Sunnier economic times ahead?

28 February 2023

This article does not constitute advice or any form of investment recommendation. All numbers quoted were sourced from Bloomberg data as at Wednesday 8 February 2023. Past performance is never a guarantee of future performance.

Key points

  • With growing signs that US and European inflation has peaked and that interest rate hikes in the US, the eurozone and the UK may be close to ending, any potential recession should be a shallow affair
  • However, the global economy still faces a slowdown as the after-effects of central banks’ turbo-charged rate boosters from 2022 hit home
  • The ending of China’s zero-Covid policy towards the end of 2022 should spark a bounce back in the economy this year, from the second lowest growth rate in half a century last year. A fast-growing Indian economy could also help to boost prospects for emerging markets, compensating for a weaker developed world
  • While the US central bank contemplates when to stop hiking rates this year as inflation eases, growth looks like being subdued in 2023
  • The outlook for the eurozone and the UK is worse still. Weakening inflation will remain well above that seen in America as both economies lie hostage to the supply and demand dynamics of the fuel prices

Strikes in many European economies underline the effects of muted growth and high inflation on workers. The bad news is that after being shaken by a tough 2022, this year looks like being another challenging one for the global economy.  

Geopolitical tensions, tighter financial conditions and the impact of decades-high price rises on spending by consumers and businesses are likely to weigh on growth prospects.  

Advanced economies look like struggling to grow much this year. At a global level, expansion seems set to be 2.2% in 2023, as China recovers from the economic effects of its zero-COVID-19 policy while India expands by 5.2%.  

Subdued US growth 

Weakening consumer demand and a slowing housing market and job market are expected to take their toll on the US economy this year. Growth in domestic consumer spending is forecast to weaken by 1.3% in 2023. Similarly, as the full effects of last year’s interest-rate hikes hit the economy, unemployment could rise to 4.8% by the end of the year.  

On a positive note, US inflation is moderating. December’s CPI data was down by 0.1% month-on-month, the first decline in two and half years. While December’s consumer prices index (CPI) of 6.5% year-on-year is over triple the target, it has slowed for six consecutive months. Decelerating price increases are expected to continue, with CPI averaging 2.4% in the final quarter of this year.  

The US Federal Reserve (Fed) hiked rates by a quarter of a percentage point early in February, having lifted rates by an astonishing 4.25% in 2022. After another couple of anticipated quarter point hikes, in March and May, the central bank looks set to keep the fed funds rate at 5.0%-5.25% through much of this year. That said, the Fed may take its foot off the pedal towards the end of this year.  

Can China resuscitate the economy? 

After keeping much of its population essentially housebound last year, in an uncompromising zero-COVID policy, it is little wonder that Chinese economic growth slumped to 3% in 2022, the second-lowest rate in half a century.   

With the zero-COVID policy now removed and people free to shop, the economy is expected to bounce back this year and grow by 4.8%, despite a troubled housing market and many developed world economies potentially facing a recession. Indeed, policymakers are taking action to shore up the housing market and boosted stimulus measures in attempts to support growth.  

In the short term, the world’s largest COVID wave will peak this month and disrupt activity. However, following this, the economy is likely to recover gradually through the first half of this year.  

Europe feels the heat

Eurozone economic data finished last year in better-than-expected shape. While the economy may be on the mend, it is still expected to slow this year, contracting by 0.1%, as domestic demand, industrial output and investment weakens while unemployment shoots up to 6.9% by December.

There is good news on the inflation front too, as the slowdown in price rises, from multi-decade highs last year, is expected to continue. Power cost pressures on energy users are expected to ease this year, even if still pricey by historical standards, aided by government intervention and lower gas and electricity prices. That said, the consumer price index is anticipated to average 5% in 2023, more than double the central bank’s target range.

After showing its inflation-fighting credentials by upping the deposit rate to 2.5% in February, the European Central Bank is expected to raise the rate to 3%, possibly the peak of this hiking cycle, in March.

UK faces a bleak future

The outlook for the UK economy is gloomy as households tighten their belts in the face of the biggest squeeze on living standards in decades, with borrowing costs up, energy bills charging ahead and inflation stubbornly elevated, which is likely to average 7.3% this year.

In a case of upside-down economics, despite UK unemployment rates being at levels last seen in the 1970s, the economy is anticipated to shrink by 0.7% this year before expanding by a sluggish 0.4% in 2024.

In line with the US and Eurozone central banks, the Bank of England increased the base rate in February, by half a percentage point to 4.0%. The central bank is expected to hike the rate further in March and May, to take the base rate to 4.5%, which might be the top of the current hiking cycle.

Tempered global growth prospects

While the outlook for the global economy seems to have turned for the better in recent weeks, persistently above-target inflation and rising interest rates mean growth is likely to remain muted this year. A recession still looks to be on the cards, though it is expected to be a relatively shallow one. As inflation eases in coming months, rates peak and growth troughs, investors should turn more upbeat on prospects.   

For investors, the trick as always, is to look through short-term noise and focus firmly on long-term strategies.

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