CBI Survey Unveils Continued Disruption To Business Activity Due To Credit Crunch Crisis

BY Jason Gorringe, Tax-News.com, London

01 July 2008

The impact of the credit crunch on the UK financial services industry has worsened over the past quarter, as profitability fell at a record pace and business volumes fell at the fastest rate in 17 years, a new CBI survey revealed on Monday.

The latest Financial Services Survey from the CBI and PricewaterhouseCoopers LLP also showed that credit remains expensive and in short supply with the gap between lending and borrowing rates widening more than at any time in the survey's history.

Job cuts have continued and business has been lost across all customer bases. Although the credit crunch has already been underway for ten months, nine out of ten firms (91%) think it will take more than six months for market conditions to return to normal.

Asked about business volume trends in the three months to early June, 20% of firms said they had risen, while 55% said they had decreased. The resulting balance of -35% was in line with expectations, but was the weakest result since March 1991 (-44%). The outlook for the coming three months is bleaker still, with a balance of 44% expecting business volumes to fall.

Financial services firms had expected profitability in the sector to remain stable but instead it dived sharply, with a balance of 44% reporting a fall, compared with 18% in March.

This is the fastest rate of decline in profitability since the survey began in late 1989, and another heavy fall is anticipated over the next quarter.

In the last three months the value of fee, commission and premium incomes and incomes from net interest, investment or trading both fell for the third consecutive quarter, but at slower rates than reported in March. Over the coming three months firms expect further falls at similar rates to this quarter.

Concern about the cost of finance as a constraint to investment edged higher to a new record high (26%), while worries that the ability to raise funds might limit business in the year ahead fell back slightly from the survey high in March (40% down to 32%).

Ian McCafferty, CBI Chief Economic Adviser, commented:

"The impact of the credit crunch on financial services has deepened over the last three months, and conditions look set to remain difficult for some time yet.

"Although credit markets have been somewhat calmer of late, the interbank lending system is still looking gummed up, and spreads have widened more than at any time in the past eighteen years.

"Profitability in the sector is being badly hit, so firms are trying hard to trim costs by planning to cut back on training and marketing for the first time in a number of years.

"The problems of the financial sector will echo throughout the wider economy and will drag economic growth down this year and next."

Banks raised the spread between borrowing and lending costs by a record degree, yet still saw a further deterioration in their profitability as a result of falls in the volume of business and a rise in the value of non-performing loans.

These trends are expected to continue next quarter, though spread widening will be slightly less severe. Numbers employed fell further, and banks also plan to spend less on marketing in the year ahead than they did last year.

Business volumes rose in the past three months against expectations and are expected to hold steady in the coming quarter.

However, profitability fell on the back of lower fee & commission incomes and a rise in the value of non-performing loans. Employment fell for the first time in a decade, while investment intentions are largely positive.

John Hitchins, UK banking leader, PricewaterhouseCoopers LLP, explained:

"Banks have made their gloomiest profitability prediction since 1994 and sentiment in the sector has fallen the most sharply since 1998. Volumes of business are declining faster than expected and economic worries are broadening from the retail arena to include the commercial sector. Asset writedowns continue to impact profitability. Although the outlook for employment remains negative, investment budgets have stabilised and growth in compliance costs is seen as slowing to a more manageable pace."

Business volumes fell at their fastest rate since the survey began and are forecast to fall very rapidly again in the next three months. The fall in volumes was concentrated in business with private individuals, but did not spread as feared to companies and financial institutions. Average spreads increased at their fastest rate since the survey began and total operating costs fell for a fourth successive survey.

However, lower income values and business volumes still resulted in a sharp fall in profitability – the strongest in the survey history.

Fee & commission income was up, although profitability was sharply lower. This mainly reflected a steep increase in total operating costs and further investment in staff and staff training. Marketing expenditure is expected to be sharply increased over the next twelve months.

Robert Mellor, UK financial services tax leader, PricewaterhouseCoopers LLP, concluded:

"Securities traders' confidence has declined further. They tend to be one of the industry's most pessimistic sectors in their assessment of financial market conditions and also one of the most concerned about the impact of falling revenues on their business. Although the secondary markets are busy, including derivatives and commodities, securities traders are increasingly focused on recalibrating their cost bases for a lower volume world and the share of respondents reporting cuts in total operating costs is the highest since 2002

"Despite a successful quarter of asset gathering, predominantly with foreign customers, and healthy activity over the past three months, fund managers' profitability is under pressure. However, the sector remains upbeat in its plans for increased headcount and higher marketing expenditure."

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