Tighter monetary policy starts to bite

In May 2023, the US Federal Reserve raised the target range for the federal funds rate by 0.25% to a range of 5-5.25% – the 10^th consecutive increase, and the highest level since August 2007. As central banks continue to raise interest rates, signs are appearing that the impact is starting to be felt.

There is no doubt that higher interest rates have started to slow activity. Manufacturing activity is trending downwards, especially in Europe and Asia. Meanwhile, services continue to rebound, probably as households continue to rebalance their spending patterns back to pre-pandemic norms.

Global GDP growth is forecast to slow from 2.8% in 2022 to an upwardly revised 2.4% in 2023 (2% previously) and 1.9% in 2024 (2.2% previously). This represents an upward revision for 2023, mostly driven by upgrades to the US forecast. US households have proven to be more resilient, which in turn has allowed companies to pass on more of their costs through prices increases, but has also allowed them to keep hiring, re-enforcing a robust labour market.

Meanwhile, the forecasted recession for the US economy has been pushed out by a quarter, straddling the end of 2023 and start of 2024. A stronger than expected first quarter has prompted a large upward revision to the growth forecast, from 0.3% to 1.5% for 2023.

Inflation has started to fall but has been stickier on the back of higher services inflation. The core consumer price index (CPI) inflation has only fallen from 5.7% to 5.5% y/y over the same period.

China’s economy outperformed expectations, leading the emerging markets

Emerging market (EM) GDP growth is expected to slow from 4.4% in 2023 to 3.9% in 2024.

China has had a good start to the year as the recovery from zero-Covid policy continues and is still forecast to lead the emerging markets into an acceleration in 2023. The relaxation of the zero-Covid Policy has unleased strong consumption of services, while the housing market should add to growth from a low base.

Excess household savings are relatively small, while support from the credit cycle will fade as we head into 2024. As such, we expect GDP growth to slow from 6.5% in 2023 to 4.3% in 2024.

The rest of the emerging market economies, however, are seeing economic activity soften as the aggressive tightening in monetary policy starts to bite. Most other major EM economies face a period of slower growth in the near term as aggressive interest rate hikes over the past year hit activity with a lag, typically of 6-9 months. The good news is that EM inflation has begun to roll over at high levels and should fall sharply into end-2023.