Manufacturers are banking on export boom to offset weak UK demand

Britain's factories are relying on the global economy withstanding the impact of higher interest rates to compensate for the weakness of domestic order books, the CBI said yesterday.

The quarterly overview of manufacturing from the employers' organisation revealed that firms are gearing up for what they predict will be the best export performance in more than 10 years - but there are growing concerns that the main overseas markets of Europe, the United States and China will grow more slowly in 2007.

Reporting findings that were slightly weaker than the City had been expecting, the CBI said that, despite the lowest number of firms working below full capacity in eight-and-a-half years, there was little sign companies were investing more in new plant and machinery.

In addition, the squeeze on company profits from rising energy costs and strong competition was leading to a continued loss of jobs from the manufacturing sector, albeit at a slightly slower rate.

The CBI said the workforce would be cut by 23,000 in the third quarter of 2006, compared with a cut of 25,000 in the second quarter. In the past year, industry has lost 108,000 jobs, the CBI said.

"Domestic orders remain sluggish, and it is unlikely that the current strength in the global economy will continue into 2007," said Ian McCafferty, the CBI chief economic adviser.

"As such, and with firms' ability to generate profits under serious pressure from rising costs, there are continued question marks about the longer term health of the sector, and whether the slower pace of job losses can be sustained."

Overall, the CBI said the same proportion of firms had reported order books strengthening as weakening over the past three months - 22%. Only 17% of companies said orders from the UK were up, against 22% reporting a fall. By contrast, 24% of firms said export orders had improved since April while 17% said they had fallen.

The CBI said companies expected a better performance over the next three months, when 25% of firms were predicting stronger orders and only 12% were braced for weaker demand. "If this expectation is realised, this would be the fastest growth in export orders since 1995," the CBI said.

Mr McCafferty said the backdrop of higher interest rates around the world was affecting business confidence, which was slightly weaker in July than it had been in April. "We are seeing the first concerted tightening of monetary policy since the late 1980s", he said. "Policy is moving from being easy to neutral to tight by early 2007."

Paul Dales, economist at Capital Economics expressed concern about the industry's outlook.

"We think that manufacturers' optimism towards the world economy may be misguided, as the latest news suggests that activity in the US economy has started to slow, while the recent rise in the pound against the euro could stifle demand from the eurozone.

"As such, we would not be too surprised to see industrial conditions weaken over the course of the next year or so."