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WEEKLY ECONOMIC REVIEW

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The latest CBI survey shows the proportion of manufacturers judging their stocks to be more than adequate has falle...
The latest CBI survey shows the proportion of manufacturers judging their stocks to be more than adequate has fallen again, though it remains above its long-run average. This suggests the de-stocking phase of the cycle is almost complete and might be taken as a sign that manufacturers, who cut their stocks by over £300m (1990 prices) in the second quarter will soon begin rebuilding them again.

Unfortunately, the relationship between the CBI's indicator and the actual data on manufacturing shows that, through the last 20 years, the present reading on the CBI Survey is consistent with a cut in stocks of around £500m a quarter. However, this relationship appears to have broken down in recent years and the outlook for stockbuilding may be more optimistic than this simple relationship suggests.

The 1980s was a period dominated by the introduction of 'just-in-time' stock holding, ie a shift to a new, lower, equilibrium for the level of stocks relative to output. This transition meant that manufacturers were consistently trimming the level of their stocks, especially stocks of work in progress, in absolute terms and relative to output.

However, even with 'just-in-time' methods, there is a minimum level of stock holding prudent for manufacturing, ie a new equilibrium stock:output ratio will be reached. The apparent breakdown in the relationship between stockbuilding and the CBI indicator may be telling us that this point has now been reached. Thus, in the 1980s, the desired level of stocks, relative to output was falling, so a 'normal' reading on the CBI survey was associated with a rundown in stocks relative to output. If firms have now fully shifted to 'just-in-time' practices, a 'normal' reading will be associated with a stable stock:output ratio.

There are two other reasons to believe the outlook for stockbuilding over the next year or so is not as poor as suggested by its historical relationship with the CBI survey.

First, manufacturing sales are rising sharply allowing manufacturers to shed excess stocks more quickly than they managed in 1995. If recent sales growth is sustained it will translate into rapid output growth, requiring some extra stocks to be built up if the stock:output ratio is not to fall.

Second, low interest rates and lower corporate borrowing make it easier for companies to maintain stocks at higher levels than would otherwise be the case.

Conclusions

-- Firms have almost got their stocks back to normal levels

-- Negative stockbuilding in Q3 is possible, even probable

-- The transition to 'just-in-time' stock control is largely complete, so the norm for stockbuilding in the future will be modest gains, not cuts

-- Stockbuilding should return, at worst, to close to zero in 1996Q4 or 1997Q1

-- In 1997 sustained strong manufacturing sales will mean output growing strongly, and stocks could begin to rise too, if the stock:output ratio is to remain constant

-- A recovery in manufacturing output is still expected.

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