Market volatility may not derail 2018 global growth
A continuing run of positive economic news over the past month has been overshadowed by recent turmoil in financial markets. But we do not expect this turmoil to trigger a marked slowdown in the world economy.
As a result, our 2018 global growth forecast remains at 3.9%, which would be its strongest performance in seven years. The latest composite purchasing managers’ indices have risen to their highest levels during the current upswing, pointing to a further acceleration in global gross domestic product (GDP) to come.
But these data points predate recent market moves, and a key issue is whether the equity sell-off could derail the world economy. Despite the latest fall, markets are still up significantly over the past year, and earnings growth remains solid. Against this backdrop, market stress of economy-damaging proportions would likely require an additional trigger, such as evidence that central banks had fallen far behind the curve in containing inflation.
This is a risk but not our baseline. Inflation concerns have risen, but we remain of the view that global price pressures will pick up only gradually.
In the U.S., recent equity market volatility does not detract from strong economic fundamentals.
In the U.S., recent equity market volatility does not detract from strong economic fundamentals. The U.S. looks set to expand by 3.0% this year, with a boost of 0.6 percentage points from the tax cuts and spending increases. As a result, we continue to expect four interest rate hikes from the U.S. Federal Reserve (Fed) this year.
Annual wage growth looks finally to be firming, coming in at an eight-year high of 2.9% on the latest figures. The recent bond market sell-off and correction in equity markets reflect a combination of higher inflation expectations and market repricing of the prospects for monetary policy tightening.
For now, negative wealth and confidence effects look modest. Further market “episodes” could be triggered by above-expectations outturns for wage and price inflation, or by signs that the Fed is becoming concerned about the upside risks to growth and inflation from President Donald Trump’s fiscal largesse.
As for the UK, we have raised our 2018 UK GDP growth forecast to 1.8% from 1.5% last month. This reflects both a stronger-than-expected outturn for the fourth quarter of 2017 and momentum in more recent data. The Bank of England (BOE) has signaled that further rate rises are coming, given diminishing spare capacity in the economy and the resulting outlook for domestically generated inflation.
We anticipate a modest pace of rate increases – one this year, one in 2019 and one in 2020. A transitional Brexit deal post-March 2019 remains likely, with the UK continuing to be bound by European Union (EU) rules until the end of 2020. But a range of longer-term options remains in play, with a Canada-style free-trade agreement (FTA), a “cliff edge” Brexit after the transition period expires, and a “smooth” deal with the UK remaining in a customs union with the EU all still possible.
The Eurozone entered 2018 in robust health, with record-high services sentiment and a buoyant labor market signaling another year of strong GDP growth. We are forecasting growth of 2.2% in 2018, after 2.5% in 2017. The region’s unemployment rate is at a nine-year low, and while wage growth has remained subdued so far, some of the latest data indicate a potential pick-up in pace. Headline inflation edged down to 1.3% in the year to January, whereas core inflation (stripping out food and fuel) rose slightly, to 1.0%.
Euro strength is likely to subdue inflation over the next few months, but higher oil prices and increasing pipeline price pressures suggest this fall will be transitory. Accordingly, we expect the European Central Bank (ECB) to end asset purchases by the end of 2018. Given the relatively subdued inflation outlook, we do not anticipate rate rises until 2019, and then only at a very modest pace.
In Japan, we forecast the country’s economy to expand by 1.7% this year, down only slightly from an estimated 1.8% in 2017. Domestic demand is becoming an increasingly important growth driver, with the investment outlook strong amid solid business confidence and rising operating profits. While a tight labor market is encouraging firms to invest in technology, wage increases are likely to remain subdued. Headline inflation jumped to 1.0% in December, but core inflation held steady at just 0.1%.
Given the recent rise in oil prices, inflation may rise to 0.7% over 2018 as a whole. But this would still be well below the Bank of Japan’s (BoJ’s) 2% target. The yen has been appreciating on speculation that the BoJ will “fine tune” its monetary policy. With inflation still so subdued, we expect the BoJ to keep its short rate on hold at -0.1% until 2020. Any tightening is likely to occur via modest increases in the BoJ’s target on 10-year government bond yields.
We expect aggregate emerging market (EM) GDP growth to pick up to 4.7% this year, from 4.5% in 2017. EM assets have been caught up in the turmoil affecting global equity markets, reflecting investor concerns that the U.S. could raise interest rates faster than expected. Economic fundamentals for EM have not changed in the past month.
Trade indicators suggest a strong start to the year, particularly in Asia. Economic data and improving domestic conditions also point to more favorable prospects in Mexico and South Africa. Recovery remains underway in India, given the positive global backdrop and a supportive domestic policy environment.
Finally, as for China, we maintain our forecast for Chinese GDP growth to slow modestly to 6.4% in 2018, following last year’s 6.9% expansion. The favorable global demand backdrop should continue to support China’s trade performance this year, but frictions with the U.S. are increasing.
Indeed, the U.S. administration is likely to add to measures impeding exports from China. Domestically, investment momentum looks set to remain subdued this year, given efforts to rein in capacity in heavy industry, slow real estate activity, and tighten financial policy. Consumption growth may ease slightly on moderating real wage growth and a more subdued property market.
Overall, despite recent market volatility, we don’t expect it to impact the global growth momentum.
Projections are offered as opinion and are not reflective of potential performance. Projections are not guaranteed and actual events or results may differ materially.
Foreign securities are more volatile, harder to price and less liquid than U.S. securities. They are subject to different accounting and regulatory standards, and political and economic risks. These risks are enhanced in emerging markets countries.