Dangerous Times: The Global Economic Outlook
Dr Neil Blake
Director of Economic Analysis
13th October 2011
Overview
• Recent Economic Developments: why is the economic recovery running out of steam?
• The economic outlook:– Can the Eurozone muddle through?– Will fiscal constraints strangle the US recovery?– Where does the UK fit in?– Can the emergers drive global economic growth?– Is the inflationary threat over?
• Implications for investors
Stock Markets are on the slide …
75
80
85
90
95
100
105
110
115
Oct Nov Dec Jan Feb Mar Apr May Jun Jul Aug Sep
Stock Price Indices2010Q4 = 100
Source : Oxford Economics/Haver Analytics
USA
France
China
…and business confidence is collapsing
25
30
35
40
45
50
55
60
65
2005 2006 2007 2008 2009 2010 2011
Manufacturing Purchasing Managers' IndexIndex
Source : PMI/Markit
Eurozone
US manufacturing ISM
China
What has gone wrong?
• Partly a normal inventory cycle• High commodity prices damaging consumer
spending power• Coordinated fiscal retrenchment + monetary
tightening in emerging markets• Ongoing problems of the Eurozone – danger of
a second banking crisis• Continued weakness of bank lending and/or
credit demand• Worries over a double dip in the US
Currency areas are creating tensions• Some euro area countries have
current account deficits with offsetting capital flows financed by ECB, IMF and surplus governments.
• The deficit countries have weak growth but monetary policy is tightening and confidence is fragile
• All member countries want to maintain the euro but still not clear that they will take the necessary measures to do so
• The US has a large current account deficit with China financing it by buying treasuries
• The US has weak growth but monetary policy is set to remain expansionary and fiscal policy has tightened but..
• China etc has inflationary problems but is resisting any exchange rate changes
EUROZONE BUDGET BALANCES
(in per cent of GDP)
2009 2011 2013
0
-2
-4
-6
-8
2009 2011 2013* Germany, Netherlands, Belgium, Austria and Finland.** Italy, Spain, Greece and Portugal.
"North"*
"South"**
EUROZONE CURRENT ACCOUNT BALANCES
(in per cent of GDP)
2009 2011 2013
0
2
4
6
-2
-4
-6
2009 2011 2013
"North"*
"South"**
* Germany, Netherlands, Belgium, Austria and Finland.** Italy, Spain, Greece and Portugal.
Worries about Debt
30
40
50
60
70
80
90
100
110
1991 1995 1999 2003 2007 2011 2015
0
50
100
150
200
250
World: Government debtGeneral government gross debt, % of GDP
Source : Oxford Economics/Haver Analytics
Japan (RHS )
US (LHS )
Eurozone (LHS )
Forecast
An age of fiscal retrenchment
-1.5
-1
-0.5
0
0.5
1
1.5
2
2.5
2002 2006 2010 2014
change in cyclically-adjusted structural balance (sign reversed), % of potential GDP
Source : Oxford Economics/Haver Analytics
IMF Forecast
Eurozone Problems
• The immediate problem is one of excessive public deficits and debts in some countries
• The longer-run problem is one of low external competitiveness and deficits in those same countries
• Austerity in Greece, Ireland or Portugal (but also in Spain or Italy) can help reduce both sets of deficits, but only at the cost of a prolonged period of very low growth
• Policy makers running at a different speed to markets• Emerging policy reaction appears to accept the possibility of a Greek
default but not of a Greek devaluation; focus is protecting banks and on stopping contagion
• Should permit slow though positive growth in 2012, but …• Policymakers could be over-taken by events; cannot rule out the breakup
of the Euro area
There is a significant risk of financial contagion
0 200 400 600 800
Japan
Spain
Italy
US
UK
Germany
France
Rest of world
Greece
Ireland
Portugal
Spain
Italy
World : Bank exposures to PIIGS
US$ billion, 2011Q1Source : Bank for International Settlements
• US appears to be teetering on the brink of recession– Labour market data has been particularly weak
– House prices are falling sharply once more
• The Fed has launched ‘Operation Twist’, selling shorter-term assets to buy long-term US treasuries. It will also reinvest principal payments from its agency holdings in agency mortgage-backed securities, in an attempt to support the housing market
• Operation Twist has had a modest effect on long-term rates which in turn should provide a modest boost to the economy. But more QE may still be on the way
• Emerging markets are still reporting high inflation rates and there are signs of property bubbles in some markets
• Policy has been tightened aggressively and there are signs that growth is slowing…but might this need to be reversed?
