Weekly Economic Briefing: New year brings global headwinds

 

The Weekly Economic Briefing is written by two senior Deloitte Economists, David Rumbens from Deloitte Access Economics in Australia and Ian Stewart Deloitte’s Chief Economist in the UK. They provide a personal view on topical financial and economic issues. Subscribe to receive the Weekly Economic Briefing in your inbox!

Australian economic briefing
UK economic briefing
International economic briefing

Australian economic briefing by David Rumbens

 

This section of the briefing provides a snapshot of key economic data and issues of relevance to Australia.

New year brings global headwinds

The performance of the Australian economy in 2019 will take a lot of cues from how current global economic headwinds play out.

The good news is that the steady expansion of the global economy continues, with global growth expected to come in at 3.8% in 2018 – once again, this has been strongest in the Asian region, but there was also a significant contribution from the United States.
However, downside risks have risen, suggesting that last year may be the high point for global economic expansion. Deloitte Access Economics expects global growth to slow to 3.6% in real terms in 2019, as ongoing trade tensions, tighter monetary policy and political challenges confront major economies.

Chart: GDP growth by country

 

Source: Deloitte Access Economics.

Some of the key features and challenges for the global economy going forward are noted below, with further detail available from our global economics Deloitte Insights team.

In the United States, economic growth has been supported by the ‘sugar hit highs’ of the 2017 tax cuts, but these are starting to fade, leaving growth easing back at a time that both interest rates and the $US have risen.
Financial sentiment has shifted, with markets now pricing in a 30% probability that the US Federal Reserve will actually cut interest rates in 2019. This is a dramatic change from just a few months ago, when the perceived probability was zero. However, the outlook remains unclear as the US job market remained exceptionally strong in December. The US government reports that there was very strong job growth, a large increase in the number of people participating in the labor force, and a significant acceleration in wages.
Of key concern to Australia, growth is expected to be slower for China in 2019, as the effect of US tariffs further compounds other domestic challenges, including overcapacity and high debt levels. China’s authorities have eased credit market conditions and boosted infrastructure spending, in part due to concerns about the negative impact of the trade war. Despite these efforts, the economy has not yet rebounded.
As China’s consumer economy decelerates, it could have global implications – notably for Australia, but also for other Asian countries that export to China, including Japan, South Korea and ASEAN nations. Japan will also face a number of challenges of its own, as the much-delayed hike in consumer taxes hits home in late 2019.
Growth projections have also been marked down for the United Kingdom and the Eurozone, following surprises that suppressed activity in 2018. The European Central Bank recently placed more restrictions on credit-lending practices while trade tensions have slowed Europe’s export sector. The impending Brexit parliamentary vote is also not doing any favours for a UK economy frustrated by political uncertainty.
The prospect of weaker global activity, and particularly a protracted trade war, has been having a negative impact on global financial markets. In late 2018, equity prices declined and credit spreads moved higher. The Deloitte Insights team note, “US equities fell more in December 2018 than in any December since 1931 during the great depression”. That said, there has been some improvement in these very early stages of 2019, particularly as the Federal Reserve has signalled it will pause on interest rate rises.
So the global backdrop is important for Australia’s growth prospects. A reduction in global economic growth will flow through to key export industries including mining, agriculture and education, and could also see slower income growth at home, driven by lower commodity prices, and with greater risks over the $A.

For more information on the Australian brief, please contact co-authors David Rumbens and Monique Champion.

 

UK economic briefing by Ian Stewart

A personal view from Ian Stewart, Deloitte’s Chief Economist in the UK. Subscribe to & view previous editions at: https://blogs.deloitte.co.uk/mondaybriefing/

