CBM survey finds gradual improvement in business sentiment

According to the Central Bank of Malta’s latest business perceptions survey, there has been a cautious improvement in sentiment among the business players responding to the survey.

As such a number of sectors, including electronics, shifted their outlook from negative to positive, while others moderated their pessimism.

The Bank explains that the change in sentiment reflected the fact that the widespread fears of a dramatic global slowdown expressed in the immediate aftermath of the terrorist attacks on the United States - when the previous survey was conducted - did not materialise.

Furthermore, during the fourth quarter of 2001 export-oriented firms performed better than originally anticipated. Partly as a result of the adverse effects on external demand of the international environment, however, domestically-oriented firms still faced weak demand.

Business sentiment and short-term expectations

The Bank’s business sentiment index swung back into positive territory in the first quarter of 2000 and the Bank believes it may be partly a correction to the excessive pessimism that followed the 11 September events.

Nevertheless, the positive balance of replies, coming after three large negative balances, suggests that respondents expect the economy to resume growth after last year’s slowdown. There still remains, however, a degree of uncertainty over the magnitude and timing of the recovery.

In fact, the Bank explains that many firms intended to wait for more concrete signs of improvement in foreign and local economic conditions before undertaking new investment projects. This may itself retard growth and limit the creation of new jobs in the short term, a view shared by many respondents.

Activity levels – Q4 2001

Export-oriented sectors

Global economic conditions remained weak during the December quarter of 2001, but were somewhat better than original post-11 September forecasts had indicated. As a result, the downturn in export performance was less pronounced than originally feared. Furthermore, performance was broadly similar across the major sectors, and drops in sales and profitability were more contained. On the other hand, firms not only adhered to their original plans to reduce inventory levels, but did so to a larger extent than originally envisaged. Still, export-oriented firms absorbed the temporary external demand shock without reducing employment levels significantly.

According to their projections, the first quarter of 2002 is not likely to differ significantly from the previous one. Pressures on sales and profits are expected to persist, while the process of inventory reduction is also set to continue. As a result, firms are again not excluding possible layoffs, particularly if the international economic recovery were to be delayed much further.

During the final quarter of 2001 the export sector continued to operate significantly below normal activity levels. However, the Bank found that, divergent patterns emerged. Manufacturing firms, particularly in the clothing and footwear and the "other manufacturing" sub-sectors, faced a further small drop in activity, but respondents from the tourism sector reported a less negative out-turn compared with the previous quarter.

Local-oriented sectors

The adverse repercussions of the global economic slowdown also affected the local business climate towards the end of 2001. Thus, domestic sales remained subdued, and this impacted negatively on profits. Survey replies showed disappointing performances, particularly among firms in the food and beverages, finance and insurance and travel sectors, though these were partly compensated for by the better results reported by some other manufacturing sectors.

Nevertheless, the generally subdued activity resulted in a number of job losses, and firms were not expecting any major turn around in the short run. They remained concerned that pressures on sales and profits could persist. However, the desire by some firms, mainly in the food and beverages sector and in the wholesale trade, to rebuild stock levels in anticipation of a recovery may explain why some respondents intended to increase their labour complement.

During the December quarter of 2001 all locally-oriented sectors continued to operate at below-normal levels of activity. Adverse conditions continued to impact negatively upon firms in both manufacturing and the distributive trades. Indeed, survey results also showed a decline in construction activity, though this probably reflected the non-participation in the survey of a leading firm within the sector.

Meanwhile, activity in the locally-oriented services sector, namely finance, insurance and industrial services, also declined.

The Bank’s Review also explains the Bank’s decision to ease its monetary policy further during the December quarter. Thus, in October it lowered the required reserve ratio by one percentage point to 4%, whereas in November it cut official interest rates by 25 basis points to 4.25%. In January the Bank eased its monetary stance even further, cutting official interest rates to 4%.

The Review notes that this monetary policy stance was consonant with the persistent uncertainty in the global economy. It observes that although during the December quarter the United States economy registered the strongest quarterly growth rate of the year, growth in the euro area slowed down slightly and the Japanese economy remained in recession. Against this background, major central banks cut interest rates on a number of occasions. At the same time, foreign exchange markets were characterised by the US dollar’s rebound against the other major currencies, a fact that was reflected in the Maltese lira’s easing against the dollar and sterling and its concomitant appreciation against the euro.

Domestic economic developments were also compatible with an easing of monetary policy. In fact, during the December quarter Gross Domestic Product (GDP) contracted by 2.9% in real terms, as the economy was hit by the global downturn and the effect of the September 11 terrorist attack in the US. This was reflected in a further decline in exports of electronic components and a sharp drop in tourist arrivals. Private consumption also declined as households cut expenditure on non-essential goods and services, and the rate of the registered unemployed rose to 5.1%. This notwithstanding, retail price inflation edged up to 2.9%, mainly reflecting higher fuel prices following the liberalisation of such prices announced in the latest Budget.

Turning to developments in the balance of payments, the Review notes that the current account deficit narrowed considerably in the fourth quarter when compared with the same period of the previous year. This improvement occurred mainly in the investment income account, though a narrower merchandise trade gap and higher net receipts from services also contributed. At the same time, larger net inflows on the capital and financial account led to an overall balance-of-payments surplus. As a result, the Bank’s net foreign assets rose by Lm71.6 million during the quarter.

As regards Government finance, the Review observes that, mainly as a result of a substantial increase in revenue, the fiscal deficit narrowed to Lm4.3 million during the last quarter of 2001. For the twelve months to December the level of the deficit remained almost unchanged at just over Lm85 million, but the deficit/GDP ratio dropped to 5.3% from 5.5% in the preceding year.

The Review then proceeds to analyse domestic monetary developments. It notes that broad money expanded strongly during the final quarter of 2001, as the private sector continued to build up its holdings of savings and time deposits. This expansion was almost completely matched by the increase in the Bank’s external reserves. In contrast, domestic credit contracted slightly, while short-term interest rates fell. In the capital market, meanwhile, Government bond yields also eased and the decline in equity prices appeared to have been stemmed.

An expansion in bank deposits caused the deposit money banks’ aggregate balance sheet to expand by Lm54.6 million during the quarter. Moreover, although profits before tax were lower than in the September quarter, the banks strengthened their capital base and their liquidity position remained comfortably above the mandatory limits. At the same time, following three successive quarterly contractions, the aggregate balance sheet of the international banks expanded during the final quarter of the year.

The March 2002 issue of the Quarterly Review is available on the website of the Central Bank of Malta at www.centralbankmalta.com.