What does ‘Confidence’ mean when talking business? And why does it matter?

Confidence: we’re not talking here about standing up to make a speech, rather about business confidence and consumer confidence. Over the last 12 months we’ve heard the terms a lot, as confidence plunged when the first lockdown was announced and then rose again as the vaccine roll-out began.

But what is confidence? And why does it matter?

If we look at business confidence first, a good example, and one that is often quoted on the financial pages, is the Purchasing Managers’ Index (PMI). So what is it? And how does it work?

The PMI is a measure of business confidence, showing whether business expects the economy and prevailing business conditions to be favourable or unfavourable.

The PMI is based on a monthly survey sent to senior executives across a broad spread of industries and asks questions about new orders, inventory levels, production, deliveries and employment. The ‘headline’ number, the one you will often see quoted, can be anywhere between 0 and 100. In ‘normal times’ it hovers around 50, with any figure above indicating that business is confident about the future, whilst a figure below 50 suggests the opposite.

To give you an example of the PMI in action, last April the PMI in the Eurozone crashed to 13.5 as the economic impact of the pandemic became apparent. The UK fared even worse, with the PMI falling to a record low of 12.3 in the services sector. Twelve months later, with the vaccine rollout gathering pace, the PMI for the UK had risen to 61.0.

As noted in the above example, you may also see PMI figures quoted for different sectors of the economy, such as manufacturing and services.

Consumer confidence has a similar numerical value, although that is expressed in plus or minus terms. In April the Consumer Confidence Index rose to minus 15, up from minus 16 in March. Although negative, that was the highest figure since March of last year, with the Index having been as low as minus 34 in May 2020.

Why is confidence important? When consumers feel confident they are more likely to spend and more likely to borrow, both of which are likely to boost the economy. A very simple example is home improvements: we are unlikely to spend the money on a new bathroom, which would benefitting the bathroom supplier and the plumber, unless we feel confident about our future prospects and employment. The search for confidence, or at least, stability, is almost certainly the reason so many people have left the hospitality sector during the last year (with many outlets now struggling to find staff to re-open).

Similarly, when businesses feel confident they will invest in both equipment and new members of staff.

Clearly any potential “third wave” of the virus would dent confidence again: that is one of the reasons why the Government is so keen to avoid any further lockdowns. It needs to rebuild not just the economy, but our confidence in the economy. Perhaps then we will start to spend the billions of pounds that we, as consumers, have saved over the past year.