China slowdown hits UK business confidence

The latest Deloitte survey of UK Chief Financial Officers released this morning shows that weakness in emerging economies and equity markets has hit business confidence.

CFOs' perceptions of external financial and economic uncertainty have seen the sharpest rise since we first asked this question five years ago. Emerging markets now rank joint second, together with concerns about euro area growth, on CFOs' list of worries. 60% of CFOs said that the slowdown in China will have a negative effect on their business in the next twelve months.

The proportion of CFOs who think now is a good time to take risk has dropped to 46%, down from 59% in the second quarter and a peak of 72% a year ago. Rising risk aversion is feeding into a more defensive stance on the part of major corporates, with a greater focus on cost reduction and rather less on investment.

The recent, more emollient tone from Western Central banks does not seem to have reassured CFOs. They rate the prospect of a tightening of monetary policy in Britain and the US as the greatest risk facing their business. From the Bank of England's point of view this may be the worst of both worlds - a corporate sector which is worried both about slower global growth and about the prospect of higher interest rates.

Sentiment among large businesses is changeable and influenced by the global environment, especially by news flow and the performance of equity markets. In both areas good news has been in short supply: UK equities down 16% from their April peaks; US institutional investor optimism at 2009 levels; financial market volatility up sharply and more downgrades to emerging market growth forecasts.

While external risks are centre stage, CFOs are positive on prospects for the UK economy. CFOs rate uncertainty and emerging market weakness as constraints on investment but see the state of the UK economy as lending investment significant support.

The UK's recovery from recession has been punctuated by a series of external shocks, of which weakness in emerging markets is the latest. A strong pound and weaker demand in emerging markets are dimming prospects for an export-led recovery - and putting greater weight on domestic demand to drive UK growth.