Economic Outlook Update, April 2019

AT A GLANCE

•The global economy lost steam at the end of 2018; we expect a further deceleration in GDP growth in 2019 and 2020.

•Recent expectations of slower growth and weak inflation have prompted major central banks to adopt dovish measures to support their economies.

•In a context of political and global trade uncertainty, economic players prefer to postpone investment plans as long as consumption is timid.

•The US and eurozone slowdown is confirmed, Japan is flirting with recession and UK’s economy is dependent on Brexit conclusions.

•China’s rebound is key for emerging markets and for curbing the ongoing global trade slowdown.

The US: No Rebound Expected

In the United States, the economy expanded to 2.9% in 2018 after tax cuts supported profits and credit growth. We expect the effects of the fiscal boost to fade through 2019 and 2020 and real disposable income to gradually slow.

The current conditions will impact business investments and consumers through weaker durable consumption and softer home sales. As a consequence, the growth is expected to decelerate closer to long-term trend levels, i.e. to 2.3% in 2019 and 1.8% in 2020 (versus our previous forecasts of 2.1 and 1.5%).

Recent indicators have been giving opposite signals since the start of 2019. The manufacturing sector has slowed with PMIs following a downward trend while the job market remains strong. Business and consumer confidence surveys indicate more optimism, probably linked to the recent progress in negotiations with China.

The message after the last Fed meeting was more prudent than expected. The conclusions suggested a pause in rate hikes throughout 2019 at least (vs. two rate hikes previously planned).

The Fed keeps its intention to hike rates one last time in 2020 to 2.75% but with a low conviction coming from voting members. We think the Fed funds rate will remain at the current level of 2.5% in 2019 and 2020. As for the balance sheet normalisation, the Fed aims to end it in September. The FOMC has downgraded its economic growth projections for the coming years.

Inflation projections remain in check with 1.7% expected in 2019 (1.8% in the previous forecast) and 2% in 2020. The Fed has thus no incentives to increase rates.

The key risk for the US remains on the trade policy side as negotiations between the US and China are ongoing. We  still expect a deal to be concluded and a favourable outcome, that could boost business confidence. However, a risk of trade tensions between the US and the EU could emerge as the Trump administration could threaten to increase import tariffs, mainly on European cars.

Eurozone:  From Recovery to Slowdown

The eurozone economy has slowed sharply. The economy grew at 1.8% in 2018 and the forecast indicates a deceleration to 0.9% in 2019 and to 1% in 2020. This is a further moderate downward revision (1.4% and 1.2% previously).

Our economic projections have been revised down considering the weakening demand associated with business and consumer pessimism and fading intra-area trade growth.

Germany faced difficulties after a technical recession was barely avoided with  growth close to zero in the last quarter of 2018. The manufacturing sector has weakened during the last few months with business surveys such as PMIs for a majority of Eurozone countries in “contraction” zone.

Capex surveys are deteriorating, indicating a delay in investment plans in view of the uncertain business environment. The service sector is in better shape than expected. The fact that the eurozone economy is struggling, despite an accommodative policy mix, shows that fundamentals are vulnerable to downside shocks.

The ECB revised down its projections in early March for growth and inflation in both 2019 and 2020. In response, the ECB turned more dovish announcing that rates were expected to remain unchanged at least during 2019. The ECB announced a series of TLTROs to stimulate bank lending and to prevent bank liquidity ratios to deteriorate.

We no longer forecast an increase in the refi rate. The ECB could lift its deposit rate from -0.40% to -0.20% in the first quarter of 2020. Our inflation forecasts for 2019 and 2020 are lower at 1.2%, and 1.4% (1.8 and 1.5% previously).

Risks in Europe have intensified recently. First, Brexit remains a source of political uncertainty, as the scenario seems to be a short (or long) extension of Article 50. Second, there is a risk that the European parliament elections in May result in a greater presence of anti-establishment parties.

This could drive up risk premiums. Third, the upcoming trade talks between US and the EU about introducing tariffs on cars could decrease growth prospects in the eurozone      (-0.25pp) and Germany (-0.45pp).

The UK faces Brexit Uncertainties and Japan Flirts With Recession

United Kingdom

After a year of moderate growth (1.4% in 2018), a deceleration to 1.1% is expected in 2019. This is a downward revision from 1.8%. Even if the fundamentals for the UK economy remain resilient, uncertainty surrounding the Brexit saga with the EU imposing new deadlines in April or May, will weigh on business and delay investment decisions.

