As we head into the summer holiday period, I’ve revisited my central case forecasts to try and reflect recent data points, including an apparent pattern of weaker than expected inflation prints across different economies and taking another look at the question of whether we will get recessions (even just modest technical ones).
Resilience into the summer
The June global Purchasing Managers' Index (PMI) business survey indicators suggested that private sector activity is growing at a decent positive pace (albeit slowing a little). Unemployment rates generally remain very low… even if you can see a bit of uptick in some of the very recent data points. Consumer confidence indicators have been improving in Europe and the US, likely reflecting still relatively healthy labour markets and improving real income growth (on the back of higher wage growth and lower headline inflation).
Time to stop worrying about recessions?
So, can we stop worrying about recessions? I don’t think we can, and I have still got them pencilled into my forecasts for several major economies including the UK. The July flash PMI business surveys in the US and Europe already looked consistent with further slowing in global growth. I still worry about the risk of more substantial recessions if inflation doesn’t fall as sharply as I expect, and central banks end up hiking a lot more than in my central forecast.
A lot rests on falling inflation
While recessions can help slow inflation, lower inflation driven by lower energy and food prices and feeding through into broader core inflation will bring relief for both households and central banks. If inflation falls swiftly enough driven by these factors, the chance of more robust growth in 2024 grows.
Falling inflation has built up a head of steam as a theme over recent weeks with US headline Consumer Price Index falling fairly steadily since June 2022 and recent US, euro area and UK inflation data releases surprising on the downside. I remain more worried by underlying inflation trends in the UK than in the US for example, but see good reasons for a further sizeable fall in headline and core inflation in the UK and euro area too by the end of the year. Core is likely to follow lower energy inflation with a lag and business survey price measures look consistent with further falls in core goods inflation. That said, wage trends look uncomfortably strong (from a central bank perspective) in both economies and services, inflation is going to need to slow substantially before I’d expect central banks to feel confident that inflation is heading sustainably for 2%.
For now, I am sticking with my view that there’s a little more central bank tightening to come (now including another 50bp, likely over two meetings, in the UK) and that we’ll still see (modest, technical) recessions in some of these economies in coming quarters on the back of all that monetary policy tightening and accompanying relative tightness in bank lending conditions.
Central case description
I’ve pencilled modest recessions in for 2023-2024 in a number of economies including the UK. Beyond 2024, after a period of recovery, I assume that major economies approach an estimated trend rate of GDP growth.
Much of the 2023 GDP growth forecasts are driven by the performance of economies over the start of this year (when the euro area economy was flattish, but the US economy recorded relatively robust growth rates). The forecasts for relatively slow growth in 2024 (with modest recessions for some, heading into the year) are driven by monetary policy tightening. The forecasts assume that bank lending conditions remain relatively tight well into 2024 and the lags of monetary policy are assumed to be a bit longer than usual in (see 'Rate hikes: How long are the lags?').
2023 rate hikes continue to feed through to mortgage payments in my central case, likely to be a rolling drag on consumer spending in economies like the UK. Insolvencies seem likely to rise as some firms struggle to service their debt.
Moving into the second half of 2024 and into 2025, consumer spending is likely to be supported by lower headline inflation alongside still relatively robust wage growth.
Unemployment rates do not rise sharply in the forecasts as economies slow, though do rise. I’d expect falls in the unemployment rate beyond the next couple of years, driven by demand for labour intensive services and lower labour participation rates as populations age (alongside GDP growth coming in closer to trend).
In the forecasts, beyond the near term, inflation continues to average slightly above central bank target levels. That reflects a number of longer-term pressures on inflation that are likely to add to inflation volatility and raise the average (including climate change) and the idea that the recent period of strongly above target inflation will have raised inflation expectations somewhat (and on a more lasting basis).
I still assume that we will see rate cuts from late 2024 as central banks become more convinced that they’ve done enough to see inflation return to target and stay there. However, cuts are not rapid and interest rates do not fall to pre-pandemic levels. Rates, though falling, remain at restrictive levels for most of the forecast as inflation struggles fully and sustainably to return to target in my central case.
I don’t assume that fiscal policy will act as a strong support for growth in the coming years and I assume it drags modestly in the medium term in the central case. However, I also assume that pressures from factors like population ageing and the green transition keep most major economy governments from launching substantial austerity measures despite higher post-pandemic government debt levels.
I have not assumed that China will act as an engine of global growth in the central case. More policy support seems likely. However, with authorities likely unwilling to risk stoking financial instability or inflation especially given the recent examples of the US and Europe, I am not expecting China to stimulate its economy so much that it becomes a strong global growth engine over the forecast.
July central case forecasts
Source: Refinitiv DataStream, national statistics offices, Bloomberg Finance L.P. for past actual data. All forecasts (e) are RLAM as at 25.7.2023. Note: US policy rate is the upper end of the Fed Funds target range. Euro area policy rate is the refi rate.
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