SME’s seem to be increasingly reluctant to invest. This seems especially true when SME’s are compaired to large businesses. Besides the well known direct Brexit risks, there might be an indirect Brexit risk: low future consumption demand.
UK businesses are currently more reluctant to invest, especially SME businesses. The latest information on loans (related to, but not equal to, investment) show an increasing divergence between the growth rate in loans to SME’s and large businesses:
As the relation between loans and investment are not direct, it is always hard to interpret these figures, but I do believe that especially SME’s have every reason to reluctant to invest. At this moment, it are not just the direct Brexit risks that I am worried about. At this point, future consumption demand is an additional risk, especially for SME’s, as they are more sensitive to cyclical swings.
Future demand is important for an entrepreneur’s investment decision. When he expects future demand to be larger, he will be willing to invest more. Bussière, Ferrara and Milovich (2015) found that depressed expected future demand explained more than 75% of the fall in investment in OECD countries since the GFC.
And future demand is for a large part dependent on real income. And income in the UK is not looking good:
The graph shows that real average earnings in the UK have been negative in the first part of 2017. A drop in the pound, and with that a higher inflation rate, has depressed living standards in the UK. However, people do not seem to consume less because of the drop in real earnings, as the savings rate has dropped to a historical low:
What seems to be going on – in my view – is that consumers are in a process of adaption to the new situation. It seems to me that consumers are still buying the same amount of goods that they used to buy, but they are just paying more for their basket of goods then they did before. This results in a lower savings rate.
And it is not just the low savings rate that is worrying, as the Bank of England recently mentioned that household debt is surging quickly at this moment:
Such a low savings rate, combined with a worrying increase in household debt, make me wonder whether this amount of consumption is stable. With this in mind, I can understand why SME’s are increasingly reluctant to invest.