Our latest edition of the Global Economic Outlook is dominated by two conflicting forces. First, an intense second wave of Covid in Europe and North America is already weighing on recoveries. Second, recent news that highly effective vaccines are on the way raises the likelihood of an eventual return to ‘normal’ life. Our latest forecasts balance these forces by revising down global GDP growth in 2021 to 5.0%, but then maintaining a strong pace of global recovery of 4.2% in 2022.
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Vaccine Optimism
The initial recovery from the Covid pandemic was very rapid, for a while at least tracing out a ‘V’ shape. Having contracted 10.6% over H1 2020, global economic output surged 7.0% higher in Q3 2020. However, the outlook has since become much more mixed. New Covid cases have been contained at low levels in China and east Asia, and are even bending lower in other emerging markets (EM). But Europe and the US are in renewed outbreaks, which our ‘backcasts’ suggest are every bit as large as the first wave.
The prospect of a number of highly effective vaccines being rolled out offers an eventual ‘escape hatch’ out of the pandemic and its economics effects. However, we can’t help tempering some of the recent vaccine optimism. First, realistic manufacture and distribution timelines are not going to contain the current wave of infection. Second, mass vaccination of the entire global population will be a multi-year, sustained effort. Third, vaccine hesitancy means there will be a meaningful number of hold-outs who refuse vaccines. And finally, vaccine roll-out to EMs other than China and Russia will take much longer than in the advanced economies.
Our latest forecasts are founded on a projection for the path of lockdown stringency across the major economies. This combines our expectations for the course of the virus, the nature of public-health responses to the pandemic and the roll-out of vaccines. We think the current re-tightening of restrictions in the US and Europe has further to run, and meaningful loosening won’t get underway until well into Q1 2021. We therefore expect the Eurozone and UK economies to contract again in Q4 2020. In the US, there is less appetite to impose full lockdowns even under the incoming Biden Administration because stringency is mostly under the control of individual states. Nevertheless, activity is still likely to flat-line through the winter. But, from mid-2021 onwards, these economies should benefit strongly from vaccine roll-out, given their large pre-orders.
Incoming Biden administration
A fading US fiscal impulse is another headwind. Although the new President Joe Biden favours much higher, sustained spending, Democrats’ failure to secure a Senate majority (assuming they don’t win both of the Georgia run-offs in January) will significantly constrain what can be done in the face of partisan disagreements. Although we have pencilled in a modest $500 billion-1 trillion Covid relief package during the lame-duck session or start of Biden’s term, a 3-4% of GDP structural tightening is in prospect for 2021.
Meanwhile, increased regulation of the technology, financial, pharmaceutical and energy sectors is likely to be a hallmark of the Biden Presidency, albeit within the constraints of existing legislation. Trade barriers between the US and China are unlikely to ratchet rapidly lower. However, foreign policy will at least no longer be done ‘via tweet’, with a less volatile and more multilateral approach pursued instead. This should be positive for animal spirits across the broader Ems in particular. That said, variation in financial imbalances, structural reform momentum and the ability to manage Covid and then obtain and distribute vaccines will lead to significant performance divergences.
China feeling triumphant
By contrast, we think China is the large economy emerging from the pandemic in the strongest shape. Successful containment of the virus and a stimulative policy stance mean the level of GDP has already surpassed pre-pandemic levels. Domestic vaccine efforts are also bearing fruit. That said, the focus of policy in China will progressively move away from fighting Covid, towards managing financial risks, de-escalating tensions with the US, and achieving China’s long-term growth and emissions targets.
We continue to think that both the short-term and long-term global implications of this crisis are likely to be net disinflationary. The scale of this disinflation is likely currently being exaggerated by the inability of price indices to keep up with changes in the composition of spending. However, the global economy has enormous spare capacity. This will take a long time to erode and thus will put sustained downward pressure on wage growth and firms’ pricing power. And, while there has been much speculation about ‘policy regime change’, the disappointing timidity of central bank framework reviews and increasing reactivity (rather than proactivity) of fiscal policy is not pointing in that direction.
All this means that monetary policy should remain very loose, with central bank balance sheet expansion the marginal tool of policy. We expect the US Federal Reserve to lengthen the duration of its asset purchases around the turn of the year, suppressing long-term bond yields even as the economy recovers. The European Central Bank and Bank of England are both set to increase asset purchases further, following earlier moves by a number of smaller advanced-economy central banks. Chinese monetary policy has stopped loosening amid a renewed focus on financial stability concerns, but we are not forecasting rate hikes. Indeed, meaningful policy rate increases in any of the major economies lie well beyond our forecast horizon.
Looking forward to 2021
As has been the case all year, there are very wide confidence intervals around our central forecasts. In the near term, the balance of risks is skewed to the downside, as winter second waves threaten to overwhelm healthcare systems and shut down economies, while fiscal policy mistakes are looming. However, from around mid-2021 onwards, the risk is actually of more positive outcomes than we are forecasting. This is, above all because global vaccine coverage and its effects on activity could be greater than we have factored in. This would mean a faster 2021-onwards recovery, and less long-run damage to the level of global GDP relative to the pre-pandemic path. In fact, we attach only a slightly lower probability to this upside scenario than we do to our baseline scenario.
ASIRI (as of Q4, 2020)
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