Confidence boost masks pain to come

The Federation of Small Business tells us that confidence among small UK firms is rebounding against a backdrop of lower inflation.

Small firms are also encouraged by what they believe to be progress on Brexit talks and a positive Spring Statement from the Chancellor.

According to the FSB, revenue, investment and import expectations are all up compared to the survey conducted at the end of 2017. Last year’s steady decline in confidence looks to have been reversed, with more than seven in 10 firms expecting that their performance will either improve or remain the same over the next three months.

Yet the FSB members’ optimism does not tally with the experience on the high street. Last week was a grim one for the retail sector in particular, with Carpetright saying it would shut 100 branches, Moss Bros shares tanking after it warned on profits, New Look pushing through rent cuts and store closures.

And there was more evidence of the slowdown in consumer spending on the high street when research revealed that profits at the UK’s top 100 restaurants had fallen 64% in one year. A third of those restaurants are now loss-making, as the eating out sector struggles with higher business rates, higher employment costs and a more cautious consumer.

Whatever the FSB survey finds, confidence is far from buoyant. Consumer-facing firms are trying to keep their heads above water but there is still more cost to come.

Next month businesses will have to find the cash to pay for an increase in the national living wage and they will also have to make higher pension payments for staff on auto-enrollment schemes. Since retail is such a labour-intensive sector, retailers and restaurants will feel these added costs disproportionately.

The retail sector will also be hit hard by the higher cost of importing goods in a hard Brexit scenario. Retail Economics, a retail consultancy, reckons that if Britain fails to agree a deal on tariffs the retail industry could be hit by a £7.8bn in extra import duties.

Food retailers will face the toughest challenge, since almost three-quarters of what we eat is imported from the EU. Some tariffs on meat and dairy products would rise to more than 80%, causing an inevitable surge in food inflation to hit families.

In a year’s time Britain will enter a 21-month transition period. While ministers can trumpet trade deals and ambitions loudly, it is the domestic market that is of greatest concern to small businesses.

As Brexit negotiations continue, it will be economic growth, consumer demand and labour costs at home – rather than trade ambitions – that will be on the minds of smaller companies.

Last week data revealed the UK is at long last enjoying stronger wage growth, combined with higher employment, and that inflation had fallen from 3% to 2.7%, somewhat lower than the Bank of England had feared.

These factors mean that experts are now predicting an interest rate rise in May, which will take rates from 0.5% to 0.75%. Two of the Bank’s rate setters voted at their last meeting to raise rates immediately.

Alongside the challenge of Brexit and higher business costs, companies (and individuals) need to get used to a new world where borrowing costs actually rise, with commentators suggesting that rates may need to go up further and faster than expected.

This will happen while the UK is left behind by the eurozone’s productivity revival. While growth rates in the eurozone will return to almost pre-financial crisis levels this year, the UK’s annual growth rate will still be in the doldrums: about 0.8% compared to the eurozone’s 1.1% and the pre-financial crisis level in the UK of 2.1%.

So the UK has moved from the top of Group of Seven growth rates in 2016 to the bottom in recent months.

The Federation of Small Business members’ confidence looks heartening on paper, but the reality is that it could be hard to sustain for many, as higher costs eat up meagre profits.