  • It’s been a good couple of years for the global economy. Growth in 2017-18 was stronger than at any time since the global economy bounced back from recession, in 2010-11. The euro area broke out of its post-crisis malaise. Unemployment has fallen in most countries, in the case of the US, Germany, Japan and the UK, to multi decade lows. It’s been a good couple of years for the global economy. Growth in 2017-18 was stronger than at any time since the global economy bounced back from recession, in 2010-11. The euro area broke out of its post-crisis malaise. Unemployment has fallen in most countries, in the case of the US, Germany, Japan and the UK, to multi decade lows.
  • But nothing lasts forever. As we enter 2019 the global cycle is turning. Higher US interest rates and rising protectionism are starting to act as a drag on, what is, by any yardstick, a mature recovery. Growth in the Japanese, German and Italian economies unexpectedly contracted in the third quarter. Indicators which often identify turns in the cycle – business confidence, order books, equity and commodity prices – have softened. Last week the World Bank warned of “darkening skies” for the global economy.
  • Equity investors, especially in the US, took fright in December, increasingly nervous about slowing growth and the prospect of higher US interest rates. Add in a trade war, high levels of debt and worries about Brexit, Italian banks, protests in France and the rest and it’s not surprising that the ‘r word’ – recession – keeps popping up. Last month saw more searches for the term recession on Google than in any month since late 2011, at the height of the euro crisis.
  • That seems a little premature. 2019 looks likely to be a year in which global growth eases, rather than collapses, mainly because of slower growth in Europe and China.  Agreed, there are plenty of risks. But the most likely outcome – as opposed to what could happen – is that global growth softens this year. Here’s why.
  • Recessions usually occur because high interest rates are needed to crush inflation or because of a financial crisis. Today, even in economies, such as the US and Germany, which have been ‘running hot’, where unemployment is exceptionally low, the classic signs of inflationary excess are largely absent.
  • This means that Central Banks are under no great pressure to hike rates. This is why the US Federal Reserve, faced with growing market nervousness, has been talking down expectations for interest rate rises in recent weeks. The Fed Chair, Jerome Powell, has suggested that financial markets have become overly pessimistic about growth. The message has been received. Market expectations for the future level of US rates have dropped since November, so much so that the positioning implies US rates may stay on hold this year. Together with better news on US-China trade negotiations this has helped push equities up since the start of this year.
  • What of the risk of a financial crisis? This is trickier. The International Monetary Fund says the financial system is, “more resilient…less leveraged, more liquid, and better and more intensively supervised” and it’s hard to disagree. Big banks, in particular, look much safer. But financial crises often spring from unexpected places. In the case of the US these were the Savings and Loan associations in the early 1990s, dot-com stocks in the early part of this century and the subprime mortgage market 12 years ago.
  • In recent years tougher regulation and low interest rates have boosted activity and innovation outside of the banking system. Leveraged debt, so-called cov-lite lending, private equity, peer to peer lending – these and many other areas have grown as investors seek higher yields. Nobody knows the source of the next financial crisis. A slow pace of rate increases tempers, but does not eliminate, the risks of a financial blow up. High debt levels and an economic slowdown could, in themselves, tip at-risk sectors into problems.
  • Protectionism is the other looming risk to global growth. Last spring Mr Trump made good on his long standing hostility to the international trading order, imposing tariffs on $350 billion of Chinese imports. Trade tensions have dampened sentiment and hit equities. The US wants China to buy more US products and crack down on intellectual property theft. Talks between the two sides are continuing.
  • With the Chinese and US economies slowing the pressure on the two sides to reach an agreement is rising. Each knows that a serious escalation of the trade spate would increase the risks to growth in their own countries.
  • China is already coping with a long-term slowdown as it adapts to a shrinking workforce. An era of heady growth based on cheap and abundant labour, rapid industrialisation and breakneck export growth is drawing to an end. Activity is tilting towards services and higher-end manufacturing. The slowdown has, since the middle of 2016, been reinforced by tighter policy designed to counter the risks of a debt bubble.
  • There’s been a marked change in the trajectory of the Chinese economy. In the 30 years to 2010 China grew by an average of 10.5% a year, enough to double the size of the economy in seven years. Today the IMF sees China growing by around 6.0% a year over the next five years.
  • Elsewhere in emerging markets the picture is mixed. The likes of Turkey, Argentina and Venezuela are in a bad way and suffering from largely home grown problems. But the Indian economy is steaming ahead, with growth well above 7.0% and the IMF see activity in the Middle East and Africa nudging higher next year.
  • The euro area is one region where growth definitely is slowing. Higher inflation, caused by past commodity price rises, has squeezed real incomes. Protectionism and weaker Chinese demand are weighing on German exports and its automotive sector continues to suffer the effects of the emissions scandal (it is possible that German GDP data released tomorrow will show that the German economy fell into technical recession in the second half of last year).  In France the gilets jaunes protests have caused disruption and uncertainty. Brexit has added to the risks across the euro area, but especially in countries, including Ireland and the Netherlands, with greater UK exposure.
  • Two unfinished tasks for Europe’s policymakers are to strengthen Italy’s banking system and to increase the resilience of Europe’s monetary union. May’s elections to the European Parliament are likely to be seen as a major test of public support for insurgent and populist political parties.
  • There are plenty of risks to navigate in Europe and elsewhere. Moreover, the ability of policymakers to respond to a severe downturn is arguably more constrained than ten years ago. Ultra low interest rates, weaker international coordination and high levels of government debt could hamper future attempts to boost growth.
  • My sense is that the global economy is at greater risk of recession in 2020 than in 2019. We can, perhaps, take some comfort from the fact that recessions of the scale of 2008-09 are highly unusual. All other post-war recessions in the UK and US have been milder and had less lasting effect. It is to be hoped that the same will apply to the next one.
  • But back to 2019. Our hunch is that it will be a reasonable year for global growth. But that growth will be shared unevenly across the world. For my money probably the greatest risk to the notion of a gradual slowdown in growth this year lies in a financial blow up of some sort.
  • This week’s Briefing has little to say about the UK, an omission caused by the constraints of space and the UK’s particular circumstances at the moment. We will return to the UK economic outlook next Monday.

