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A Less Sterling First Quarter


Business Outlook: BRITAIN

A LESS STERLING FIRST QUARTER

The British economy is flashing slowdown signals. Factory output, retail sales, and housing starts suggest that first-quarter economic growth will barely reach 1%, after posting a 3.8% advance in 1994. However, while last quarter's lull suggests a cooler economy this year, analysts see growth rebounding this quarter--and another interest-rate hike seems likely by midyear.

The January and February weakness in industrial production, which puts first-quarter output below the fourth quarter, looks temporary, given the vibrant tone of the latest Confederation of British Industry survey. Exports still power the expansion, while tight capacity and strong profits are boosting equipment spending. Sterling's recent decline will add more fuel to exports.

But while Corporate Britain bubbles, Household Britain remains flat. Average earnings growth, at a 3.5% annual rate in February, is modest. Higher taxes and interest rates have depressed incomes and confidence. Labor-market improvement clearly slowed in March, as unemployment fell by only 20,500. And the Apr. 6 tax hikes, which cut deductions on mortgage and marriage allowances, follow earlier hefty hikes.

A sour voter mood is hurting Prime Minister John Major's Conservative government, recently routed in Scottish local elections. Talk of tax cuts in the November budget is growing.

Still, the Treasury and the Bank of England remain committed to low inflation. The overall economy still has some slack, but price pressures are rising. Core producer prices at the factory gate in March were up 3.9% from a year ago, the fastest in 31/2 years. Unit labor costs grew faster in February. And while retailers are squeezing margins to hold down prices, retail inflation has picked up, fed by mortgage costs and taxes.

A weak-looking first quarter may not prevent a fourth rise since September in base rates, from 6.75%, as the monetary authorities stick to their 1996 goal of inflation below 2.5%. But it just might put a fifth hike on hold.


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