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Amid rising concerns about debt, we analyse a scenario where China reins in credit growth and the credit-to-GDP ratio peaks in 2022. If flanked by reforms, this could make growth sustainable with manageable output losses in the short term, although 2020 targets would need to be re-interpreted. International spill-overs would be largest for commodity exporters and Asian neighbours.
Economic momentum moderated in April, following the earlier pick-up triggered by stimulus and a turn-around in real estate construction. Meanwhile, credit growth, adjusted for local government bond issuance, rose to 17.2% year-on-year.
With inventories of unsold housing still too high, the current recovery in housing construction is unlikely to be sustained. We therefore expect further monetary and fiscal stimulus this year to support growth. While the senior leadership has indicated that concerns about rising leverage remain on their radar screens, we do not expect a significant adjustment in the policy stance this year. As a result, we continue to expect GDP growth to average 6.5% this year and 6.2% in 2017.
The change in government on 12 May represents a positive credibility shock and is likely to lead to marked improvements in macro policies. However, we disagree with the market consensus that an imminent rebound in growth will follow in the short term and continue to see Brazil stuck near the bottom of the growth rankings for the major emerging markets.
The unexpected resignation of Prime Minister Davutoglu on May 3 has once again increased political uncertainty in Turkey, clouding the short-term economic outlook. Our baseline forecast already incorporates a heightened level of political risk. Indeed, we have been stressing for some time the possibility of early elections this year, and that likelihood has now risen. In addition, we are now even less confident that the government’s economic reform programme will be implemented.
Despite low oil prices and a boost to consumption from a large hike in the minimum wage, we forecast GDP growth to moderate to 3.3% in 2016 from 4% last year, on the back of weaker investment, external demand, and tourism amid mounting security risks. Meanwhile, monetary policy continues to be eased, despite rising lira volatility. And we now expect further easing of the fiscal stance in an effort to support domestic demand this year.
Real GDP growth revised up to 0.8% from the initial 0.5% estimate. The true underlying pace of growth appears to be closer to 2.5% y/y with GDP, GDI and GDO all growing at 2.4% y/y in Q1. Looking ahead, consumer spending and housing activity will rebound while businesses remain very cautious. We see Q2 GDP growth around 2.5%. In light of our growth and inflation outlook, we expect the Fed will raise rates this summer.
The economic outlook remains quite subdued, with the monthly data decidedly patchy. Export receipts may have picked up in May but there is little evidence to signal that this is the start of a sustained trend. Meanwhile, the latest consumer confidence survey was fairly downbeat, with consumers worried about the state of the economy. Although we maintain our annual GDP growth forecast of 2.7% for 2016, we remain cautious of the downside risks.
The Bank of Korea left the key policy rate unchanged at 1.5% in May. But given the risks to the economy from sluggish external and domestic demand, we maintain our call that the BoK will unload a 25bp rate cut sometime in the next few months.
French labour law continues to cause controversy and stir public debate in France. As a final act of rebellion against the law, the largest trade union in the country has mobilized energy and transportation sector workers to strike until the law is retracted. Even so, we still expect the law to be passed this summer.
Despite the public protests, French consumer confidence peaked in May, reaching its highest post-crisis level. Today’s release corroborates our view that, supported by low inflation and a slowly recovering labour market, household spending growth in France will continue to boost the broader economic recovery.
Since some of the policy measures announced in March are yet to take effect, the ECB will remain in ‘wait and see’ mode at June’s interest rate meeting. The key focus of June’s press conference will be the degree to which recent economic data has altered the ECB’s GDP growth and inflation forecasts.
Don't be fooled: A mixed report underneath the aircraft-led 3.4% surge in durable goods orders. Shipments remains soft, constrained by the now familiar headwinds of weak foreign demand, a strong dollar, and depressed oil and gas activity.
This month we have pushed up our growth forecast for the Russian economy in light of an improved outlook for oil prices and the better-than-expected performance in Q1. Some signs are emerging that the worst of the recession is over, but we still expect a ‘U-shaped’ recovery, with a slow and protracted return to growth. We now forecast the economy to contract by 1.5% in 2016 followed by a recovery of 1.1% in 2017 (compared to -2.1% and +0.8% previously).
