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Demand in the services sector picked up a little in the three months to February - read the CBI’s latest quarterly Service Sector Survey.

In both sub-sectors, rising costs are expected to feed through to the fastest increase in prices for a decade.

Business and professional services firms – which include accountancy, legal and marketing firms – reported that business volumes were flat, while consumer services companies – which include hotels, bars, restaurants, travel, leisure – saw volumes pick up at the fastest pace since August 2015. Similar trends are expected next quarter.

Reflecting this, optimism among consumer services firms rose for the first time since May 2016, while sentiment stabilised in business and professional services, having deteriorated during the previous two quarters.

Rising costs are putting pressure on prices and margins across the services sector. Business and professional services firms reported that average selling prices rose for the third consecutive quarter, with prices expected to rise at the fastest pace since February 2007 over the coming three months. Increases in average selling prices are also expected to accelerate in consumer services next quarter, with firms expecting the sharpest increases since February 2008. Despite higher prices, profitability is expected to decline in both sub-sectors next quarter.

Rain Newton-Smith, CBI Chief Economist, said:

“The service sector is ticking along with business volumes holding up this quarter and a less pessimistic outlook on the office and shop floor than in recent months.

“Firms anticipate increasing pressure on margins over the next quarter, with the strongest expectations for price growth in ten years, making the business environment that bit tougher.

“As a first step towards easing the Business Rate burden, the Chancellor should use next month’s Budget to bring forward the switch from Retail Price Index (RPI) to Consumer Price Index (CPI) uprating to 2018/19.”

Headcount continued to expand across the service sector, although in consumer services firms’ expectations of hiring next quarter were the weakest since August 2015. Meanwhile, capital expenditure is expected to hold up over the year ahead in both sectors, with investment in land and buildings, IT, and vehicles, plant and machinery expected to increase at rates in line with long-run averages.

Overall, a clear majority of business and professional services firms expect to expand their business in the year ahead, with the net balance of opinion the highest since May 2015. In contrast, expectations for business expansion among consumer services firms were the most negative since May 2012, with a majority saying they did not expect to expand their business.

Key findings:

Business and professional services

• Optimism about the business situation stabilised (-1%) following three quarters of negative sentiment
• The volume of business was flat over the quarter (+1%), with 24% of firms reporting they were up compared with the previous quarter, and 23% saying they were down. Volumes are expected to rise modestly over the coming quarter (+4%)
• Growth in average selling prices picked up over the quarter to February – with a balance of +14%. Expectations for the next three months (+18%) are the highest since February 2007 (+21%)
• Total costs per person continued to rise (+34%, up from +28% in the previous quarter)
• 26% of firms said the overall profitability of business was up on the previous quarter, and 29% said it was down, giving a balance of -3%
• 25% of businesses said numbers employed were up on three months ago, and 16% said they were down, giving a balance of +9%
• Investment intentions for the year ahead were unchanged for land and buildings (0%) and vehicles, plant and machinery (-1%), while capital expenditure on IT is still expected to rise at a robust pace (+21%)
• Businesses cite uncertainty about demand/sales as the factor most likely to limit capital expenditure (58%)
• 62% of firms said they expected to expand their business over the year ahead, and 37% said they did not, giving a balance of +25%, the highest since May 2015 (+28%).

Consumer services

• Optimism about the business situation improved (+7%) – after two quarters of deteriorating sentiment – 20% of firms said they were more optimistic than three months ago, whilst 13% said they were less optimistic
• 43% of firms reported a rise in business volumes, compared with 10% saying they were down in the last three months, giving a balance of +33%, the highest since August 2015 (+33%)
• Average selling prices rose (+19%) and firms expect prices to rise (+42%) at the fastest pace since February 2008 (+45%) next quarter
• Growth in costs per person eased a little (+32, from +49 in the previous quarter), but is expected to accelerate over the next three months (+52%)
• Profitability declined in February (-8%), but by less sharply than in the previous quarter (-15%). Profitability is expected to fall at a faster pace next quarter (-11%)
• Growth in numbers employed was strong (+25%) but is expected to ease in the next three months (+8%)
• Capital expenditure is expected to increase across all three categories over the coming 12 months – land and buildings (+4%), IT (+21%) and vehicles, plant and machinery (+7%)
• Replacement was the main reason being cited by firms for boosting capital expenditure over the next year (52%)
• 40% of firms said they expected to expand their business, and 58% said they did not, giving a balance of -18%, the lowest since May 2012 (-18%).