James Bevan: Global growth outlook for 2017
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James Bevan
There’s plenty of talk of better economic growth next year — but scant evidence that there will be.
There are signs that global growth is accelerating into the end of 2016, but with China’s credit stimulus now being reined in and global leading indicators perhaps peaking, stronger sustained growth may be wishful thinking, and upgrading global growth expectations in the near term might simply set up scope for disappointment further out. We expect global growth of 3.1% in 2017, only a touch better than this year.
On the US front, Donald Trump’s fiscal stimulus is unlikely to alter this picture materially with the initial fiscal proposals likely to be reduced in size and subject to time lags, and the peak impact not occurring until 2018.
In the meantime, monetary conditions are tightening and the economy is near full employment. This is likely to cap the fiscal “multiplier” and a mildly stagflationary environment could develop, with growth struggling to pick up but inflation tracking higher.
There’s a clear risk of higher inflation outside of the US too, with spare capacity having diminished in all of the major economies whilst China’s deflationary influence on traded goods prices has reversed. In addition, there is a growing onus on politicians to boost wages and the threat of protectionism could pressure globally-integrated supply chains, raising costs. This seems unlikely to worry the major central banks, who seem tolerant of some inflation “overshoot”.
As for Europe, for all the fears or a populist surprise, it does look likely, based on forward polls, that the political establishment will survive 2017 intact, and in the absence of a political shock, the European economy should continue to grow, with inflation continuing to pick up. Yet, the continent’s vulnerability to external shocks offers the potential for a shift in the power balance, from Germany to France.
Digging into these issues in more detail, the turnaround in market sentiment over the last year has been dramatic. In stark contrast to the global growth scare that ushered in 2016, markets now seem to be questioning the continuance of the low growth, low inflation regime that has persisted for the last five years. In fact, the incipient rise in bond yields, the rotation into cyclical stocks and the pick-up in commodity prices hint at a more “reflationary” environment starting to emerge.
Global GDP growth forecasts have also inched higher over the last six months — only very marginally, but this marks something of a change from the perpetual downgrades that have prevailed since 2011. In short, the consensus among markets and economists appears to be that 2017 will be a better year for the global economy.
Drivers
As to what’s driving this, there are some easy answers, such as Trump’s election victory and the notion that he will drive a shift from reliance on monetary policy towards more supportive and expansionary fiscal policy. But the easy answers don’t seem to fit the facts — not just because Mr Trump’s fiscal plans remain quite fuzzy, but also because the shift in market sentiment started well before the US election.
For sure, Trump’s election victory may yet turn out to be a catalyst for regime change, but that doesn’t mean that it will have a major bearing on global growth over the coming year.
That said, there is growing evidence of something fundamental going on. Global leading indicators have been signalling the possibility of a pick-up in activity throughout this year, and more recently there have been signs that global trade has improved.
Thus there are encouraging signs in the air cargo and shipping freight data and on a smoothed basis, volumes of air freight in Asia and the US have risen by more than 7% from their second-quarter lows. European air freight volumes are also growing, although a six-day strike by Lufthansa workers in November might disrupt that improvement in the near term.
Similarly, container shipping volumes started to recover earlier in the year in Asia and Europe, recouping 2015’s declines despite the bankruptcy of Hanjin in August. Overall, these data provide early confirmation of the pick-up in global trade and global trade volumes may be growing at an annual rate of between five and 10% by next spring, even if global trade volumes have only bumped along at around 1% year-on-year for most of this year.
In trying to identify what is supporting this recovery, developments in China look to be key. At the start of this year, it was at the centre of concerns about global growth and over the prior six months, activity had slowed alarmingly, its stock market had lost a third of its value, and the authorities had mis-managed a small devaluation of the renminbi. As global dollar liquidity conditions tightened, capital started to flee the economy at a record pace.
But a distinct change of tack took place in late 2015. In November that year, China’s president, Xi Jinping, re-committed to the target of doubling GDP in the decade to 2020 as part of the 13th Five-Year Plan. The People’s Bank of China (PBoC, China’s central bank) then announced a new currency basket in December, against which it would manage the renminbi, as well as a “slight easing bias” to monetary policy. The finance minister signalled a loosening of fiscal policy. And, more surreptitiously, the PBoC and SAFE (the State Administration of Foreign Exchange) clamped down on numerous clandestine ways of taking money out of the country.
These measures in aggregate addressed the mutual incompatibility of a fixed exchange rate with free flows of international capital; and both with sovereign monetary policy. In China’s case, it is now clear that the need to apply monetary stimulus took priority over the desire to maintain a stable exchange rate and a fully convertible capital account.
As it turned out, China gained further latitude from the Fed’s decision to back away from its previously intended hiking cycle and the burst of credit that followed in China was of a magnitude not seen since the aftermath of the Global Financial Crisis in 2009. Indeed, the first quarter of this year saw a record amount of credit extended to China’s non-financial sector. This is concerning in a medium-term context, but in the shorter term is has helped to stabilise China’s construction, real estate and heavy industry, and the ripple from this has helped the rest of the world via a boost to trade and commodity prices.
Kicking on
Clearly, this has not been the only thing going on over the last year. Critically, the dollar’s stabilisation and the easing in financial conditions have allowed the US economy to recover from the soft patch it experienced at the start of the year.
In many ways, this has represented the flipside of developments in China, and the ‘negative feedback loop’ between these two countries has receded. But on either side of that loop, there are reasons to think that some stress could re-emerge in 2017.
Thus China’s policymakers have clearly become more concerned about the adverse side-effects of their stimulus measures through the course of this year. This has resulted in a series of moves aimed at containing the risks: regional and city-level governments have imposed tighter restrictions on house purchases and real estate development, resulting in a sharp slowdown in real estate transactions since the end of September; regulations have been stiffened on banks’ off-balance sheet lending; capital controls have tightened further, including on corporations’ foreign investments (FDI) and onshore purchases of gold; and most recently, the PBoC appears to have scaled back injections of liquidity, allowing market interest rates to move higher.
Evidently, there is very little appetite on the part of the Chinese Communist Party to let the Chinese economy slow materially from here but the trends suggest that things could get more complicated on several fronts next year, leaving aside the possibility of a stronger dollar, higher US interest rates and the lingering threat of being labelled a “currency manipulator”.
At the very least, the boost to global activity emanating from China looks likely to fade progressively through 2017. Narrow money growth has already started to moderate and the credit ‘impulse’ (i.e. the rate of change in credit flows, relative to GDP) has softened a little from its first quarter highs. In short, we have probably passed ‘peak liquidity’ in China.
For the global economy to kick on from here, it may be that either Europe or the US needs to start generating stronger domestic demand, and whilst this might seem possible given the prospect of significant fiscal stimulus in the US, it may well be that too much is expected from Mr Trump’s policy initiatives. As a result, we will likely see global growth in the range of 3%-3.25% in 2017, so only a touch firmer than this year.
James Bevan is chief investment officer of CCLA, specialist fund manager for charities and the public sector. CCLA launched The Public Sector Deposit Fund in 2011 to meet the needs of local authorities and other public sector organisations. You can follow James on twitter @jamesbevan_ccla
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