PS: We have previously argued that cash is likely to remain attractive to consumers for a long time to come. Last week an FT article commented on Japan’s continued love affair with cash. Around two thirds of transactions in Japan are in cash, double the rate of other developed economies. Low street crime, an ageing population and low interest rates contribute to the popularity of hard money though the article also notes that, “anonymity, portability, resilience to earthquakes, distrust of banks and a sensation of ownership” play a role. Japan’s resistance to digital money illustrates that the practical application of innovations is bounded by human preferences. Technologists, policymakers and economists may see convenience and lower cost as giving digital payments an overwhelming advantage over cash. The continuing popularity of cash in Japan demonstrates that  consumers do not always behave like ‘homo economicus’, the theoretical rational human being.

OUR REVIEW OF LAST WEEK’S NEWS

The UK FTSE 100 equity index ended the week up 1.2% at 6,918. Equity markets across the world were buoyed by hopes that the US and China might be edging towards an agreement on trade and by doveish signals on interest rates from the US Fed.

Economics and business

  • US car manufacturer Ford is to cut thousands of European jobs as part of a $14 billion global cost reduction plan
  • British carmaker Jaguar Land Rover is to cut 4,000 jobs globally as part of its £2.5 billion plan to reduce costs
  • Federal Reserve Bank of Boston president Eric Rosengren said financial markets are underestimating the resilience of the US economy
  • The euro area unemployment rate fell to 7.9% in November, the first time it has been below 8% in 10 years
  • German industrial production fell for the third consecutive month
  • UK retailers suffered their worst Christmas since 2008, according to the British Retail Consortium
  • Virgin Atlantic and Stobart Group made a £2.2 million bid to buy embattled airline Flybe
  • The FT reports that only 16 out of 450 hedge funds monitored by HSBC delivered positive returns in 2018 as higher US interest rates and falling equities took their toll
  • An executive from Chinese telecoms firm Huawei has been arrested in Poland on charges of spying for China
  • The World Bank cut its forecast for global growth in 2019 to 2.9% from 3%, citing “rising downside risks to the outlook”
  • In a sign of slowing momentum in the US economy US corporates cut their estimates for growth in 2018Q4 profits
  • Japanese conglomerate SoftBank radically scaled back new investment in flexible office space supplier WeWork, from $16 billion to $2 billion
  • Weak demand has forced major iPhone resellers in China to cut prices on some models by more than 20%
  • Luxury car maker Rolls-Royce recorded its highest ever sales in 2018, in part due to wealthy US buyers who were buoyed by President Trump’s tax cuts
  • French prime minister Edouard Philippe said the government would press ahead with economic reforms despite the ongoing protests by “gilets jaunes”
  • Two thirds of roadside speed cameras in France have been vandalised in an act of revolt linked to the “gilets jaunes” protests
  • Saudi Arabia sold $27 billion of bonds to international investors, months after the international outcry after the alleged killing of journalist Jamal Khashoggi

Brexit and European politics

  • British Cabinet ministers suggested that a backlog of at least six essential bills that must be passed by Parliament before the UK leaves the EU means the timetable for Brexit may be extended
  • Billionaire Peter Hargreaves and hedge fund manager Crispin Odey, two of the biggest donors to the campaign for the UK to Leave the EU, say there is a growing chance that the Government will abandon Brexit
  • Mr Odey said if that were to happen sterling and some UK stocks would see strong gains
  • Japan’s prime minister Shinzo Abe pledged “total support” for Theresa May’s withdrawal agreement with the EU, adding the “whole world” wants the UK to avoid a no-deal Brexit
  • Honda UK has said it will shut down its Swindon factory for six days in April to adjust to “all possible outcomes caused by logistics and border issues” after Brexit
  • French insurer AXA announced plans to move staff from the XL Group, a company it acquired last year, from the UK to Ireland because of Brexit
  • Rebel Conservatives and Labour MPs voted to force Theresa May to announce new Brexit plans within three days if her deal fails in the Commons tomorrow; they also voted to curb the government’s tax administration powers in the event of a no-deal exit, without explicit authorisation from Parliament
  • The value of real estate transactions in Frankfurt rose by 36% last year, boosted by growing demand for office space as 25 UK-based banks move operations and staff from London to Frankfurt

And finally… Bristol City Council has banned the sale of cheese toasties from a snack van, concerned that the outlet could become “a magnet” for antisocial behaviour and “lure” pupils from nearby Orchard School which faces problems with truancy – up to no gouda

 


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