The Bank of England’s decision not to cut interest rates despite threats of a sharp slowdown in the US economy was welcomed by industry experts this week.

Many expected the Bank of England to respond to the chairman of the US Federal Reserve, Alan Greenspan’s decision to cut interest rates in the US with a rate cut of its own at the latest last week.

But despite US problems, the Bank’s Monetary Policy Committee held interest rates at 6%, the level they have remained at for the past year. Neil Mckinnon, senior economist at Merrill Lynch, said the Bank of England was right not to rush into a similar rate cut in the UK.

With an election expected this year, the Bank of England will be alert to likely elector-sensitive spending increases in this year’s budget. Despite slow growth prospects for manufacturers, the UK’s export performance has held up reasonably well, said Mckinnon. ‘What prevented the Bank of England cutting rates were indications that the service sector and consumer spending remain fairly buoyant, so unlike the situation in the US, no-one is talking about the risks of a hard landing here.’ McKinnon predicts the MPC will cut rates by only 0.75% by the end of 2001.

Drastic move

The US Federal Reserve’s announcement of a 0.5% cut in interest rates on 4 January, nearly a month ahead of its next committee meeting, took many analysts by surprise. The drastic move is thought to have been prompted by the financial problems of two Californian power companies, Southern California Edison and Pacific Gas and Electric. If the two firms were to have gone under, this could have had a heavy impact on the US economy, threatening the stability of global markets.

Here in the UK, latest figures from the Office for National Statistics found manufacturing output in the UK rose by 0.3% in November — compared with a slight decline at the same time last year. The ability of manufacturers to cope with the strength of sterling against the euro, and even to increase export volumes, has led some analysts to suggest that global demand levels are more important than currency fluctuations to exporters. Any US-led global slowdown in demand would then be a cause for concern.

Despite this, McKinnon is not expecting a US economic softening to spread to the UK. ‘Developments in the US are pretty crucial to the UK, but firms here have improved their competitiveness in recent years, and they are now much better able to withstand a US slowdown. That is why this time no one is expecting a significant slowdown in the UK.’

While the eurozone remains the largest market for the majority of manufacturers, UK companies will not remain immune to any downturn across the Atlantic, as 14% of exports go to the US, and UK companies are one of the biggest investors in the US economy, as are US companies in the UK.

Indeed, some companies are counting on expanding their US sales. Jaguar cars last week announced a 20% increase in US car sales for 2000 compared with 1999. Over 44,000 cars were sold to US customers, and despite potential difficulties in the economy, the company predicts an increase in 2001, to over 50,000 cars.

‘Like all manufacturers we are concerned the US is going to talk itself into a recession. There are some signs of a softening in the economy, but we are still confident sales to the US will increase this year,’ said a Jaguar spokesman. ‘The next few months will be extremely important for all manufacturers selling to the US,’ he added.

The Engineering Employers’ Federation remained silent on the Bank of England’s decision not to cut interest rates. The organisation had not campaigned for a cut, arguing against a ‘knee-jerk reaction’ to events in the US. Rather than a drop in interest rates, the government should encourage investment through carefully targeted tax incentives, Stephen Radley, chief economist at the EEF, said last week. BAE Systems, which has a large presence in the US and sells a considerable amount of product in dollars, is also not overly concerned by the situation there, said a company spokesman.

‘As a company of our size, we have all the necessary expertise to handle the situation, and a treasury that is experienced in dealing in international currencies,’ he said.

Global effects

Not everyone is as confident of the impact on UK manufacturers of a US slowdown, and some industry bodies have criticised the Bank of England for not cutting interest rates as a pre-emptive strike.

Both the CBI and the British Chambers of Commerce said they were disappointed at the Bank of England’s decision. Kate Barker, chief economist at the CBI, labelled the decision a ‘missed opportunity’ to ease concerns over the impact of a global slowdown. ‘There is a real need to maintain confidence and encourage firms hesitating over investment plans,’ she said.