There are other global concerns too
US situation was fragile with unemployment high…
-7
-6
-5
-4
-3
-2
-1
0
0 3 6 9 12 15
Quarters from pre-recession peak
% c
han
ge
in e
mp
loym
ent
fro
m p
eak
Source : Oxford Economics/Haver Analytics
This cycle
2001/021973/74
1981/82
1990/91
And house prices falling again
-25
-20
-15
-10
-5
0
5
10
15
20
2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
% year
Source: S & P
US: House Prices*
* Case-Shiller index
Inflation at uncomfortable levels in emergers
-2
0
2
4
6
8
10
12
14
16
18
20
2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
% year
China
Source: Oxford Economics
BRICS: Consumer prices
India (CPI)Brazil
Russia
…and consumption growth has eased…..
-20
-15
-10
-5
0
5
10
15
20
1997 1999 2001 2003 2005 2007 2009 2011
% year
Korea (Wholesale/Retail)
Source: Haver Analytics
Emerging Asia: Retail sales & consumption
Volumes (3 month moving average)
China
Thailand
The UK recovery has been a bumpy ride so far
-2.5
-2.0
-1.5
-1.0
-0.5
0.0
0.5
1.0
1.5
2.0
2006 2007 2008 2009 2010 2011
GDPConsumer Spending
UK GDP & Consumer Spending% per quarter
Source : Oxford Economics/Haver Analytics
Post-Royal Wedding Bounceback Has Stalled
85
87
89
91
93
95
97
99
101
103
105
2007 2008 2009 2010 2011
UK: Output Indices2007=100
Source : ONS
Services
Manufacturing
…and confidence to deteriorate sharply…
-45
-40
-35
-30
-25
-20
-15
-10
-5
0
5
2005 2006 2007 2008 2009 2010 2011
60
70
80
90
100
110
120
UK: Consumer & business confidence% balance
Source : Haver Analytics
Consumer - GfK NOP(LHS)
Business - EC(RHS)
LT average = 100
…now surveys point to a renewed slowdown
25
30
35
40
45
50
55
60
65
2005 2006 2007 2008 2009 2010 2011
UK: Purchasing managers surveys% balance*
Source : CIPS/Markit
Construction activity
Manufacturingactivity
Services businessactivity
*value over 50 indicates rising activity
…intensifying the squeeze on household finances
50
60
70
80
90
100
110
Consumer Spending Power Indicator2007 = 100
Source : Oxford Economics
Household debt levels remain very high…
90
100
110
120
130
140
150
160
170
180
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014
UK: Household debt-to-income ratio% of household disposable income
Source : Haver Analytics, Oxford Economics
Forecast
…unemployment is rising…
2
3
4
5
6
7
8
9
10
1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014
%
Claimant count
ILO
UK: Unemployment
Forecast
Source: Oxford Economics
Plenty of cash on corporate balance sheets…
-6
-4
-2
0
2
4
6
8
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
UK: Corporate sector financial balance% of GDP, 4QMA
Source : Haver Analytics
Financial corporations
Non-financial corporations
Low-ish borrowing costs…
-1
0
1
2
3
4
5
6
7
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
UK: 10 Year Corporate Bond Yields(calculated using the GVA deflator, %)
Source : Bank of England, ONS, Oxford Economics
Nominal
Real
Company borrowing has stalled
-10
-5
0
5
10
15
20
25
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
UK: Net lending to UK PNFCs£bn
Source : Haver Analytics
Domestically generated inflation is under control but …
UK: CPI Inflation Measures
0
1
2
3
4
5
6
CPIY
CPI Headline
CPIO
Inflation set to rise further…
0
1
2
3
4
5
6
2005 2006 2007 2008 2009 2010 2011 2012
UK: Contributions to CPI inflation% year
Source : Haver Analytics/Oxford Economics
Petrol
Food
Domestic energy
Other
Forecast
Policy Options?
Fiscal policy
• Automatic fiscal stabilisers will provide support if weakness continues – government spending on social benefits, etc will rise and tax revenues will fall
• Temporary VAT cut - unlikely
• Bring capital spending forwards – distinct possibility
Monetary Policy
• Another round of QE – just happened
• A public sector small business bank – unlikely
• Credit Easing – likely, not sure in what form yet
Other Policies
• Planning liberalisation – on the way
• Broader business support – likely to cost too much
China is becoming the world’s major export market
0
50
100
150
200
250
300
2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
Advanced Economies Exports of Goods$USbn
Source : Oxford Economics/Haver Analytics
to USA
to China
Emerging Markets Increase in Importance
(Exports of goods only)
UK Germany France Italy USA Japan Australia
China as a % of exports of goods 2.2 4.9 2.9 2.6 7.2 19.7 26.0USA as a % of exports of goods 11.3 5.2 5.0 5.8 n.a. 15.5 3.8
% Growth in Exports to China 2003/4-2010/11 152.3 174.0 217.7 162.1 207.2 148.8 829.3
% Growth in Exports to USA 2003/4-2010/11 -2.3 -5.3 -0.9 7.7 n.a. 4.8 36.9
…. But structural change is slow• China is a mixed blessing to advanced economies:
– New export opportunities but..– A competitive threat– Pressure on commodity prices– Has a long way to go before it looks like a western economy
• Still heavily export dependent• Structural change will provide new & different opportunities• Same is true of many other emerging markets• Over-reliance on investment? Threat of a crash?
