UK CFOs tackle twin titans: Inflation and interest rates

CFOs in the UK are facing increased uncertainty and a decline in optimism, according to the latest Deloitte CFO Survey for Q2 2023.

The survey reveals that almost half of CFO respondents now rate the levels of external financial and economic uncertainty facing their businesses as high or very high, driven by concerns over persistent price pressures and potential implications of further rate rises.

The survey, which included CFOs from 13 FTSE 100 and 21 FTSE 250 companies, found that business optimism deteriorated in the second quarter and now runs below its long-term average.

CFOs expect revenues for UK corporates to rise over the next 12 months, but a large majority expect corporate margins to continue decreasing, reflecting persistent cost pressures.

The prospect of further rate rises is now seen as the biggest risk facing businesses, surpassing concerns around geopolitics and energy prices that have dominated for the last two years.

CFOs have assigned monetary tightening the highest risk rating since its inclusion in the list of risks in 2014. Since the first quarter survey, financial market expectations for UK interest rates in 12 months’ time have risen by over 150 basis points.

CFOs’ expectations for inflation have also risen since the first quarter’s survey. They now expect inflation to fall to just 5.1% in a year’s time and settle at 3.6% in two years’ time, well above the Bank of England’s forecasts from its latest Monetary Policy Report.

For major corporates, these numbers appear to signal a more prolonged period of high inflation, with CFO expectations for inflation in two years’ time rising from 2.9% in the first quarter survey to 3.6% now.

On these forecasts, the current bout of above-target inflation, which started two years ago, has at least another two years to run.

CFOs have also raised their interest rate expectations and now expect Bank Rate to be at 4.5% in a year’s time. By contrast, at the time of writing, markets expect Bank Rate to be about 6.25% in June next year.

Between December 2009 and December 2021, UK base rates averaged 0.5%. Now, with Bank Rate at 5%, CFOs rate credit as being more expensive than at any time since the end of 2008. The availability of credit remains largely unchanged from the first quarter’s survey.

Should CFOs go on the defensive?

Despite the challenges, the survey found some positive trends.

Recruitment difficulties have eased significantly since the start of the year, and concerns around supply chain disruption and labour shortages have dropped down CFOs’ list of worries.

Regarding recruitment, CFOs expect a marginal improvement over the next 12 months and significant or severe recruitment difficulties to ease to negligible levels in two years’ time.

This is a significant shift from previous quarters where recruitment difficulties were a major concern for CFOs. This is reflected in the CFOs’ expectations for wage growth in their own businesses. They now expect wage growth to slow down over the next 12 months.

This suggests that the labour market may be starting to soften, easing the upward pressure on wages that has been a feature of the past year.

In response to these challenges, CFOs are focusing on defensive strategies, with cost reduction and increasing cash flow being their top priorities. The survey found that CFOs are now placing greater emphasis on these strategies than their long-term average.

The survey also explored CFOs’ views on hybrid working. Respondents estimated that on average, employees in their organisations who can work remotely split their time evenly between office and home.

However, 56% of CFOs believe that employees will be spending more time in the workplace in two years’ time.

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