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UK factory activity shrinks, prices surge in July

LONDON - British manufacturing activity fell for a third straight month in July and at the sharpest rate in almost a decade as firms struggled with record price pressures and a slump in orders, a survey showed on Friday.

The Chartered Institute of Purchasing and Supply/Markit purchasing managers' index fell to 44.3 last month from 45.9 in June, below forecasts for a reading of 45.5 and the weakest reading since December 1998.

Any reading below 50.0 indicates contraction, while a score above 50.0 points to growth.

The figures stoked fears that Britain is teetering on the edge of its first recession -- at least two quarters of contraction -- since the early 1990s.

"Yet more really horrible news on the economy, and contraction in the third quarter is looking ever more probable," said Howard Archer, an economist at Global Insight.

The number of companies going into liquidation in the second quarter jumped 11.6 percent on the quarter and 15 percent on the year, official figures showed on Friday, in a further sign that the credit crunch is hitting the economy hard.

House prices are also slumping at their fastest annual rate since at least 1991 and consumer confidence is at a record low.

Recent data from CIPS, which also surveys the dominant services sector and the faltering construction sector, indicate a contraction in the economy is well under way.

But record price pressures in the manufacturing sector are also likely to keep hopes for lower interest rates in check.

Bank of England policymakers are grappling with the strongest inflation rate -- 3.8 percent -- they have faced since the central bank was given the power to set interest rates in 1997. Inflation could soon even hit 5 percent.

If they meet the inflation threat head-on and hike rates, the economy could dive into a protracted recession and inflation could end up markedly lower than the central bank's two percent target.

Lowering borrowing costs could rekindle economic growth but end up keeping inflation well above its target for long enough to question the central bank's price-fighting resolve.

Most economists agree that doing nothing seems to be the best bet for policymakers now, but that could lead to future criticism if either inflation or growth were to suddenly deteriorate.

Inflation threat

News on inflation has not been good in the last week.

Gas and electricity suppliers have been ramping up their prices and CIPS said manufacturers' costs and the prices they charge their customers were rising at the swiftest pace since the series began as fuel and raw materials costs soar.

The input price index, which dates back to January 1992, edged up to a record 82.4 last month from 82.1 in June. The output price index, which runs back to November 1999, picked up to a record 63.1 from 62.6.

"Factory gate prices have now increased throughout the past three years," the report said.

Weaker sterling has made importing some raw materials more expensive but does not appear to be lending much support to demand for British goods overseas.

Export orders fell at their fastest rate since December 2001 and overall new orders declined for a seventh consecutive month and at the sharpest pace since November 1998.

"Deteriorating economic conditions, both at home and abroad, was the main factor depressing the sales of UK manufacturers," the report said.

Declining activity is taking its toll on the job market, with the employment index showing a fourth consecutive month of falls in jobs and the lowest reading since December 2001.