25
30
35
40
45
50
2001 2003 2005 2007 2009 2011 2013 2015 2017 2019
China% of GDP (constant prices)
Source : Oxford Economics/Haver Analytics
Investment
Consumer Spending
Bond
mar
ket s
tres
s
Eurozone financial contagion■ Confidence in peripheral countries’ finances
deteriorates further, leading to an eventual disorderly default
■ Pressure intensifies to cut budget deficits rapidly in all major economies
■ Rising unemployment and business failures feed back into banking
■ New wave of loan losses for global banks leads to tighter credit conditions
■ Limited scope for monetary policy offset
Corporate confidence
Downside risks to Oxford Economics’ forecast
China/Emerger hardlanding
■ Flight from risk leads to falling share & property prices
■ Commercial property crash & external weakness leads to banking sector stress
■ Investment slumps in China as government recapitalises banks
■ Asian supply chain effected as domestic engine of growth stalls
Oxford forecast■ Gradual rise in business confidence
encourages corporates to invest ■ But weak banks & excess capacity limit
scale of investment recovery■ Consumer spending recovery limited by
pace of job growth and fiscal retrenchment
■ But recovery strong enough that fiscal crisis remains contained
■ Controlled debt restructuring
Recession in USA■ Risk premiums rise and global stock markets
tumble again with falls in business confidence■ Continued political deadlock between
Democrats and Republicans leads to fiscal paralysis
■ Slump in labour market fuels household retrenchment and consumption falls
■ Renminbi rises sharply as trade pressures grow
Bond
mar
ket s
tres
s
Eurozone financial contagion■ Confidence in peripheral countries’ finances
deteriorates further, leading to an eventual disorderly default
■ Pressure intensifies to cut budget deficits rapidly in all major economies
■ Rising unemployment and business failures feed back into banking
■ New wave of loan losses for global banks leads to tighter credit conditions
■ Limited scope for monetary policy offset
Corporate confidence
Downside risks to Oxford Economics’ forecast
China/Emerger hardlanding
■ Flight from risk leads to falling share & property prices
■ Commercial property crash & external weakness leads to banking sector stress
■ Investment slumps in China as government recapitalises banks
■ Asian supply chain effected as domestic engine of growth stalls
Oxford forecast■ Gradual rise in business confidence
encourages corporates to invest ■ But weak banks & excess capacity limit
scale of investment recovery■ Consumer spending recovery limited by
pace of job growth and fiscal retrenchment
■ But recovery strong enough that fiscal crisis remains contained
■ Controlled debt restructuring
Recession in USA■ Risk premiums rise and global stock markets
tumble again with falls in business confidence■ Continued political deadlock between
Democrats and Republicans leads to fiscal paralysis
■ Slump in labour market fuels household retrenchment and consumption falls
■ Renminbi rises sharply as trade pressures grow
Bond
mar
ket s
tres
s
Oxford forecast
■Gradual rise in business confidence encourages corporates to invest
■But weak banks & excess capacity limit scale of investment recovery
■Consumer spending recovery limited by pace of job growth and fiscal retrenchment
■But recovery strong enough that fiscal crisis remains contained
■Controlled debt restructuring
Bond
mar
ket s
tres
s
Eurozone financial contagion■ Confidence in peripheral countries’ finances
deteriorates further, leading to an eventual disorderly default
■ Pressure intensifies to cut budget deficits rapidly in all major economies
■ Rising unemployment and business failures feed back into banking
■ New wave of loan losses for global banks leads to tighter credit conditions
■ Limited scope for monetary policy offset
Corporate confidence
Downside risks to Oxford Economics’ forecast
China/Emerger hardlanding
■ Flight from risk leads to falling share & property prices
■ Commercial property crash & external weakness leads to banking sector stress
■ Investment slumps in China as government recapitalises banks
■ Asian supply chain effected as domestic engine of growth stalls
Oxford forecast■ Gradual rise in business confidence
encourages corporates to invest ■ But weak banks & excess capacity limit
scale of investment recovery■ Consumer spending recovery limited by
pace of job growth and fiscal retrenchment
■ But recovery strong enough that fiscal crisis remains contained
■ Controlled debt restructuring
Recession in USA■ Risk premiums rise and global stock markets
tumble again with falls in business confidence■ Continued political deadlock between
Democrats and Republicans leads to fiscal paralysis
■ Slump in labour market fuels household retrenchment and consumption falls