But as the economy continues to adjust, it will receive limited policy support. Despite the improved outlook, oil prices are still low enough to keep the budget under severe strain. With regard to monetary policy, we continue to pencil in 150bp of rate cuts in H2, but risks are mounting that stalling inflation and stubbornly high expectations will lead to less policy easing.
Oil prices have risen above $50 per barrel for the first time in 2016 and are now 80% above the year’s trough. The uptrend reflects the assumption that the global supply gut will ease thanks in part to recent supply disruptions in Nigeria and Canada and lower US crude inventories. But given the temporary nature of some of those shocks, we maintain our $38 average forecast for the year.
Spanish GDP growth was confirmed at 0.8% in Q1, corroborating that despite the uncertain political situation, momentum in the Spanish economy remains very strong. Meanwhile, following yesterday’s announcement in Greece, Greek banks may be able to come off the Emergency Liquidity Assistance programme and could potentially be included in the ECB’s quantitative easing programme.
After three years of Abenomics and unprecedented quantitative and qualitative easing, Japanese broad money and credit growth are both weakening. Current broad money growth, if sustained, is at best consistent with trend GDP growth. Meanwhile, the outlook for credit and money growth is less than encouraging.
As Abenomics was introduced, both broad money and credit growth accelerated. However, since late 2015, both have slowed – credit growth substantially so.
Within overall credit growth, the strongest component has been corporate borrowing for cap-ex purposes. But this has not translated into actual corporate cap-ex, at least not inside Japan.
Judging by the Bank of Japan’s Senior Loan Officer Survey, there is little prospect of a sharp pick-up in private sector borrowing growth. This highlights that in spite of ultra-low interest rates and banks’ willingness to lend, what matters most is the willingness of non-banks to borrow – and that is limited in Japan.
We expect both fiscal and monetary policy to be eased further, with the consumption tax hike postponed (or abolished?); QQE increased to ¥100tn; and the deposit rate cut further to -0.3%. No helicopter money just yet, but maybe in the future.
This is good news for bonds. But for equities, the message is more mixed, with weak domestic demand and recent yen strength weighing against further injections of liquidity and the BoJ pushing asset managers into equities. Moreover, both monetary and fiscal policy are detracting from the equity outlook
As expected, the second estimate of GDP growth in Q1 was left unrevised at 0.4%. The expenditure breakdown displayed what has become a familiar story of relative consumer strength but a drag from the external sector.
Meanwhile, March’s fall in services output reinforces the likelihood that growth will slow further in the second quarter. A vote to ‘Remain’on 23 June may provide some fillip, but the economy will continue to face headwinds.
Numerous governments have issued very long-dated bonds at historically low yields. The prices of such bonds are highly sensitive to changes in yields and default risk. Ultimately, we view them as a leveraged play on ultra-low inflation. As such we think their prices will eventually decline. It may take a while though.
Bank of Canada holds rates steady seeing an uneven pace of recovery but anticipating stronger activity ahead. Real GDP growth will strengthen in H2, but low oil prices will remain a considerable drag.
GDP growth disappointed in Q1, falling back below the 5% mark. In particular, the latest national accounts release underscores our concern that government spending may continue to fall short of expectations. Meanwhile, the three rate cuts by Bank Indonesia this year appear to have had little discernible impact on household spending. Against this backdrop, we have downgraded our 2016 GDP growth forecast from 5.1% to 5%.
Monthly data continue to hint at a fairly downbeat economic outlook. There are still downside risks to growth from the protracted decline in commodity prices, the inability of the government to accelerate budget disbursements and the patchy nature of household expenditure. As such, we maintain our view that the central bank will ease monetary policy by another 25bp in H2 2016.
According to the IGA GDP proxy, activity dropped by 0.9% year-on-year in March and the contraction is likely to persist throughout Q2 as households experience a sharp squeeze in their real incomes, paying “new” (higher and less subsidized) prices with “old” wages. But once salaries are readjusted in June, consumption should gradually start to recover. Given a good harvest season and stronger private investment expected in H2, we have kept our forecast for 2016 GDP growth at 0.3%.
Consumer prices, as gauged by the Buenos Aires CPI, rose by 6.5% on the month in April, pushed up by a 32.4% surge in regulated prices. The good news is that ‘core’ prices rose by 2.8% on the month, the smallest increase since President Macri took office. Looking ahead, we expect the annual CPI inflation rate to decelerate to 30.7% by year-end as a result of weak private consumption, tight monetary policy, the end of adjustments to subsidies and a broadly stable exchange rate.
