UK Manufacturing - Why did UK output fall by 0.7% in October 2014?
Studying this year's research theme really requires students to have a solid understanding of the macroeconomic factors which affect the demand for products made by UK manufacturers. Yesterday, the ONS released the latest figures for changes in UK industrial output, which are worth spending some time on. Below I have extracted the key points of the ONS's report, and added some analysis of the reasons for the changes.
UK production of goods is divided into four main sectors: Mining & quarrying; Electricity, gas, steam & air conditioning; Water supply, sewerage & waste management.; and Manufacturing. Of these four, manufacturing is by far the greatest as it contributes 70% of all UK production. The Index of Production for October 2014 reveals the following key points:
Data for the year Oct 2013 - Oct 2014:
- Total production output is estimated to have increased by 1.1%.
- This increase reflects a rise of 1.7% in manufacturing.
- There were increases in eight of the 13 manufacturing subsectors compared with a year ago and the largest contributor was the manufacture of food products, beverages & tobacco.
Data for the month Sept 2014 - Oct 2014
- Total production in October 2014 is estimated to have decreased by 0.1% compared with September 2014.
- Manufacturing was the only one of the four main components to fall, decreasing by 0.7%; all three other sectors rose slightly
- The main manufacturing components contributing to the fall were computer, electronic & optical products; basic pharmaceutical products & pharmaceutical preparations; and chemicals & chemical products.
Comparison with pre-recession:
- In the three months to October 2014, manufacturing was 5.5% below the figures reached in the pre-downturn GDP peak in Q1 2008.
So, when forecasters had expected an increase of 0.2% in the month, why did manufacturing fall by 0.7% instead? The main sectors in which manufacturing fell in October (the second number 3 above) are the sectors in which the UK has a comparative advantage, meaning that the goods are in demand in overseas markets and so we can export them. However, there has been weaker demand in those export markets - consider the very weak growth at the moment in the EU, which is responsible for over 50% of our export demand, and think about the income elasticity of demand for those exports. UK manufacturing cannot rely on domestic demand alone to sustain the level of output; therefore, a weakening in economic growth in our main export markets will lead to less demand from them, and a reduction in output here.
Added to this, the pound has been strengthening against the euro over the last year, reaching a high of 1.28 euros to the pound during October. This means that customers in Europe need to use more euros to buy British goods (remember SPICED - Strong Pound = Imports Cheaper, Exports Dearer), which is likely to further depress demand for those goods - depending on the price elasticity of demand for them.