The global outlook has been marked down again, but data out of China have shown a pickup in activity, while Europe and some EM-countries are weakening. Policies in Washington – trade and monetary – remain pivotal to the outlook, but Brexit and a renewed budget-standoff between Italy and the EU also loom large.
Oops!… I Did It Again
When the International Monetary Fund (IMF) published its spring forecast earlier this month, it was with another downbeat assessment of the global economy. The outlook for 2019 was revised down for the third time in just six months. The IMF now expects global growth to reach 3.3 percent – down from 3.7 percent in October and 3.9 percent last spring.
Though a combined 0.6 percentage points reduction in the growth outlook could seem somewhat trivial (from say 2.8 percent growth to 2.2 percent in an advanced economy), on a global scale it matters a lot. Emerging and developing countries still achieve high growth rates just from picking low hanging fruits – and to keep up with population growth. Indeed, India’s projected economic growth of more than 7 percent is barely enough to create jobs for the millions entering the labor force.
There was little surprise in the downward adjustment from the IMF; confidence indicators have declined steadily throughout 2018 and IMF has obviously been behind the curve. This is partly due to the long forecasting process within the organization, but also due to a political inability to respond to sudden changes in the outlook. Particularly when the changes are a turn for the worse.
At the IMF annual meeting in October, the theme was something about “repairing the roof, while the sun is shining”, i.e. make necessary structural adjustments while the economic circumstances were favorable. Of course, the political reality in most democracies is that deep reforms are only made during a crisis, because voters tend to punish responsible politicians who spoils a good party.
The mood in the latest IMF-report was dour, and for a good reason. The talk of a “precarious recovery” is a clear indication that although monetary policy is still extremely easy by historic standards, and fiscal policy also provides support overall, political risks and lower confidence could establish a downward economic spiral.
A long list of events is clouding the global economic outlook. First and foremost the still-unresolved trade war between the US and China, but also problems in the German auto sector, the crackdown on shadow banking in China, as well as deep recessions in Argentina and Turkey. Indeed, the Argentinian peso has tumbled in recent days as the risk of a government default has spiked and the reelection prospects of reformist President Macri has declined. Political instability has already infected the Brazilian real as well, thus increasing the pressure on President Bolsonaro to deliver on economic reforms, particularly an overdue pension reform. Emerging-market financial and economic contagion remains a risk.
The normalization of monetary policy is also highlighted as a headwind, although the complete turnaround by the Federal Reserve has paused US monetary policy at a somewhat supportive level of interest rates, while the euro area now remains stuck with negative interest rates for the foreseeable future. If anything, global monetary policy could be slightly eased this year by lowered interest rates in some emerging-market countries.
Outlook for the US remains moderate
Despite an elevated noise level in Washington DC and the protracted trade wars, the outlook for economic growth in the US remains largely unchanged at 2.3 percent this year and 1.9 percent in 2020. IMF (and other international organizations) have consistently underestimated US growth after President Trump took office; the positive effects from rising income, lower taxes and deregulation have been underappreciated, while the negative effects from the political disruption have been exaggerated. The downward trajectory in US growth also corresponds with most domestic forecasts, but it should be remembered, that President Trump intends to run his re-election campaign on a booming economy. Talk of a slowdown and sliding equity prices will be sought countered by all means available.
US consumers remain key to the economic outlook. On average, US households are in much better financial shape than prior to the financial crises in 2008. Household debt continues to decline compared to disposable income and GDP , albeit at a slowing pace. Home equity has not been used as a cash machine, and household financial obligations remain close to all-time lows. The savings rate has remained largely stable at an elevated level, although this is mainly due to wealthy households and a reclassification of how savings are counted for family businesses.
Europe is a mess
Like other international organization, IMF took a knife to the growth outlook for the euro area. GDP-growth in Germany was slashed to 0.8 percent this year, but the German government has gone even further and lowered its own forecast to 0.5 percent. The latest Ifo-confidence indicators show no turnaround in the manufacturing debacle, thus confirming that the declining activity is due to much more that temporary production issues. Manufacturing confidence is approaching euro-crisis lows with expectation components particularly weak. Assessment of orders on hands continues to decline, while inventories of finished goods are increasing. Both point toward further decline in production in the months ahead.
For Italy, the IMF projects an economic standstill – dangerously close to a recession, and a challenging macroeconomic framework for the 2019 Stability Program. The Italian government is likely to push for lower taxes and more spending, while the EU wants the opposite. Political fireworks should be expected later in the year. The outlook for France remains fairly good with 1.3-1.4 percent growth despite the ongoing street protests. Increasing business investments have been an important vote of confidence in the reform agenda, but both pension and unemployment-benefit reforms risk stalling in the current political environment.
The British economy is expected to generate about the same growth as in Germany, but this is likely to be an overstatement of underlying activity. Nominal GDP grew by 3.4 billion pounds in 2018, which is probably below what was spent on unproductive no-deal preparations. More of the same in Q1 – and an increase in government administrative staff in London – is masking a more pronounced decline in private activity. Business investments are declining at an accelerating pace.
The end of downgrades?
International organizations have downgraded the global outlook for the past six months, but economic growth could be bottoming out. Stimulus in China seems to have worked with industrial production surging in March, and even auto sales increasing after months of decline. Total credit growth surged past previous records in Q1, and authorities have signaled a more cautious approach to financial easing going forward. It remains to be seen how much the growth trajectory has been improved. The stimulus could prove temporary, but for now economic activity has picked up.
The global outlook will be influenced by policies in Washington. President Trumps attempts to keep oil prices and interest rates low and equity prices high are now challenged by the tightening of sanctions against Iran and Venezuela, which have been driving up oil prices and the inflation outlook for the US. Market-based inflation expectations (10-year breakeven inflation rate) have climbed with oil prices, and if wage growth accelerates, Federal Reserve could find itself in more hot waters. The trade war with China may find some benign outcome, but President Trump is likely to turn his focus to the USD 110 billion trade deficit with the EU.
Overall, global growth is likely to experience a challenged 2019. The US should fare better, but even here corporate profitability would be hurt if other areas, particularly Europe, remain stuck in the mud.