As inflation starts to fall during H2 2016 we expect that monetary policy will be made less restrictive.
Iceland's external debt plummeted to ISK4 trillion (US$32bn; 182% of GDP) by the end of 2015, thus returning to the levels seen before the crisis in 2008. The country continues to make progress towards lifting the capital controls established in 2008. However, strong capital inflows could be potentially destabilising and will probably cause the ISK to appreciate.
The external repayment included all of the remaining obligations to the IMF, which were paid down ahead of schedule in October 2015. These amounted to around US$334m, the residue of a standby loan of US$2.1bn taken out in 2008.
Debt repayment has been financed largely through the country's persistent current account surpluses and budget surpluses, along with the sale of assets which the government acquired (along with liabilities) when it nationalised the three troubled banks (Glitnir, Landsbanki and Kaupthing) in 2008. Around two-thirds of the banks' assets had to be written off, but the remainder recovered some value as the domestic and Eurozone economies returned to growth.
The government lifted capital controls on the banks' estates ahead of the general lifting of capital controls due to take place during 2016, enabling it to liquidate these at the current relatively strong exchange rate.
The progressive lifting of capital controls combined with the massive improvement in the country's net foreign asset position means that the krona is likely to see an appreciation going forward, a trend already reflected in Q1 figures.
However, strong capital inflows – owing to the large interest rate differential with other advanced economies – will also pose a significant policy challenge for the central bank and are likely to cause strong volatility in Iceland's external accounts.
Although the late night deal between Greece’s international creditors should ensure that Greece avoids the front pages of the newspapers over the summer months, it is not necessarily quite the “major breakthrough”that Eurogroup head Jeroen Dijsselbloem claimed. As one Eurozone official succinctly put it “If it looks like we are kicking the can down the road, that is because we are”.
Meanwhile the rise in the German Ifo supports our view that underlying growth prospects in Germany are improving. Even so, Q1’s impressive quarterly pace of GDP growth is unlikely to be maintained this quarter.
GDP growth was revised up slightly to 0.2% on a seasonally adjusted annualised (saar) basis versus the advance estimate of 0%. However, the details paint a very bleak picture with domestic demand falling sharply. And in the absence of a surge in inventories, GDP growth would have contracted by 5.7% q/q in Q1. We expect authorities to respond to the weak Q1 outcome by announcing a supplementary fiscal package.
The concept of secular stagnation is complex and the risk of it infecting the US economy is generally misunderstood, underestimated, but not inevitable.
Going back to the sources of the term, we note that an aging population doesn’t necessarily imply secular stagnation, but rather it puts the emphasis on productive investment, aggregate demand and productivity.
More recently, secular stagnation has been discussed as excess savings over investment. While there are signs globally that this is happening, the US economy still appears somewhat removed from this environment with a low household savings rate, investment to GDP that is historically high, and corporate surplus (net lending) having neared zero over the past few years.
While secular stagnation is not currently upon us, it has taken tremendous policy stimulus (including low interest rates) to support the US economy over the past few years. The risk is that slow aggregate demand growth and weak productivity growth erode productive capacity over time with policymakers unwilling or unable to address the issue: the secular stagnation creep.
Using a layered modelling approach, we simulate three macroeconomic environments in which secular stagnation gradually creeps in over the next five years. The common thread through our three scenarios is that the demand shortfall feeds into lower productive capacity.
In our final scenario, the economy enters a state of secular stagnation around the turn of the decade with potential output growth a full percentage point below the baseline by 2021 and the federal funds rate constrained under 1%.
New home sales surge 16.6% in April to their strongest pace since 2008. The gain likely overstates the true underlying pace of new home sales, but it nonetheless points to firmer activity after a six-month breather. New home sales should maintain an upbeat pace as income growth underpins demand. Builders, seeing profit opportunities, will ramp up activity and lessen the inventory drag.
A narrow vote to stay in the EU appears the most likely outcome of the forthcoming referendum. But those hoping for a post-vote bounce in the economy may be underwhelmed. And the political repercussions of a close result would keep EU-related uncertainty in play.
