No Stone Unturned – this week’s report from Lord Heseltine for the Prime Minister, HMT and BIS – covers a very wide range of matters related to non-macro economic policy.  It talks about a national-to-local approach for economic development, with an emphasis on a renewed spatial (localism) and industrial (sector supporting) policy.  There is a lot to applaud.  There is also a lot of deja vu.  It is good to see some sensible ideas being brought back that were lost in 2010-11.  (It is still such a shame that the integrated expertise lost with the closure of the RDAs will be expensive and difficult to re-learn).  Essentially, it offers the potential for some real impact from localism by re-recognising the imbalance of economic performance between London and the rest of our places.

The report recommends changes to central government organisation for development, including merging of existing functions and funding into a “Single Pot” for local development.  (This pot is estimated at £49 billion, taking £17bn from/for skills, £15bn from/for infrastructure, and other billions for employment and business support, housing, innovation and commercialisation).

Locally, Heseltine advocates a rationalisation of local government into a universal unitary system with a stronger responsibility for local economic development.  It also suggests greater capacity and funding for Local Enterprise Partnerships (LEPs) but, recognising their variable performance to date, it also suggests a review of ‘borders’.  This seems to infer mergers into more sensible functional economic areas that can bid to the new ‘single pot’.  Competition for funding is expected to drive investment ideas to a higher level of local impact.  A requirement will be a good Strategic Plan and state of the art evaluation.  (Strategic Economics can help with those!).

Finally, the ‘No Stone Unturned’ report talks about Local Growth Teams in government (Government Offices reborn?) and wants a bigger role for Chambers of Commerce.  It has an interesting time line too, with much to be done over the next few months and through to 2014.  It will be interesting to see which of the 89 recommendations the government accepts and, importantly, implements.  If it ends up with a permanent but flexible development structure that is focussed on the long-term competitiveness of our businesses and places, this economist will shout a huge “hurrah”.  In the short term, please excuse my scepticism.

In a previous part of my career, I worked as an industrial economist for one of the clearing banks.  At one time, I was an expert on the food and drink industries and later, I was responsible for the motors and transport industries – across the world.  In those days, I supported the corporate bankers who were, themselves, experts on the banking needs of particular industries.  They had close relationships with the ‘primes’ and other companies across each sector.  In turn, this was supported by the regional branch network where the managers knew local companies well.  This was a successful and profitable model based on ‘relationship banking’.

After ‘Big Bang’ in 1987 and the gradual merger of investment and corporate banking, the world of UK banking changed.  Initially, the ‘deal-based’ banking of the investment bank was often unprofitable.  Tying it in with the very profitable corporate bank made investment banking viable.  The irony was that the deal culture of (American) investment bankers steadily took over from the relationship culture of (UK) banking and, thereby, destroyed an important conduit of credit and growth for UK businesses.

The ‘credit crunch’ has shown us the result of this folly.  Contrast it with the federal, integrated ‘mittelstand’ approach to banking still prevalent in Germany.  With the state effectively owning RBS and Lloyds, the opportunity to restore a corporate banking structure based on local relationships is clear.  Come on Osborne, Cable and Balls, get together to create regional corporate banks that establish a relationship between local wealth/investors and local exporting/growing businesses and locally expert bankers motivated by earning returns on successful real local investment.

A SW bank for a SW economy would start to get us out of this mess.

This week, I have been on the road with the BBC (see Points West – next three Tuesdays) gauging the opinion of businesses across the West of England.  The context was the fall in UK real GDP in the April-June period, confirming three quarters of renewed recession – a deep double dip.

First, I talked to customers and owners at a builders’ merchants in Glastonbury.  These, by definition, were the guys who have work rather than those that have been laid off. Therefore, they were more positive than the 5.2% drop in UK construction might suggest.  The negatives they mentioned were the ever increasing costs of materials, high rates of VAT and National Insurance, the lack of credit from banks (for themselves and customers), and the intense competition when tendering in the market.  They said that profits are harder to secure but there is work out there.  The positives discussed were that Somerset residents are willing to spend on repair and maintenance, extensions and other refits; at least those with cash who do not need to borrow.  The market for smaller builders is not bad.  The problem is in the larger developments and major housing developments.  Those markets are dead.  This picture fits well what is revealed by the detailed statistics on construction below the headline GDP measure.  Outside London, big infrastructure and other projects are scare but repairs and maintenance, and the ever expanding supermarkets, are still relatively buoyant.

Second, in Bristol, I met some accountants and business advisers in a couple of major local firms.  They represented the large “office worker” community in business and financial services sector in the city.  The GDP release showed this to have grown, by just 0.1% in the second quarter.  The “advisers” were more candid than I expected, recognising that their business is held up better than most by the regulatory need for all businesses, in good times or bad, to pay tax, provide accounts and meet other statutory requirements.  There are fewer major deals out there and many that exist are for distress and restructuring rather than growth.  Business services often get wind of a recovery fairly early as property and ownership deals that will see the light of day some time from now should start to be planned and discussed today.  Currently, this light at the end of the tunnel is not apparent.  One of the discussants saw at least two more lean years ahead.

Third, I went to Swindon, where there is a marked contrast between some major national and multinational corporates doing well, (although even Honda announced some production cuts whilst I was there). and a number of boarded-up shops and outlets in parts of the town centre.  There, I met some long-established retailers with interesting opinions about the mood of consumers.  To summarise, they felt they were doing relatively well in very competitive market conditions because they had lived through recessions before.  They had re-focussed on “quality products and service offering customer value” and had, thereby, retained customer loyalty.  The top-end of the retail market is still strong, because real earnings for households in that bracket are still growing, whereas the bottom-end, affected most by the lack of discretionary spending, is weak.  The main problem, however, is in the broad “squeezed middle” where the retail market has moved towards “value niches” and away from “commodity” goods.

