Today's producer price inflation data show increasing squeeze on manufacturers from rising input costs.
Margin pressures intensified in December
Manufacturers’ input costs continued to increase in the past month. In the year to December, prices for materials and fuels purchased by UK manufacturers (input prices) rose by 15.8% - the highest annual change since September 2011. The largest upward pull on input costs came from imported materials and fuels – which account for 68% of manufacturers’ inputs. This reflects the impact from the depreciation in Sterling: although the sterling effective exchange rate rose slightly in December, it remained significantly lower than its level a year ago. Another source of pressure on manufacturers' costs was the recovery in oil prices. Indeed, the OPEC’s agreed in December to cut crude oil production for the first time since 2008, which caused the crude oil price to bounce back to 54$ per barrel up from 38$ a year ago.
Manufacturers reacted by charging higher prices to their customers. Factory gate prices (output prices) increased by 2.7% in the year to December, reaching a five-year high. However, the pass-through was incomplete, causing a further squeeze on manufacturers’ profit margins.
These developments were reflected in our 2017 Executive Survey. The report showed that upward pressures in input costs were a source of risk to four in five manufacturers going into 2017.
Margin pressures are uneven across sectors
Yet all sectors are not alike. As we highlighted previously, the surge in input costs depends on firms’ import intensity, which varies largely across manufacturing sub-sectors. On the other hand, the scope of the pass-through into higher output prices is influenced by firms’ pricing power in the domestic market, demand prospects for a specific product as well as the elasticity of demand to changes in prices.
These differences explain why the pass-through from higher input costs was uneven across sectors in December. Input costs recorded the highest increase across the most commoditised sectors such as the metals and food and drink industries, where rises in output prices were rather limited. On the other hand, the pass-through into higher factory gate prices was higher in the transport and chemicals industries.
These differences were also apparent in our 2017 Executive Survey. Indeed, the report showed that risks and opportunities from the dive in sterling were uneven across sectors.
For more in depth detail on the impact of the sterling depreciation on manufacturers' input costs and output prices, read the full Executive Survey 2017