In the eight years since the Global Financial Crisis (GFC) of 2007-2008, the global economy has never managed to fire on all cylinders (see exhibit 1 below). Fiscal problems in the eurozone, consecutive years of weak first quarter growth in the US, a steady slowdown of the pace of economic growth in China and a collapse in commodity prices are among the factors that have forced analysts to repeatedly adjust the economic outlook. The first half of 2016 has been no exception to this pattern.
Exhibit 1: Since the Global Financial Crisis the global economy has been unable to accelerate beyond a modest pace of growth – the graph shows the development of global growth since 2005 and the percentage contribution of the major economic blocs to global growth.
Source: BNPP IP as of 20/07/16
US growth slowed again in the first quarter, although there was no severe winter weather to blame this time. At the time of writing, GDP data for the second quarter is not yet available, but the potential for a rebound would appear to be limited.
The eurozone has turned into a bit of a bright spot. We see this clearing in the clouds as being due to the absence of a fiscal crisis, tailwinds from lower energy prices, a weaker currency and less fiscal austerity. GDP growth has climbed above the bloc’s longer-term trend rate. It has been supported by a gradually improving labour market and was thus more domestically driven.
In Japan, the economy appears to have stalled again in the second quarter
Investors feared a hard landing in China earlier this year following abrupt changes in exchange rates and bubbles in some asset markets. Fears about China were assuaged when China’s authorities responded with monetary stimulus and an increase in government-led investment. Nonetheless, the economy appears at best to have stabilised.
Commodity-producing emerging markets are still facing challenges in adjusting to the collapse in commodity prices, and manufacturing trade-dependent emerging markets suffer from the lack of a positive global trade cycle.
Faced with these developments monetary policy has been more stimulative than expected. The US Federal Reserve (Fed) has so far not followed up on the first rate rise from last December; the ECB has expanded its asset purchase programme to include corporate bonds; the Bank of Japan has cut interest rates into negative territory. Finally, a number of emerging market central banks have cut interest rates or eased using other policy tools.
Exhibit 2: Monetary policy remains extremely accommodative in G3 economies (the graph shows changes in policy rates in the US, the eurozone and Japan for the period from 2005 through 2016).
In our outlook for 2016 we forecast desynchronised growth in the global economy. This is now less apparent. Re-synchronisation has come not from a pick-up in emerging market growth, but rather from slower growth in Japan and in the US. This environment confirms to us our view that economic growth will be subdued and inflationary pressures virtually absent.
Global leading indicators have slowed since the start of the year
The OECD Cyclical Leading Indicator is below its long-term average, pointing to subdued growth. This is the case for both the G7 countries and the five biggest Asian economies, although the indicator has turned up somewhat in that region. The percentage of countries where the indicator is rising has been stuck at around 50 since early 2014. Such indecisiveness for this momentum indicator for the global economy is unprecedented. It points to the lack of any synchronisation in global growth. Global PMI indices took a step down in early 2016, mainly due to declining activity in developed economies’ service sectors. This was disappointing, as these sectors had earlier looked resilient in a global economy where trade and industrial production were suffering. Composite PMIs point to subdued global growth (see exhibit 3 below), both in developed economies and in emerging markets. Manufacturing in emerging markets looks like the weakest link.
Exhibit 3: Composite purchase manager indices (PMIs) suggest to us the pace of global growth will remain subdued in both developed and emerging economies over the next six months (the graph shows composite PMIs for the world’s major economic blocs on a GDP-weighted basis).
Source: BNPP IP Datastream as of 20/07/16
In our opinion, the main points for asset markets are that global growth will remain modest. We are more concerned about Japan, China and most emerging economies than the US or Europe. However, even in those regions that are relatively strong performers, inflation should not stand in the way of easy monetary policy. It’s highly likely that the Fed will raise rates, but only gradually. We expect central banks in the eurozone, Japan, China, UK and several emerging markets ease monetary policy. In some countries this may be accompanied by fiscal stimulus. All in all, low growth, low inflation and low interest rates.
We do recognise that there are risks to this outlook. On the upside, the US consumer or the eurozone domestic economy may show more resilience than we expect. The UK option to leave the EU could have a less negative impact on the UK and in turn on Europe if negotiations move swiftly toward a relatively integrated relationship. A more favourable scenario would also include a stronger investment and trade cycle. We attach a lower probability to such a positive scenario than to a more negative outlook. Downside risks include political risks in Europe, related, for example, to compliance with EU rules on fiscal deficits or bank recapitalisation. Or, in the US, the presidential election may give rise to a less liberal climate for global trade. In addition we see scope for a hard landing in China. In general, any slowdown in growth would occur in a global economy where central banks are already stimulating to the max, where fiscal positions are vulnerable and where debt levels are still high. [divider] [/divider]
This article was written on 19 July 2016 in Amsterdam
This article is part of our recent ‘Investment outlook’ and ‘Economic outlook’ series.
Here are the links to all the articles: