MUNICH: Bayern Munich's Polish striker Robert Lewandowski (center) celebrates scoring past Juventus' goalkeeper from Italy Gianluigi Buffon (left) during the UEFA Champions League match FC Bayern Munich v Juventus on March 16, 2016. - AFP
MUNICH: Bayern Munich's Polish striker Robert Lewandowski (center) celebrates scoring past Juventus' goalkeeper from Italy Gianluigi Buffon (left) during the UEFA Champions League match FC Bayern Munich v Juventus on March 16, 2016. - AFP

Bayern survive Juventus scare - Four-goal fight-back wows Guardiola

Europe’s economy heads toward recession

KUWAIT: Going into 2024, the global economy faces headwinds as earlier monetary tightening continues to filter through with a lag. Although current indicators are still far from flashing any significant recession, the global growth outlook, led by developed markets, has softened in the last few months. Meanwhile, inflation seems to be on a downward trend, boosting hopes of a soft landing – though core inflation still has some way to fall to return to pre-COVID levels.

Interest rates in the US are likely at their peak, with the Fed signaling a pivot away from tightening, and projecting several rate cuts next year. Elsewhere, China continues to grapple with a deepening property downturn, pushing the authorities to do more to support the outlook. India however remains one of the few bright spots for the global economy, with growth holding at above 7 percent in Q3.

US momentum fading

The US economy, having overshot expectations in the last two quarters, now seems to be losing some momentum as consumer spending develops fatigue and the delayed effect of aggressive monetary tightening steadily shows up. GDP in Q3 grew at a sharp and better-than-expected 4.9 percent annualized rate versus 2.1 percent in Q2.

Household spending was robust and residential investment rose following two consecutive years of declines. However, economic indicators in Q4 have been patchy, with retail sales (+0.3 percent m/m) and industrial production (+0.2 percent m/m) rising in November after large drops in October, and mixed PMI survey readings (manufacturing and services at 46.7 and 52.7, respectively). The upshot is that the market expects a sharp slowdown in GDP growth to 1-1.5 percent in Q4.

US real GDP and growth

However, the labor market remains solid, giving credence to the soft-landing scenario, as job gains picked up in November (+199K, lower than the average of 2022-23 but above pre-COVID) and wage growth accelerated (+0.4 percent m/m), with the unemployment rate dropping (3.7 percent). Jobless claims have been volatile but are historically low. Consumer price (CPI) inflation has broadly decelerated, with the core rate unchanged at 4 percent y/y in November. This is double the Fed’s target but well off its 6.6 percent peak last year. With the Fed funds target interest rate now at 5.25-5.50 percent, real policy rates are in positive (and restrictive) territory, representing a brake on economic momentum.

Tighter policy, along with headline inflation slowing to just 3.1 percent y/y in November, have led futures markets to predict the Fed will bring forward its first rate cut to as soon as March and cut rates rather aggressively after that (over 125 bps in total by end-2024). The FOMC’s revised dot-plot projection in December showed a smaller easing of 75 bps in 2024. This is more an aggressive loosening than it previously projected, but Fed officials will be mindful of declaring victory over inflation too soon, with core PCE inflation set to exceed the 2 percent target until 2026.

Europe’s economy

Economic activity in Europe trended lower in Q3 due to pullbacks in consumer spending, investment, and industrial output amid high inflation and elevated borrowing costs. Preliminary Euro-zone Q3 GDP estimates showed growth turning negative at -0.1 percent q/q (+0.2 percent in Q2) and almost flat at 0.1 percent y/y, slowing sharply from Q2’s 0.5 percent. Following the negative Q3 print, the bloc is on the cusp of a technical recession: the October and November PMI scores remained below the ‘no change’ 50 mark, potentially signaling another output drop in Q4.

The European Commission downgraded its economic growth projections for 2023 and 2024 to 0.6 percent (from the previous estimate of 0.8 percent) and 1.3 percent (from 1.4 percent), respectively. Deteriorating economic activity has fed concerns that the ECB may have over tightened monetary policy – especially with the most recent November inflation print of 2.4 percent y/y slowing from October (2.9 percent) and well below expectations.

ECB policymakers have pushed back against market expectations of sharp rate cuts, but the markets are pricing in a first cut in March or April. It has been a similar story in the UK. The economy stagnated in Q3 (0.0 percent q/q; +0.6 percent y/y), then unexpectedly shrank 0.3 percent m/m in October. Meanwhile, inflation fell more than expected to 3.9 percent in November (from 4.6 percent in October) and wage growth cooled in the three months to October.