A rebound is expected In 2020 to 1.5%, assuming that Brexit will be finalised with a deal in the coming weeks. This is the most likely scenario at this stage. After recent events, the no-deal scenario is less likely but still remains a possibility.

The Bank of England  has joined all major central banks in March by adopting  patient behaviour due to the political uncertainty worldwide. The Article 50 should be extended and the BOE is unlikely to hike rates at least until the end of the year.

Moreover, the moderate growth and inflation outlook suggest that current conditions point to a rate stabilization. Our inflation forecast is 1.9% for 2019 and 2% for 2020.

Japan  

The economic recovery has been running out of steam and the risks of a recession have increased. GDP growth reached 0.8% in 2018 but should decelerate to 0.2 % in 2019 and 0.3% in 2020. This is a downward revision from 0.5 and 0.3%. Despite the recovery initiated by the construction industry in a context of strong demand for the 2020 Olympic games, the global slowdown and the trade war have affected the cyclical momentum since the start of 2018.

The manufacturing sector is struggling with the manufacturing PMI contracting since February and other business surveys showing pessimism. Exports are declining mainly due to China’s economic slowdown, forcing manufacturers to restrain investment plans. Deteriorating terms of trade and slumping productivity growth fail to push up real wages that is making private consumption weak.

The BoJ has revised down its expectations for inflation and growth, thus increasing probability that the VAT hike planned in October may be delayed. We have thus changed our inflation forecasts. After a 1% increase in 2018, we expect now inflation is to decelerate at 0.5% in both 2019 and 2020 (1% and 1.5% in our previous scenario).

If a postponement of the VAT hike is confirmed, it is likely to see fiscal policy spending to try boosting the economy. Monetary policy is not expected to change in the next few months but further easing could be considered if economic conditions require it.

Emerging Markets: China’s Rebound is Key

For emerging economies, the global trade slowdown has affected growth prospects. Diverging trends seem to suggest a stabilisation. Domestic demand in emerging markets remains generally strong except in China, which is hampering global demand. Economic growth is expected to be 5.9% in both 2018 and 2019 and 5.8% in 2020.

The key factor will be China’s rebound that could provide better prospects. Our inflation forecasts remain stable at 2.5% for 2019 and 2.8% for 2020 (after 2.6% in 2018).

In China, the economic growth slowdown has weakened recently after trade tensions with the US dwindled with the ongoing negotiations. The economy is expected to grow at 6.2% in 2019 and at 6% in 2020, decelerating from 6.6% in 2018. Policy choices have turned from a massive deleveraging campaign to more focus on economic growth.

Credit supply has strengthened significantly, while fiscal policy has eased, thus providing hopes for a better outlook but this needs confirmation in the coming months. Inflation was 2.1% in 2018 and the forecast for 2019 and 2020 are respectively 1.6% and 2% (vs. 1.9% and 2.5% previously).

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In Brazil, the political uncertainty following Mr Bolsonaro’s election victory constrained the rebound in 2018 with economic growth of 1.1%. Less uncertainty combined with expansionary monetary policy should benefit the Brazilian economy. We have changed our outlook.

We now forecast growth to accelerate to 2% in 2019 and 3% in 2020 (3% and 2.5% previously). We expect inflation to remain stable  at 3.8% in 2019 and 3.6% in 2020 after 3.7% in 2018.

In Russia, after a difficult start to 2018, fundamentals seem to be consolidating, and future expectations stabilising. Economic growth is now expected at 1.5% in 2019 and 1.8% in 2020 (1.7% and 1.6% previously).

The outlook for long-term growth remains dependent on US sanctions even if Russia’s economy has enough flexibility to bear them. The central bank announced in mid-march that inflation was expected to rise to 5.1% in 2019 (previously 3.6%).

This sudden increase will be partly due to the VAT rate hike at the beginning of the year and some one-off factors. We now expect inflation to decelerate to 4.1% in 2020.

In India, the next few months will be marked by the upcoming general election in May which should result in the re-election of Modi but there is a danger that he will not be able to form a majority.

The economic growth was 7.4% in 2018 and is still expected to be at 7.6% in 2019 and 7.8% in 2020.  After a rate cut by 25bp in February, the Reserve Bank of India’s monetary policy meeting minutes suggest one more rate cut by 25bp in April, as long as inflation remains below the 4% target. We have revised down our inflation outlook. Our new inflation forecasts are 3.3% for 2019 and 4.1% for 2020 (4% and 4.1% previously).