Margins in danger as manufacturers' costs rise at fastest rate in four years

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MANUFACTURERS' COSTS are rising at the fastest rate in more than four years, according to official figures yesterday. The cost pressures are feeding through to prices charged at the factory gate, but analysts warned the main effect would be a squeeze on profit margins.

"These figures do not torpedo the view that low inflation can be sustained. But obviously some margins are coming under pressure," said David Owen, UK economist at Dresdner Kleinwort Benson.

Higher oil prices were the main culprit behind a 1.7 per cent surge in producers' input prices in November. Oil accounts for about a 10th of raw materials costs in manufacturing.

The oil price jumped 10 per cent during the month. It has gained 123 per cent in the past 12 months, the biggest proportionate year-on-year increase since the records began a quarter of a century ago. Other commodities also rose in price last month.

Higher costs took the annual rate of increase in input prices up to 9.1 per cent, the fastest since September 1995. It would have been even higher if not for the strength of the pound, which edged up again yesterday.

Inflation at the factory gate picked up to 2.1 per cent in November, from 1.9 per cent. Underlying output prices, which exclude the volatile oil price as well as food, drink and tobacco prices, rose 0.1 per cent in November and 0.2 per cent year on year. This was the first time the annual rate had been positive since June 1998.

Economists were divided about the extent to which accelerating producer prices would be passed on ultimately to consumers. There has been some offset from slower growth in unit labour costs, the main component of costs in industry.

Manufacturers generally take two months or more to pass higher input costs on at the factory gate, and recent surveys have indicated that more of them plan to raise the prices they charge. January will be a key month as many list prices are raised in the New Year.

Price pressures may be strengthening in services too, according to recent surveys. Yesterday the Confederation of British Industry's survey of services firms showed a pick-up in business volumes during the past three months, especially in professional services companies.

Optimism has risen sharply, and earlier downward pressure on prices has eased. Respondents expected prices to stay broadly flat for the next three months, rather than falling.

All analysts agreed that profit margins will be tighter in industry and in retailing alike. John O'Sullivan, UK economist at Greenwich NatWest, said: "Competitive pressures have drifted downstream. Manufacturers were under intense pressure to cut profits earlier in the year... Now it's retailers' turn."

The Monetary Policy Committee is expected to raise interest rates again from their current level of 5.5 per cent, but not until February or March. "The benign inflation outlook means base rates should peak at 6 per cent by mid-2000," said Richard Iley at ABN-Amro.

Figures on consumer price inflation due today, earnings and unemployment tomorrow and retail sales on Wednesday will give further clues to the likely path of interest rates. The MPC is expected to wait until well past the New Year, though, in case of any seasonal peculiarities arising from the long holiday and potential Millennium Bug problems.