The Bank of England is also seen cutting rates next year but at a more moderate pace than the ECB or the Fed, given the UK’s higher inflation levels currently. On the fiscal side, Chancellor Jermy Hunt in November unveiled a package of demand and supply-side measures aimed at easing the cost-of-living burden for households and stimulating economic growth, worth on average 0.6 percent of GDP per year over coming years.

Euro-zone and UK GDP

Japan’s economy faltered in Q3, underpinning its struggle for a post-pandemic rebound amid a softer yen and dampened global outlook. GDP fell 2.9 percent (annualized) in Q3 after +3.6 percent in Q2 (both were revised downwards recently), marking its first decline since Q3 2022. The drop was mainly due to falling private investment and a weaker trade balance. Meanwhile, private consumption (the largest component in GDP) fell 0.6 percent, suggesting softer domestic demand.

The economy could post a mild contraction in Q4 on soft demand from China and the US, while the weaker yen – despite helping exports – will keep import prices up, continuing to weigh on consumer spending. The uncertain outlook has prompted the government to offer further stimulus measures such as tax breaks to help cushion the impact of higher prices. Consumer price inflation has been above the Bank of Japan’s (BoJ) 2 percent target for 19 months now (October’s core inflation reading at2.9 percent y/y), adding pressure on the bank to alter its ultra-loose monetary stance including negative interest rates.

However, BoJ officials have maintained that the current inflationary wave is more driven by supply side (food, energy etc.) factors and the weak yen than demand side pressures, and want to make sure inflation remains sustainably at or above the 2 percent target before shifting policy. Despite the faltering economic outlook, it remains to be seen whether the bank can resist for long. The BoJ left policy unchanged in December and governor Ueda avoided any clear signals on the timing of a policy change, but a shift is broadly expected in the first half of 2024.

Chinese economy rebounds

Signs of an economic rebound in China have emerged, even though the property sector slump continues to weigh on prospects. GDP growth accelerated to 1.3 percent q/q in Q3 2023, up from 0.5 percent in Q2 but slowed year-on-year to 4.9 percent from 6.3 percent Q2, due to unfavorable base effects. Growth is on track to meet the government’s target of ‘around 5 percent’, after averaging 5.2 percent YTD.

Recent data has been patchy. Retail sales growth missed expectations despite accelerating to 10.1 percent y/y in November (October 7.6 percent) helped by a supportive base effect, but growth in industrial output reached a more than two-year high of 6.6 percent y/y. Meanwhile, real estate activity remains on a downward trajectory, with an accelerated fall in YTD property investment (-9.4 percent y/y) and existing house prices (-3.3 percent y/y) in November. Amid the deterioration, property developers have been facing liquidity issues and defaulting on obligations.

The ripple effects are also felt in the shadow banking sector with last month Zhongzhi, a large wealth manager, revealing a $36 billion funding shortfall as such institutions typically took outsized property-related exposures during stronger days. Additionally, consumer price inflation in November fell deeper into deflation (-0.5 percent y/y) as consumption failed to pick up. Exports and imports have been volatile in October-November on weak domestic demand and a soft global economy.

Amid these challenges, the government has stepped up policy support measures, including using unconventional monetary policy such as providing cheap liquidity to property developers, mortgage rate cuts to boost housing demand, and increased infrastructure spending. However, investors are still looking for the government to act more decisively to support growth, including potentially outright policy interest rate cuts. Improved long-term prospects remain tied to successfully shifting the economic model away from being overly dependent on infrastructure investments and exports to spurring sustained domestic consumption.

India’s Q2 growth

India’s economy has maintained its robust momentum, with growth expected at the fastest pace among major global countries next year. GDP expanded by an above-consensus 7.6 percent y/y in Q2 (July-Sep), slightly slowing from 7.8 percent in Q1, supported by strong manufacturing activity and government spending. Still, this year’s erratic monsoon season has dampened rural demand, while challenges remain on the external front as exports have been weak.

Confirming the strength in the domestic sector, fiscal revenues have been solid, remaining on track to achieve the government’s fiscal deficit target of 5.9 percent of GDP this year (from 6.4 percent last year). The government may have space to accelerate spending on infrastructure as well as populist measures before next year’s general election. On the back of outperformance in Q2, the Reserve Bank of India (RBI) upgraded its growth projections for this year (FY23/24) to 7 percent from 6.5 percent earlier and around 6.5 percent for Q1-Q3 FY24/25.

Meanwhile, consumer price inflation increased to a three-month high of 5.6 percent y/y in November on surging agri-products prices after irregular rains impacted crop yields. Nonetheless, the peak inflationary phase seems behind us. The RBI has maintained its stance on policy rates(repo rate at 6.5 percent), but the bank recently increased the risk weight on some unsecured consumer loans to curb excessive demand.

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