UK PEST Analysis: Economic Factors

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With the role of accountants becoming increasingly automated, analytical skills are becoming more critical than ever. In order to provide good financial advice about the future it is critical we understand both the current context in which we operate, and likely developments in the future.

PEST is a methodology for analysing the external factors that affect the sector a business or firm operates in. The letters stand for:

Last week we looked at the Political Factors in play, this week we will focus on the Economic Factors.

Despite all the unknowns about Brexit, politicians on both sides of the debate seem prepared to predict confidently what the economy will look like after Brexit, but as accountants we need to be more cautious, making provisions for the different scenarios we might find ourselves in.

Economic Indicators

Growth

Most projections are for the economy for be pretty flat over the next year or so, but that may just be a middle path that factors in the likelihood of various Brexit options. Business confidence looks set to remain low for the foreseeable future, and as any self-respecting economist will tell you, that may well be a self-fulfilling prophecy. You may wish to review the growth rates in your plans and forecast to see whether they are sustainable in a flat economy.

Inflation

The UK Consumer Price Index is currently 1.8%, with the Retail Price Index slightly higher at 2.4%. However Average Wage Inflation stands at 3.5%, so you might find yourselves under pressure to increase salaries by more than the rate of inflation. Wages will exert an upward pressure on inflation, but that will be offset by the downward pressure of low levels of business and consumer confidence. It may well all level itself out.

Government spending

The Chancellor’s announcement of an end to austerity now seems a little premature and much will depend on what type of Brexit we end up with. It would be prudent to assume that there will not be a big expansion in government spending. It may not get called austerity anymore, but it looks likely to continue.

Interest rates

With business confidence low, and inflation under control, it seems unlikely that interest rates will have to rise much. The Bank of England have been hinting at an increase for some time, but it now seems likely they will have to hold off a little longer.

Exchange rates

The pound has been low for some time and although it has recovered somewhat since the New Year, it could still rise significantly. It is not clear to what extent the markets are factoring in a resolution to Brexit, but it does seem to be true that the value of sterling jumps up at any hint of clarity about the future, whatever that looks like. If you trade internationally and deal in different currencies, you might want to look at your hedging strategy and make sure you are not exposed.

Labour market

Wage inflation at 3.5% is well above either measure of inflation, which would normally be expected to put pressure on companies not wanting to increase their wage bill more than their prices. Employment currently stands at 76.1%, the joint highest on record, but the type of employment is widely reported to have deteriorated, with more people on short term contracts. Unemployment has been falling for the last five years and is currently reported at under 4%. It has not been lower since the winter of 1974! That may create issues for your organisation depending on the type of staff you need to hire.

The mess that HMRC are making of recent IR35 cases, and their widely criticised approach to the Loan Charge, means that if you have significant numbers of contractors working for you, there may be other risks to consider.

 

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