2017 Exceeding expectations
From a macro perspective, we believe 2017 is positioned to be a memorable year, with global growth exceeding rather than disappointing consensus expectations for a change.
Straws in the wind
Going into 2016, there were clearly legitimate concerns about the sustainability of the recovery. These stemmed from a contraction in US manufacturing activity, which had, in turn, caused US growth to disappoint against the background of continued weakness in the developing world.
However, some important ‘straws in the wind’ had already started to emerge to indicate that perhaps it wasn’t all doom and gloom. In the final quarter of 2015, industrial commodity prices started to rally from their lows. The continuing weakness of oil prices tended to obscure a more general commodity rebound, but this was very much a lagging indicator. Demand for oil remained solid and prices eventually rallied convincingly off their lows.
Figure 1: Oil price over last year
Source: Bloomberg, Brent crude oil price per barrel (US dollar), 12 months to 1 November 2016. [could show industrial metals (RIND) and oil prices indicating their respective lows
Aggressive monetary and fiscal loosening in China started to bear fruit, arresting the deceleration of growth in that key economy. Recent US evidence points to a moderately improving growth picture, while economic conditions in both Europe and Japan are proving resilient.
Stagnation or recovery?
So will the forces of secular stagnation1 yet again thwart a meaningful rebound in global growth? Certainly, severe headwinds persist. Levels of debt and capacity remain uncomfortably high, final demand anaemic and the factors causing unusually weak productivity growth are likely to endure. However, the easing of financial conditions across the developing world, which began earlier in 2016, is beginning to foster a turnaround in growth rates. This has the potential to spark the first synchronised rebound in global growth since the recovery of 2010. Although any revival of growth would be extremely unlikely to match that which began in 2000, it would represent an important potential change in direction.
"We see a growing probability that improving credit metrics, steady consumer spending and an expected improvement in capital spending (albeit off a low base), could produce a period of relief from the longer-term global economic stagnation."
We see a growing probability that improving credit metrics, steady consumer spending and an expected improvement in capital spending (albeit off a low base), could produce a period of relief from the longer-term global economic stagnation. Naturally, such a development would be contingent on the performance of China’s economy and, notwithstanding the longer term structural issues, we expect the impact of simulative fiscal and monetary policy expansionary to stabilise growth for longer than the consensus currently expects.
Other key emerging markets, such as Brazil, continue to reverse previous recessionary impulses, while reform-orientated countries, such as India and Indonesia, are also well positioned to maintain their growth rates in the year ahead.
Growth, inflation and interest rates
What of the impact on inflation and interest rates? In our view, the secular context looks set to remain disinflationary. However, outright concerns about deflation should ease. Inflation rates could pick up more sharply than anticipated in some key economies, such as the US, as the effects of weak oil prices fall away.
Monetary policy mixes are likely to shift as well, as the negative effects of excessive reliance on monetary policy become more widely appreciated.
Monetary policy mixes are likely to shift as well, as the negative effects of excessive reliance on monetary policy become more widely appreciated. This, in turn, points to a greater reliance on fiscal policy to promote growth, despite high government debt levels. Although the adjustment may be relatively modest, it would represent an important change in direction from recent trends. Paradoxically, this could prove to be positive for sentiment and growth. While real interest rates are likely to remain low by past comparison, this need not be as chronically low as investors had come to believe would be the case by mid-2016.
Extending the growth cycle?
The pricing in of higher interest rates and steeper yield curves may initially prove uncomfortable as the adjustment takes place, but with the exception of certain hot spots of leverage, the magnitude of the change under our central scenario is still likely to be relatively benign. We believe that receding recession concerns, the prospects of a further extension of the current cycle and a more synchronised growth environment, should combine to ultimately lend support to growth assets.
1 Secular stagnation: a condition of negligible or no economic growth in a market-based economy”. ‘Secular’ in this context, means much longer term or structural, than a short-term business cycle slowdown.