SPAIN – An election fraught with uncertainty2019/04/23
Macroeconomic Scenario for 2019-2020: plenty of twists and turns to negotiate cautiously
It might be easier (and, more importantly, quite smart) to take refuge behind the dangers currently looming to concoct gloomy or even alarmist forecasts. It would be an easy stance, given such a long list of perils, their multifarious nature and their varied probabilities of materialising. One may also, more humbly, try to build a scenario which, without being ingenuous, does not wallow in all-out pessimism.
This would be a scenario that assumes, first of all, that the US-China trade war will continue. The agreement announced between the United States and China at the G20 summit for a 90-day suspension of the planned increase in tariffs from 10% to 25% on some USD200m-worth of Chinese exports, along with China’s willingness to increase imports of US goods, is only a temporary truce. In no way is this a first step towards resolving an economic dispute that can still become more acrimonious, so different are the expectations of the two ‘belligerents’. That said, the US hostilities seem likely to continue to be directed against China and not to be aimed at other victims, ie, the European Union. This scenario also assumes that Saudi oil supply adjusts to market demand, so the oil price is re-invigorated and trades between USD70-80/bl.
Therefore, in 2019, against a backdrop of a trade war and a ‘more sensible’ but volatile oil price, we will experience an economic slowdown that has already begun but which is still very unevenly spread. While the Eurozone seems to be trying to get its second wind, Japan has failed to inject any momentum into domestic demand and Chinese growth seems likely to disappoint at the start of the year despite the public stimulus plan, the US is likely to see another year of prosperity.
The current cycle, which began in 2009, is the longest in the United States’ history. After peaking in 2018 (with growth of almost 3%), the slowdown in US growth is now getting underway. In 2019, at close to 2.3% (Q419/Q418 for an average annual growth at 2.6%), US growth is still likely to be above potential. However, spontaneous forces, and that of the investment cycle in particular, are starting to wither, while monetary and fiscal support is moribund. Business investment is thus likely to be less upbeat in 2019, while the prospects for improving residential investment will continue to be somewhat lacklustre. In late 2019, the virtual disappearance of the fiscal stimuli that have boosted the cycle well above its natural peak for the past two years – with monetary policy taking a more restrictive turn – and the persistence of US-China trade tensions mean we are likely to see a period of growth, exceptional in terms of its vigour and length, come to a sudden end – with the threat of a recession looming over 2020.
In the Eurozone, against a backdrop of an accommodative monetary policy and a fiscal policy that is making a positive contribution to growth, the still-robust nature of fundamentals points to the maturity of the cycle but not its imminent demise. Supply-side pressures, which emerged at the peak of the cycle in late 2017, have progressively faded. They no longer seem able to generate the kind of margin erosion that would trigger a sudden downturn.
Eurozone growth, which is fated to shift gradually to a pace more in line with its estimated 1.5% potential, was following a normal path – namely that of a slowdown – falling from an annualised 2.8% in summer 2017 to 2.2% in spring 2018. Since the summer, however, the deceleration has gathered pace and the still-favourable information provided by the hard figures is being disputed by the worsening sentiment derived from the surveys. Growing uncertainties, mainly exogenous in origin, are thus prompting us to expect a more marked drop than that due to the natural flagging of the growth rate alone. History also teaches us that cycles rarely die a natural death. An economic policy misstep (often a monetary one, but that kind of error has been ruled out here) or an external shock can lead to an early downturn that is often brutal and – by definition – unpredictable. Our scenario foresees a dip in growth (1.9% in 2018 then 1.6% in 2019) largely due to the growing uncertainty driving cautious investment behaviour.
In Japan, the outlook remains lacklustre. In December 2018, Abenomics entered its seventh year. Exports continue to stimulate growth, while private consumption (which will also have to digest a VAT hike in 2019) is lagging behind. After reaching almost 0.7% in 2018, growth looks set to come in at just 0.6% in 2019.
Finally, after a difficult 2018, when emerging financial markets (in particular FX) were buffeted, economic growth in the mosaic of emerging economies appears likely to continue slowing. Times will be tough in 2019, for both growth and markets, especially as China could be a specific focus of volatility in early 2019. Like all emerging countries, China has undergone a slowdown, which its special efforts to reduce debt have exacerbated. In 2019, against the backdrop of a trade war, the negative impact of an increase in US tariffs on foreign trade will start to bite. With China having increased exports to ‘get ahead of the game’ in order to beat the higher tariffs initially planned to come into effect in January 2019, exports could slow in the early part of the year. Until now, politicians have responded to the slowdown with a combination of fiscal, monetary, and credit stimulus measures. They have avoided reacting too boldly so as not to worsen the debt problem. Before the full impact of the public support measures is felt, activity could slow over the next few months and stoke concerns that the economic slowdown could worsen.
In 2019, monetary policies should be circumspect and attempt to keep the slowdown in check, even though inflation – which traditionally heralds the end of a cycle – is not showing up too flagrantly, so much does the link between wages and prices seem to have weakened. The Federal Reserve will continue to tighten. US monetary policy, which is more dependent on economic data, and hence is more uncertain, is likely to move closer to neutral and only take a more restrictive turn towards year-end. For the ECB, the end of the Expanded Asset Purchase Programme is only a first small step towards normalisation. This first step does not mean that monetary policy will take a markedly less accommodative turn.
The signs indicating the end of the cycle are there, but they are not accompanied by ‘unmanageable’ inflationary pressures. Central banks remain cautious; monetary tightening, whether underway or simply mooted, is gradual. Finally, the many economic and political uncertainties, which can trigger sharp surges in risk-aversion, are obscuring visibility. This environment could in our view lead to an extremely modest increase in long-term risk-free rates, though accompanied by high volatility.
For more information, see our publication Prospects « World - Macroeconomic Scenario for 2019-2020 » – December 21, 2018
Catherine Lebougre - email@example.com