Macroeconomic house view – June 2023

READ THE market analysis and fund positioning

Global outlook

The world’s economy has proved significantly more resilient than had been expected. The no-landing scenario of a prolonged economic cycle persists against a backdrop of mixed data and huge uncertainties. Even so, the delayed impact of monetary tightening, doggedly high inflation and more restrictive financial conditions point to slower growth ahead. Assuming there are no further external shocks, the major economies should nevertheless be able to avoid a severe recession in the near future.

Our core scenario is for the world’s economy to grow by just under 3% in 2023. Although the industrialised countries face several quarters of low growth, support will come from China and the emerging markets. Soft data already show a positive trend reversal in the first half of the year, firstly in terms of consumer confidence, which has improved from a low base, and secondly in terms of leading indicators for the service sector. A stable labour market, persistently robust consumer spending, ongoing fiscal measures and the fall in inflation are proving supportive to economic activity. Although the authorities’ response to the crisis among U.S. regional banks averted a systemic crisis, higher financing costs and stricter lending criteria will weigh on economic growth in the coming quarters. At the same time, growth in China is also flagging.

“Despite all the difficulties,
the world’s economy has proved significantly more resilient
than had been expected at the start of the year.”

Michael Blümke

The battle against inflation is producing results following the most aggressive rate hiking cycle seen in decades. Headline inflation has peaked and is now on a clear downward path. Core inflation, on the other hand, remains too high in many regions and could become entrenched. Central banks need to remain watchful, given the continuing upward pressure on wages, rents and services. Although the end of monetary tightening is approaching, the target has not yet been reached. Having slowed the pace of rate hikes, central banks in industrialised countries will hold fire in the second half in order to gauge the impact of their policy. If the fall in overall demand is not enough to lower inflation to the 2% target in the foreseeable future, this could lead to a further tightening of monetary policy with attendant consequences for growth projections.

U.S

The U.S. economy grew by 2% QOQ in the first three months, before stabilising in the second quarter. The delayed impact of monetary policy and stricter lending criteria will likely lead to slower growth, although there are no signs of impending recession. There is full employment, although demand for workers is softening in many sectors. Excessive wage rises are being contained. Household income and spending remain healthy. Consumer confidence is on an upward trend, against the backdrop of record-low unemployment. The ongoing strength of consumer spending is partly down to the continued use of savings accumulated during the pandemic. A significant slowdown has occurred in interest-rate sensitive sectors such as real estate. There are indications that the U.S. economy will grow more slowly this year, as evidenced by the downward trend in industrial production, business investment and leading indicators for the manufacturing sector. Following the most aggressive rate hiking cycle seen in the last 40 years, the Fed has partially achieved its target of slowing overall demand and is now proceeding on a more cautious, data-driven basis. Even though inflation has eased in tandem with the slowdown in economic growth, the underlying pressure on prices remains too high – particularly in the service sector. The Fed opted against further rate hikes in June in order to gauge the impact of its more restrictive stance. Rapid, decisive action has given the Fed a degree of leeway, which it can now use to take stock and decide on the future direction of policy. Its own economic forecasts show that this pause may nevertheless be short-lived. Rate cuts are not on the agenda for now, and in the event of a prolongation of the economic cycle – accompanied by persistently stubborn inflation – the Fed will not hesitate to resume its policy tightening. As we see it, the Fed is the best placed of all Western central banks to engineer a soft landing.

Eurozone

The eurozone economy has proved astonishingly resilient. However, more restrictive monetary policy and the fall in real disposable incomes resulted in a technical recession between the final quarter of 2022 and first quarter of 2023. A stable labour market, fiscal support and the fall in headline inflation helped stave off a steeper downturn. Consumer sentiment improved significantly in the first half of the year from the low point reached last winter. The labour market remains robust and business surveys point to expansion, which – as in the U.S. – will mainly be driven by the recovery in the service sector. The latest data nevertheless shows that the pace is slowing and that medium-term prospects remain difficult. The eurozone economy remains vulnerable. Productivity is weak, manufacturing is on the slide, the property sector is under pressure and lending criteria have been tightened considerably. Although the upward pressure on prices in the eurozone has eased, core inflation remains too high in view of rising inflation expectations and rapidly increasing wages. Real interest rates remain deep in negative territory despite the aggressive tightening of monetary policy. With the ECB having tightened policy later than the Fed, it will need to retain its restrictive bias for longer. Whether it succeeds in lowering inflation to 2% without sparking a recession is questionable, however. Higher interest rates, coupled with tighter lending criteria and stubborn inflation, will put the eurozone economy’s resilience to the test. As such, the second half of the year may well turn out to be significantly weaker than expected.

China

The Chinese administration has set a GDP growth target of “around 5%” for 2023. Although this target was still viewed as relatively conservative at the start of the year, the authorities will likely need to implement further targeted fiscal and monetary support measures in order to achieve it. The fact that the economy showed a substantial recovery in the first quarter of this year, with growth of 4.5%, was solely down to strong policy support. Consumer spending was the driving force and showed a double-digit rise in the first quarter. In light of the support from political measures and a raft of infrastructure projects, the service sector recovered quickly and the construction sector stabilised. The recovery nevertheless began to flag in the second quarter as capital investment fell, international demand softened and unemployment remained high. On top of that, the manufacturing sector is in a downturn, lending is showing only tentative growth, imports are falling rapidly, and prices are heading south. Even so, China’s recovery is likely to spur overall demand and thus cushion flagging momentum within the global economy as a whole. This recovery will nevertheless becoming increasingly shaky, with the outlook vulnerable to geopolitical tensions with the West.