TalkingEconomics: Global forecast update - Goldilocks lives on
- Beneath the headline growth figure, the eurozone and to some extent the emerging markets are picking up the baton from a cooling US.
- Central bankers have taken a more hawkish tone, questioning the level of policy accommodation given the recovery in the world economy. That said, low inflation presents a challenge.
Global forecast update
The recovery in global activity remains intact while inflation appears to have peaked following the stabilisation in energy costs. We continue to forecast global growth at 3% this year after 2.6% in 2016, but have trimmed our inflation forecast to 2.3% from 2.4%. The combination of steady growth and low inflation means we remain in a Goldilocks environment where activity is neither too hot nor too cold to cause a significant acceleration in inflation.
On the growth side, the US forecast is unchanged for 2017 while an upgrade to the eurozone is accompanied by a stronger forecast for China and the wider emerging markets. Looking into 2018, global growth is expected to remain stable at 3% with modest downgrades to the US, offset by upgrades to the eurozone and emerging markets.
On the policy front, we now expect the US Federal Reserve (Fed) to keep rates on hold until the middle of 2018, when it then raises rates to 2% by the end of the year. Elsewhere, interest rates should remain on hold reflecting the earlier stage of the economic cycle in Europe and Asia. We expect the European Central Bank (ECB) will continue quantitative easing (QE) over the forecast period, but will begin to taper in 2018. The Bank of Japan is expected to keep rates on hold, but maintain qualitative and quantitative easing (QQE) as it struggles to reach its target of above 2% inflation.
Is the US consumer running out of steam?
On the US economy, we look for continued recovery although we expect the balance of growth to alter in the coming months as consumer spending slows given a lack of real wage growth. Stronger capital spending should offset this to some extent over the remainder of 2017. Looking ahead to 2018, the slowdown in consumption is likely to intensify as inflation picks up, squeezing real incomes. Our expectations that inflation will only return to target in late 2018 indicate an extended period on hold for the federal funds rate.
Scenario update: even a Goldilocks economy has bears
Turning to our scenarios, political risk returns this quarter as we attempt to incorporate the threat from North Korea into our framework. The tensions created between China and the US on this issue could spill over into a full trade war. The net result would be stagflation (slower growth and higher inflation) with the world economy slowing to 2.4% in 2018 (compared with 3% in the baseline). Inflation rises to 2.8% in 2018, 0.6% higher than in the baseline scenario.
The introduction of the trade war scenario (which replaces "Old normal" where we saw a return to pre-crisis rates of productivity growth) increases the probability of stagflationary outcomes. However, the greatest probability is still with deflationary outcomes compared to the baseline.
European forecast: risks become more balanced
- We have upgraded the eurozone’s growth forecast for 2017 and 2018, and slightly downgraded inflation.
- Meanwhile, we make no change to the UK’s growth forecast but have re-profiled inflation slightly. We forecast the Bank of England (BoE) to keep interest rates on hold.
Europe continues to enjoy a period of strong economic activity although the outlook has been dimmed a little by a loss in momentum in private business surveys. These had previously been reporting stronger growth than official statistics and now that these surveys have moderated somewhat, the risks to growth are now more balanced.
Eurozone forecast update: further upward revisions
We find ourselves revising up growth for the eurozone yet again and now expect GDP growth of 2.1% (from 1.8%) for 2017, and from 1.8% to 1.9% in 2018.
The forecast for inflation has been lowered slightly in 2017 (to 1.5%) due to lower oil prices compared to our previous forecast. However, the 2018 forecast remains unchanged at 1.1%. Note, this is below consensus estimates of 1.4%, which supports our long-held view that interest rates are likely to remain on hold until 2019 at the earliest.
We continue to expect the European Central Bank to extend quantitative easing into 2018, albeit with smaller monthly purchases that are eventually faded out over the year.
UK forecast update: on track
We continue to forecast below trend growth for the UK as the household sector struggles to cope with higher inflation, while the businesses hold back investment amidst Brexit fears.
The inflation forecast for the UK has been re-profiled slightly, with 2017 being reduced from 2.8% to 2.6%, while 2018 is raised from 2.2% to 2.3%. This is partly due to lower global oil prices as mentioned earlier, but also due to the latest producer prices index (PPI), showing both lower input and output price inflation than expected.
In terms of monetary policy, we expect some of the more hawkish members of the BoE’s monetary policy committee to keep warning of the need to tighten monetary policy, but we expect the majority will continue to vote for no change in policy until after Brexit.
Emerging markets forecast update: disinflation abounds
- We mostly revise the BRIC economies higher as data surprises and idiosyncratic risks fade. India is an exception thanks to self inflicted wounds.
- The disinflationary trend continues, with inflation projections revised lower across the board.
China: slowdown imminent
We have raised our 2017 growth forecast for China from 6.6% to 6.7%. We continue to expect a slowdown in the second half of the year; credit conditions remain tight and the external backdrop looks set to weaken. We still anticipate a further depreciation in the currency going into the year end.
Brazil: pressing ahead with reforms… just
An easing of political concerns should help restore some confidence in Brazil. As a result, we have marginally revised up our growth expectations for this year (from 0.2% to 0.4%) and next (from 1.4% to 1.6%). Inflation dynamics have also continued to improve, increasing the scope for further interest rate cuts. We now expect rates to be cut to 7.75% by year end, from 9.25% currently.
Russia: delivering positive surprises
We have also upgraded our expectations for Russian growth, and now expect growth of 1.3% in 2017 (from 1.1%). That said, the longer-term threat to growth from the new US sanctions is undeniable. Inflation data has also been delivering some positive surprises, prompting a downward revision to our inflation outlook this year and next, and also increasing the scope for central bank rate cuts: we see rates at 8% by year-end.
India: policy-induced headwinds
We have made a very significant downgrade to 2017 growth expectations (6.9% from 7.4%) following a large downside surprise in the first quarter growth figures and the introduction of the Goods and Services Tax (GST). Happily though, the disinflation trend continues allowing the central bank to provide some support as growth flags. Following a 25bps cut in August, we expect a further 25bps cut later in the year.