Confidence among British consumers was at its highest in May since January 2000, according to the latest monthly poll for the European Commission. Expectations about the future economic climate rose two points during the month, six points up on the same time last year. A separate index which measures consumer attitudes to the benefits of making major purchases fell by one point, although it was five points higher than in May 2001.

But the fall in world equity prices, in response to past excessively high valuations, threatens consumer confidence, and could hamper economic recovery.

News from the nation’s high streets is already mixed. Official figures pointed to soaring sales in April, with growth at its strongest for more than two years, but were followed by the first fall in demand this year during May. The latest survey by the CBI, which covering trading in May, suggests that demand slowed significantly and signals the start of a slowdown in underlying growth. However, retailers are expecting “reasonably robust sales in June, but not a return to recent boom conditions”.

The CBI says that sales by furniture and carpet retailers continued to grow strongly in May, with year-on-year volume gains reported by one in three businesses – albeit down from one in two the previous month.

According to a new economic forecast from the CBI, overall consumer spending will continue to grow, but – at 2.4% this year and 2.1% in 2003, compared with 3.9% last year – more slowly. A big uncertainty in predicting consumer spending is the housing market, which drives demand for a wide range of household goods.

House prices continue to defy expectations of a return to a more sustainable rate of increase, and the longer the boom goes on the greater the concern over a possible bust. Analysts argue that an increase in interest rates to between 5-5.5% will not hit the housing market too hard. But a steep fall in the value of sterling, or a sharp rise in inflation, would trigger a much sharper interest rate hike.

On underlying retail price inflation the CBI forecasts a rise of 2.2% by the fourth quarter of 2002 followed by a 2.3% increase by the end of 2003. Average factory gate prices are expected to fall by 0.4% over the year to the fourth quarter of 2002 and by 0.2% 12 months later.

Retail price inflation fell to 1.1% in May, while the rate excluding mortgage interest was 1.8%, down from 2.3% in April. Shop prices of furniture rose by 2.4% in the year to May. UK manufacturers’ prices increased by 0.1% in the year to May, with the cost of wood and wood products up 0.2% on the month and by 0.4% over the year.

Earnings in manufacturing were up 4% in the year to April, from 3.5% in March. The Engineering Employers Federation says that pay settlements in engineering and manufacturing have fallen to the lowest level since 1984. In April, settlements averaged 1.8%, and in the latest quarter the figure was 2%. This compares with 2.2% in the three months to the end of March.

Official figures on manufacturing indicate that most sectors recovered during April. Output rose overall by 0.8% but was 4.4% lower than a year earlier. Output from sawmills fell 5.8% over the year but domestic furniture production increased by 3.3% at the annual rate, while factory sales of builders’ carpentry were up 6.9%.

Activity in all sectors of construction expanded during May, although the Chartered Institute of Purchasing and Supply says the strongest rise was in housing. Official figures point to a 7% rise in new house starts between the two latest three-month periods to April. New housebuilding orders placed with contractors rose in value by 10% between the two latest quarters, while total new construction orders expanded by 20%.