Interest rate hikes may finally be taking their toll on UK businesses, a survey showed today.

Output expectations among companies have dipped for the first time in more than a year following two rate rises in as many months, according to the latest BDO Stoy Hayward Business Trends report.

The BDO output index is now at its lowest level so far this year and reflects a drop in orders as interest rate rises cause consumers and businesses alike to rein in spending, BDO said.

The dip in performance expectations indicates that the rate of economic expansion could be slowing, BDO said.

However, with business optimism hitting a seven-year high, growth should still remain healthy over the next nine months, it added.

Chris Grove, partner at BDO Stoy Hayward said inflationary pressures were running high, meaning a rate rise later this week is a near certainty.

"We could also see rises in September or October unless there is stronger evidence of a cooling housing market," he said.

"With an increasing interest burden, growing businesses as well as consumers could face problems."

The BDO output index - which relates closely to GDP movements a quarter ahead - fell 2.1 points from last quarter to 101.6 in July.

The decline was felt most keenly in the service sector, where the index dropped from 104.3 in April to 101.9 this quarter.

The level of the BDO inflation index, which surged two points this month to 105.3, is also likely to worry the Bank, the group said.

The latest figure suggests inflation will rise by an annualised 2.5% by the end of 2004 - half a point above the Bank's target of 2%.

However, BDO said the economy was far from faltering and the UK remained on track for annualised GDP growth of 3.3% in the fourth quarter of 2004, according to the BDO output index.

Douglas McWilliams, chief executive of the Centre for Economics and Business Research, said the Bank of England would be relieved to see a bit of cooling in the output index, but far from happy at the level of inflation.

"This will strengthen the determination of the Bank's Monetary Policy Committee to return interest rates to the neutral 5% level as soon as possible," he said.

"Nevertheless, Mr Brown will be pleased to see economic growth and job creation are set to remain healthy until the elections in 2005."

The BDO Business Trends Report Indices are calculated by taking a weighted average of results of the UK's main business surveys carried out in the last three months and published before July 23 this year.

The surveys cover more than 11,000 different respondents from firms employing approximately five million employees in the UK.

Monday August 02, 2004