■ Renminbi rises sharply as trade pressures grow
Bond
mar
ket s
tres
s
Eurozone financial contagion
■Confidence in peripheral countries’ finances deteriorates further, leading to an eventual disorderly default
■Pressure intensifies to cut budget deficits rapidly in all major economies
■Rising unemployment and business failures feed back into banking
■New wave of loan losses for global banks leads to tighter credit conditions
■Limited scope for monetary policy offset
Bond
mar
ket s
tres
s
Eurozone financial contagion■ Confidence in peripheral countries’ finances
deteriorates further, leading to an eventual disorderly default
■ Pressure intensifies to cut budget deficits rapidly in all major economies
■ Rising unemployment and business failures feed back into banking
■ New wave of loan losses for global banks leads to tighter credit conditions
■ Limited scope for monetary policy offset
Corporate confidence
Downside risks to Oxford Economics’ forecast
China/Emerger hardlanding
■ Flight from risk leads to falling share & property prices
■ Commercial property crash & external weakness leads to banking sector stress
■ Investment slumps in China as government recapitalises banks
■ Asian supply chain effected as domestic engine of growth stalls
Oxford forecast■ Gradual rise in business confidence
encourages corporates to invest ■ But weak banks & excess capacity limit
scale of investment recovery■ Consumer spending recovery limited by
pace of job growth and fiscal retrenchment
■ But recovery strong enough that fiscal crisis remains contained
■ Controlled debt restructuring
Recession in USA■ Risk premiums rise and global stock markets
tumble again with falls in business confidence■ Continued political deadlock between
Democrats and Republicans leads to fiscal paralysis
■ Slump in labour market fuels household retrenchment and consumption falls
■ Renminbi rises sharply as trade pressures grow
Bond
mar
ket s
tres
s
Recession in USA
■Risk premiums rise and global stock markets tumble again with falls in business confidence
■Continued political deadlock between
■Slump in labour market fuels household retrenchment and consumption falls
■Renminbi rises sharply as trade pressures grow
Bond
mar
ket s
tres
s
Eurozone financial contagion■ Confidence in peripheral countries’ finances
deteriorates further, leading to an eventual disorderly default
■ Pressure intensifies to cut budget deficits rapidly in all major economies
■ Rising unemployment and business failures feed back into banking
■ New wave of loan losses for global banks leads to tighter credit conditions
■ Limited scope for monetary policy offset
Corporate confidence
Downside risks to Oxford Economics’ forecast
China/Emerger hardlanding
■ Flight from risk leads to falling share & property prices
■ Commercial property crash & external weakness leads to banking sector stress
■ Investment slumps in China as government recapitalises banks
■ Asian supply chain effected as domestic engine of growth stalls
Oxford forecast■ Gradual rise in business confidence
encourages corporates to invest ■ But weak banks & excess capacity limit
scale of investment recovery■ Consumer spending recovery limited by
pace of job growth and fiscal retrenchment
■ But recovery strong enough that fiscal crisis remains contained
■ Controlled debt restructuring
Recession in USA■ Risk premiums rise and global stock markets
tumble again with falls in business confidence■ Continued political deadlock between
Democrats and Republicans leads to fiscal paralysis
■ Slump in labour market fuels household retrenchment and consumption falls
■ Renminbi rises sharply as trade pressures grow
Bond
mar
ket s
tres
s
China/Emerger hardlanding
■Flight from risk leads to falling share & property prices
■Commercial property crash & external weakness leads to banking sector stress
■Investment slumps in China as government recapitalises banks
■Asian supply chain effected as domestic engine of growth stalls
Investor Implications
• Inflation on the wane….but what about QE II?• Emerging markets look strong – but already on the slide/danger of a
bubble (especially in real estate)• Corporate finances and profitability surprisingly good in western
economies – by and large – but confidence lacking – and detailed research needed
• Government bond rate normalisation will happen but not for several years
This document is for information purposes only. The information herein is believed to be correct, but cannot be guaranteed, and the opinions expressed in it constitute our judgement as of this date but are subject to change. Reliance should not be placed on the information and opinions set out herein for the purposes of any particular transaction or advice. Oxford Economics cannot accept any liability arising from any use of this document.
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