So, what do we conclude?  For policy makers, all three sectors talked about the need to reduce the burden on business, especially with respect to the costs of taking on new staff.  All mentioned access to credit, taxes (VAT and National Insurance), and “red-tape” as a current restraint on growth.  All believed the state needs to get out of the way of business and growth, but recognised the damaging effect on confidence caused by the uncertain macro environment.  From the eurozone crisis to the austerity debate, there is a need for leadership.

This is a SW economy still in a long transition from unsustainable boom to limited recovery.  The downturn is deep and long and business people in these three areas of the economy do not see an end to it soon.  Against this background, there is no alternative to controlling costs, focussing products and services on quality and value, and investing carefully in staff.  I came away optimistic for the long run, because good SW businesses are taking the right steps to capture the opportunities of the prolonged downturn, but pessimistic for the short run, because the prospects for demand remain bleak for many.

Further to last week’s post, we have received some very mixed signals over the last seven days.  a) Stock markets in retreat as Spain’s banking system  takes the heat.  b) Some bad manufacturing PMI readings for May both in Euro-zone and the UK.  c) Some degree of bounce in business confidence despite consumer reticence.

For example, the latest ICAEW business survey for Q2 2012 revealed a remarkable turnaround in SW business confidence, swinging from a big negative to a sizeable positive despite Europe’s travails.  If sustained, this augurs well for the second half of 2012.  Business confidence reached its highest rating since Q3 2010 and could be interpreted as meaning the ‘double dip’ recession is already over.  Sales volumes grew faster than any time in the downturn so far.

The question is whether overseas risks provide further negative shocks and domestic consumers respond to business optimism and summer parties (Diamond Jubilee, soccer championship in Europe and London Olympics).  The ICAEW survey shows businesses still hesitant about final demand.  So, the great unknowns – will these summer events be positive and more than temporary and will the euro-zone re-construct without severe disruption?

There is a bit of a contrast going on in terms of economic evidence.  The numbers for the UK/SW economy are all pretty bad – falling real GDP, weaker retail sales, declining construction, manufacturing production still well below previous peaks, and unemployment high and expected to go higher.  Similarly, the mood music is worrying – euro-zone debt crises, falling stock markets, a lack of credit for business, modest investment and hiring intentions and ineffective stabilisation policies.

At the same time, some of the surveys and anecdotal evidence speak to a better reality.  Several times recently business people have said to me that “it’s better out there than it’s painted in the media”.  Businesses have orders and are actively improving their efficiency and chasing new markets.  There is still demand for skilled and productive workers.

My conclusion is that both views are right.  The aggregate economy is not in a good place and will remain weak for the foreseeable future.  Businesses dependent on discretionary spending by consumers and government and the deficit countries of Europe face a difficult outlook.  Nevertheless, some businesses, though not yet enough, are seeing an improvement from the previous few years, perhaps not yet back to pre-(first) recession but there is an advance on short term memory and experience in some sectors, especially those selling high value products or services into buoyant export markets.

So, what next?  No one has ever been able to predict a turning point in confidence that leads to sustained recovery.  We could be there now.  Perhaps, the summer’s enthusiasm for anniversaries and sports will help.  On the other hand, the risks of further knocks from the external environment remain very high.  In the end, SW businesses and communities will turn when the balance of aspiration moves towards action, locally and internationally: action to learn, change and exchange.  Trade creates value, jobs and growth.  Trade needs confidence about the future.  Unfortunately, it will be many, many months before we’ll know whether the turning point was, indeed, summer 2012.

How are companies in SW England fairing in this prolonged downturn?  At one level, this is a silly question.  There is no such thing as an average SW business that can characterise the experience of them all.  I would, however, make three broad generalisations.

First, there are the large multinational businesses operating in world markets.  Many of these, especially manufacturing exporters, faced a difficult time in the second half of 2008 and 2009 but recovered relatively well in 2010 and the first half of 2011, following an exaggerated stock cycle.  Selling valued, niche or differentiated products and services to solid overseas markets has served them well and will do again in 2012.

Second, there are a range of non-prime suppliers to business who have experienced mixed fortunes: the ‘commodity’ producers finding it tough to compete with lower cost rivals, despite a sterling exchange rate advantage, versus the ‘bespoke’ suppliers of services and goods still in demand and more favoured by shifts in some cost/market differentials.  Some of the latter will come out stronger and growing in 2012 whilst some of the former will disappear.

Third, there are the more local, sub-regional businesses, mostly dependent on domestic demand from UK households and the state, especially in the central and peninsula parts of the South West.  In the early stages, these businesses, such as in tourism, were relatively unaffected, even supported, by the switching of demand to more local suppliers.  As the downturn has wound on, however, with consumers under greater financial pressure and the public sector curtailing spending growth, these areas have come under more pressure, particularly those providing discretionary items and services.  For these, 2012 may be the worst year yet of this cycle.

To an extent, these three images of business reflect the ‘normal’ process of adjustment through a downturn as some of the less competitive, surplus capacity built up during the ‘boom’ is reduced and resources are allocated to the more efficient and competitive.  The problem, of course, is the depth and length of this downturn, exposing many more than usual to the need for re-adjustment.  In the end, as always, the innovative, the skilled and the entrepreneurial are more likely to survive and prosper: those with good, desired products and services; those flexible in adopting new processes and approaching new markets; and those with a clear strategy for growth.  It was ever thus.