A recent shift in the opinion polls towards ‘Remain’ and the tendency for those undecided to err towards the status quo point to the UK voting to stay in the EU by a small margin of perhaps five to 10 percentage points on 23 June.
If Brexit-related uncertainty has been holding the economy back, a bounce in activity should be observed after June. But the evidence for a pre-referendum drag is mixed and the economy was slowing down well before the date of the vote was announced. So any resurgence in the economy may be modest.
That the pound will rise in the event of a narrow ‘Remain’ vote seems likely. However, if an appreciation reflects herd behaviour among traders rather than a fundamental reappraisal of the economy’s prospects, a remain-relief rally could drag on activity.
The longer-term consequences of a close poll will be bound up with politics. The experience of Scotland suggests that the issue of EU membership won’t go away, particularly if the referendum encourages realignment in UK politics. And there is a good chance that the next leader of the Conservative Party will be an open ‘Brexiteer’.
So the next general election could be fought between a Conservative Party standing on a platform of leaving the EU and a Labour Party headed by Jeremy Corbyn, a politician who has shown little enthusiasm for the European project in the past. Hence, a close vote on 23 June to stay in the EU could simply place the UK’s involvement in the bloc in a holding pattern until the 2020 general election.
The strong start of the year for the German economy was underpinned by a strong rise in investment. This suggests that stronger domestic and external demand is turning the consumption sugar rush into a cyclical recovery.
In European politics, the right-wing Nobert Hofer lost the battle for Austrian presidency by a very small margin, suggesting Euroscepticism continues to rise. Today, the Eurogroup will talk about Greek debt relief and is likely to come at odds with the IMF, which advocates stronger debt relief measures.
In the wake of the ECB’s announcement in March of corporate bond purchases and new targeted longer term refinancing operations (TLTRO II), the borrowing costs of companies in the Eurozone have declined significantly. While these measures are intended to encourage lending and support investment, a side effect is likely to be a boost to share buybacks.
To assess how lower corporate debt funding costs could impact the repurchase of equities, we estimate a model that controls for the effect of the other main determinants. We find that the cost of corporate debt – both bank loan rates and yields in the investment grade and high yield segments – is a significant driver of equity repurchases.
Our statistical tests confirm other drivers of share buybacks including the low cost of debt relative to equity, the current undervaluation of Eurozone equities and a lack of investment opportunities. However, the rising pile of cash on corporate balance sheets is shown to have no significant effect, suggesting more cautious behaviour from firms since the global financial crisis (GFC).
In terms of investment conclusions, share buybacks will support earnings per share (by reducing the outstanding number of shares) and boost equity performance. But the effect is likely to be rather limited overall and country-specific. The high level of corporate debt in some member states will cap the magnitude of share buybacks. Furthermore, banks – the main re-purchasers of shares – may also be less active given new more stringent regulatory capital requirements.
Italy and to a lesser extent Germany appear the most likely candidates for an increase in share buybacks.
Today’s public sector finances release will have made for pretty gloomy reading for the Chancellor, with last year’s borrowing total revised up and 2016-17 getting off to a disappointing start.
While April’s disappointing outturn was partly due to more front-loaded investment spending, softer activity is dampening growth in tax receipts. The government will need to see a strong rebound in activity after the EU referendum if it is to have a chance of keeping to its deficit reduction plans.
The recent rise in the oil price to close to $50pb has cemented our view that market inflation expectations for the next few years are too low and that the ECB will not unveil any additional monetary policy measures.
Against this backdrop, we continue to think that the recent pick-up in German government bond yields could be the start of a larger correction.
G7 summits have a long history of being non-events. There is an interesting policy agenda the May 26-27 meeting could address involving currency, monetary and fiscal policy. The G7 could provide some ‘cover’ for Japan to delay next year's planned consumption tax hike – now our baseline view. But a coordinated fiscal easing across countries looks unlikely.
The February G20 meeting gave rise to speculation of a ‘behind-the scenes’ coordination of currency policy. We doubt anything very significant was agreed but there are important issues on the currency side that the G7 could look at: what is to be done about the soaring yen which threatens to push Japan back into recession? Is there a need to manage a further 'stealth depreciation' of the Chinese renminbi?
