The unexpected rise in the IHS/Markit Composite PMI from 54.9 in September to 56.8 in October is welcome news and suggests that the economy has picked up momentum after what looks like a tough September. That said, the surge in energy prices and rising taxes will mean that consumers’ real disposable incomes won’t rise at all over the next year, which will weigh on economic growth.
The Monetary Policy committee has made it clear that it is now placing more weight on the risks from rising inflation than from the slowdown in economic growth and has strongly hinted that interest rates will rise in the coming months. Today’s PMI reading will probably embolden the hawks on the committee who are calling for an immediate tightening in policy. However, the risk is that by tightening monetary policy too quickly, some of the temporary economic damage from the pandemic becomes permanent.
No easing in cost pressures
At the same time, firms appear to be absorbing more of the recent surge in costs in their margins as the input prices balance jumped to 79.8, up almost five points to its highest level on record. But the output prices balance only ticked up to 63.9 from 63.0. However, firms won’t be able to absorb this increase in costs for long and will have to pass on to consumers, which is one reason why we think inflation will continue to rise until it hits a peak of almost 5% in April 2022.
Indeed, the input prices balance of the services PMI jumped from 73.3 to 78.0, which shows that its not just energy intensive manufacturing firms that are experiencing rising costs. Although, at 89.3 the input prices balance of the manufacturing PMI suggests that cost pressures are still higher in that sector than elsewhere in the economy.
Behind the data
The rise in the composite PMI was driven by a jump in the services PMI from 55.4 in September to 58.0 and an increase in the output balance of the manufacturing PMI from 77.9 to 78.9. The employment balance of the composite PMI also rose from 56.1 to 57.7, which suggests that firms are still hiring and demand for labour remains strong. However, respondents are still reporting difficulties finding candidates to fill vacancies. Labour shortages are likely to continue through to the second half of 2022, as employees will take time to retrain and move into areas where skills are in demand.
Meanwhile, the supplier’s delivery balance of the manufacturing PMI fell to 17.1, its second lowest level on record. So, there is no sign of supply shortages easing up yet. That will put a crimp on economic growth over the next six months.
Overall, today’s data shows that the economic recovery hasn’t given up yet. But labour shortages, high energy prices and long delays in firms getting materials will push inflation higher and slow growth over the next six months or so. If the MPC adds an interest hike on top of all these costs, it will be an uncomfortable winter for many households and businesses.