As the world economy begins to emerge from the Great Lockdown, we take a closer look at the key trends which will define the post-pandemic investment environment.
We look at the post-Covid landscape through the lens of our Inescapable Truths, where we focus on three key disruptive factors which will influence the medium term outlook:
In this update we examine which of these “truths” or trends have been gaining ground and which are now being challenged by the new economy emerging from the pandemic.
The full article is available as a PDF here.
The world economy is emerging from the Great Lockdown, but progress is patchy. The US and UK appear to be leading the way, while China remains robust. The eurozone is following, albeit more slowly due to an uneven start with its vaccine programme. Nonetheless, the overall picture is one of developed markets outperforming emerging markets, with economies like India and Brazil struggling to contain the virus.
The other fault line opened up by the pandemic has been inequality within economies, which has likely increased on both an income and wealth metric.
Meanwhile, on a more positive note, the ability of economies to adapt, facilitated by the acceleration in technology, holds out the promise of stronger productivity growth. We have raised our medium term forecasts as a result, despite the persistence of adverse demographics.
Increased technology may make the efforts of policymakers to address inequality more difficult as the fourth industrial revolution displaces more workers. So, although populism has not reared its head and become an accelerated truth during the pandemic, it is likely to return. History shows social unrest increasing after a pandemic is over, creating an environment for more populist policies.
Environmental issues have come into increasing focus, with greater efforts to tackle climate change. Much attention has been on the Biden administration’s decision to take the US back into the Paris Accord and increase infrastructure spend in this area, but we have also seen China set a target to be carbon neutral, bringing the world’s two biggest polluters into alignment. The energy transition creates significant opportunities, but it also threatens to exacerbate inequalities between developed and emerging markets.
Government finances have deteriorated significantly during the pandemic, raising questions about debt sustainability. Nonetheless, there has been a shift in thinking on fiscal policy with governments unwilling to return to austerity and squeeze the public sector. Economic recovery will help, but given the extra spending demands of healthcare and climate change going forward, the pressure on government finances is likely to remain. Higher taxation seems inevitable and governments are training their sights on the corporate sector.
The increasing dominance of monetary policy by fiscal considerations means financial repression is likely to continue. Interest rates remain lower for longer despite the improved growth outlook. Alongside this, however, comes an increased tail risk of higher inflation. Although we expect the recent pick-up in inflation to be transitory, cyclical pressures are building and monetary policy will need to be tightened in 2022.
Looking further out, it is not difficult to construct pessimistic scenarios. An example would be that persistent inequality fuels populist governments who then undermine central bank independence such that inflation gets out of control.
Yet there are still powerful forces pointing the other way. Technology tends to drive down prices through increased competition in both product and labour markets. Also, there is still a consensus in favour of low inflation amongst central banks and the shifts in policy are recognition that in the face of structural forces inflation has been too low.
Against this backdrop there are no easy answers for investors who will need to ride the disruptive trends and find the pockets of growth in the world economy. What seems clear is that governments may now be playing a greater role in driving those trends.
The full paper is below.