On the monetary policy side, the G7 might consider whether recent policy loosening efforts are bringing the desired results. The evidence suggests recent monetary steps have had mixed results, with moves to negative interest rates not obviously successful: the G7 could hint at the curtailment of this particular monetary experiment. Another issue is how the consequences of a Fed rate rise in June might be managed.
What about fiscal policy? G20 fiscal policy is set to be moderately expansionary this year but contractionary next. There is scope for some important countries to loosen policy, including Germany, Canada and Korea. A concerted fiscal effort by governments might also help underpin private investment.
But given German resistance, a broad agreement on fiscal policy coordination is unlikely. So the G7 meeting could well end up as a missed opportunity to address the problem of slow global growth.
Today’s long-awaited HMT study shows Brexit wreaking significant short-term damage to the UK economy. We would view the HMT study as being a worst-case scenario, rather than the most likely outcome post-Brexit.
The main differences between the HMT study and our own scenario analysis are the size of the confidence shock and the way that it is transmitted to the real economy, particularly the impact on the household sector. The HMT study also avoided making any assumptions about how monetary policy might differ after Brexit, ignoring the potential for interest rate cuts to support activity.
With the Parliament passing the new bankruptcy bill and the PM’s party winning the state assembly elections of Assam, investors’ expectations of reforms picking up pace have risen. However, we caution against too much optimism as the government’s minority status in the Rajya Sabha remains an important hurdle to the reform process.
Meanwhile, the activity indicators suggest that India is experiencing only a modest and patchy recovery in manufacturing and not the sharp rebound indicated by the GDP manufacturing figures. In addition, the risks from the external backdrop remain to the downside and we do not rule out the possibility of having to downgrade our 2016 growth forecast.
This justifies the Reserve Bank of India’s (RBI) accommodative stance. But with consumer price inflation shooting back above the central bank’s 5% target (for March 2017) , we await more clarity on the inflation trajectory (given the approaching monsoon) and the fiscal consolidation path before reviewing our baseline view of no more interest rate cuts this year.
The Eurozone Flash PMIs edged down in May, prompting the composite index to fall to its lowest level in 16 months. However, we believe that the slowdown in economic activity in Q2 will be just temporary and the Eurozone economy is now set for stronger growth in the second half of the year.
Meanwhile, we have to wait for the postal votes, which will be counted today, to see who between the Greens’ Alexander Van der Bellen and the Freedom party’s Norbert Hofer will be the new Austrian president.
The presidential election saw Rodrigo Duterte win. He is a tough-talking mayor who incited scorn from the country's oligarchs and human rights groups. In spite of his drama-filled campaign in the press, when it comes to the real crux of the matter, Duterte initially incited fear in investors because he campaigned without a clear economic agenda. However, the recent release of an 8-point economic agenda has tempered the initial uncertainty among investors surrounding the change of administration as it has assured some degree of continuity.
In our May global macro chartbook we summarise our views on key global themes and highlight the contributions of our recent research.
Existing home sales rise in April despite steady headwinds from low inventories and high prices. Firming wage growth and low mortgage rates will support the slow release of pent-up housing demand.
After months of opposition, the government finally forced its controversial labour market reforms through the lower house of parliament, albeit having to survive a no-confidence vote in the process. The reforms – which make it easier for businesses to lay off staff and extend working hours – are unlikely to transform economic growth in the short term, but should provide some support to competitiveness over time.
This came amidst signs of improving economic performance, with GDP revealed to have risen 0.5% q/q in Q1 thanks to strong consumer and capital expenditures. The steady improvement in the labour market combined with another year of very low inflation will sustain household spending growth through 2016, while the outlook for fixed investment is supported by the ECB’s monetary easing, the improving domestic demand climate and government measures that should help profit margins. In light of the strong Q1 outturn, we have revised up our growth forecast for 2016 to 1.5% from 1.4% last month, and growth is seen edging up to 1.6% in 2017.
The minutes of the ECB’s April meeting were released yesterday, revealing a strong call for structural reforms across the common currency area. The Governing Council also reiterated the importance of focusing on the implementation of the current monetary policy measures, thus confirming our stance that no new policy action is on the cards soon.
On the indicator front, German PPI fell by 3.1% over the year in April, showing again the lack of price pressures in Eurozone’s largest economy. Meanwhile, current account data showed stronger surplus than expected, consistent with the overall strong Q1 economic performance in the Eurozone.
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