Mounting recession fears leave markets reeling

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The Independent Online

A series of dire economic data released yesterday – from rising inflation and falling house prices to rising oil prices – sparked a mass sell-off of stocks in London as fears increased that the UK was heading for recession.

London's FTSE 100 index dropped 2.6 per cent to 5,479.9 points, its lowest in three months, initially sparked by a Purchasing Managers' Index (PMI) manufacturing survey described as "truly dreadful in every respect" by Howard Archer, chief UK and European economist at Global Insight. UK manufacturers scaled back production in June with the PMI plunging to 45.8, and the lowest since December 2001 in the aftermath of the terrorist attacks in New York.

The figures, released by the Chartered Institute of Purchasing and Supply (CIPS), showed the effects of a combination of weak demand coupled with intense cost inflationary pressure.

Roy Ayliffe, director of professional practice at CIPS, said: "After pointing to stagflation in May, purchasing managers in the UK manufacturing sector saw conditions worsen considerably in June to levels of contraction not seen since the immediate post-9/11 period." One analyst pointed out that even with stimulus from the weak pound, it looked like manufacturing was heading into recession.

Alan Clarke, a BNP Paribas economist, said the figures were "worse than expected". He continued: "Bottom line, these data underline the Bank's dilemma between diving growth prospects and surging inflation. If this is accompanied by a similar size fall in the services survey, it will at the very least increase the chances of a recession this year and may be enough to prevent the Monetary Policy Committee (MPC) from raising interest rates." The MPC meets next week to discuss potential changes to the UK interest rates. The European Central Bank meets tomorrow, with experts predicting a decision to lift rates.

Inflation fears further intensified yesterday as a survey released by Citigroup and YouGov revealed that expectations of the rate of inflation over the next 12 months had hit record highs. The survey found that the figure had risen to 4.6 per cent, the fourth month of record highs, up from 4.1 per cent in May. Yesterday's report marked the highest levels since the companies started running the survey in 2005. The beleaguered housing market took yet another hit yesterday. The average price of a house in the UK fell 6.3 per cent year-on-year to £172,415, according to the index run by the Nationwide Building Society. This marks the eighth consecutive month of falls. A Rics UK construction market survey also heaped further woe on the sector.

Martin Saunders, an analyst at Citigroup, said: "The news just goes on getting worse for the UK economy." He said that with Monday's falls in consumer confidence and mortgage approvals, followed by the falling house prices and manufacturing squeeze, "the economy is likely to head into a severe downturn, worse than the consensus expects, and with a rising risk of recession". This comes as the accountancy firm BDO Stoy Hayward will release a report today finding that business confidence in the UK has hit a 16-year low. The group said the falling confidence reflected "the deepening impact of the credit crunch, and rising food and energy prices".

To compound the falling consumer confidence, another accountant, Grant Thornton, released a survey yesterday saying that a quarter of London retailers had issued negative sales updates in the past quarter, the worst for more than three years. It added that there was little chance of the trend reversing in the near future.

The waning confidence was reflected in the spooked markets worldwide. As the FTSE fell, so too did the Dow Jones, down by more than 1 per cent in the afternoon, although it staged a late rally to close up 0.3 per cent. On the first day of trading in the new quarter, markets across Europe also fell, including the CAC 40 in Paris and the DAX in Frankfurt, not the way it would have chosen to celebrate its 20th anniversary. The falls were exacerbated by rumours of more problems in banking stocks, focusing on Lehman Brothers overnight, just weeks after it had announced its first quarterly loss as a public company. It was followed by talk of writedowns at UBS and Deutsche Bank which failed to materialise.

For the first two quarters, the FTSE 100 is down 15 per cent, the Dow off 16 per cent, the DAX has shed 22 per cent and the CAC 40 is 23 per cent lower.

Elsewhere, the International Energy Agency (IEA) saw no respite in the price of oil, which was at $143 a barrel yesterday. It said the world oil market remained tight "so the buffer is very, very narrow. So geopolitical events, speculation over accidents, strikes or whatever push prices higher". The IEA added in its medium-term oil market report that the oil price had risen off fundamental, rather than speculative, reasons. It said the price growth was rooted in strong demand for oil set against a shortage of supply.

This was compounded yesterday as King Abdullah of Saudi Arabia said oil was cheap compared with alternative energy sources, and added that a lift in production would not help to lower the price. This came as hundreds of lorry drivers convene in London today, protesting about the cost of fuel.