A 360o Perspective on the Global Economy for 2017
Top-10 Economic Predictions for 2017
The political earthquakes of 2016 have upended conventional thinking about the global economy and have—ironically—brightened the outlook. The expectation that the incoming Trump administration will enact sizeable fiscal stimulus has increased optimism about US and global growth. This, in turn, has pushed US stock indexes to record highs, while pushing up both interest rates (with a resulting rout in the bond market) and the dollar. A stronger dollar is mostly good news for Europe and Japan, helping to boost both export growth and inflation expectations. On the other hand, much higher US bond yields are bad news for the emerging world, where currencies have already taken a beating in recent weeks, significantly reducing the scope for further monetary easing. Fortunately, these financial market gyrations are occurring at a time when commodity prices are rising and both consumer and business sentiment have improved. IHS Markit believes that the balance of these trends will be moderately positive for global growth, which is expected to increase from 2.4% in 2016 to 2.8% in 2017 and 3.0% in 2018. That said, high levels of political and policy uncertainty could hurt growth in 2017 and beyond.
- 1. The US economy will accelerate—even before any Trump stimulus.
- US GDP growth was pushed down in 2016 (to 1.6%) by the combined impacts of a large inventory drawdown, the collapse in energy-sector capital spending, and the drag from net exports because of a strong dollar and weak global growth. The good news is that during the coming year, a much smaller drag from inventories and a rebound in energy-sector capital spending (the closely watched rig count is already moving up) will boost growth. IHS Markit expects that tax cuts (likely close to the more-modest House Republican version) and infrastructure spending (probably scaled back from the Trump proposal and phased in) will be enacted early next year. This means that the stimulus will not have much of an impact on 2017, but could boost 2018 growth by as much as 0.4 percentage point. Consumer and business confidence, which rebounded right after the election, are likely to be boosted further as growth improves. On the downside, the rise in both interest rates and the dollar, in anticipation of stimulus, will erode some of the positive effects of stimulus. IHS Markit currently predicts that US growth will accelerate to 2.3% in 2017 and 2.6% in 2018.
- 2. Europe’s economic momentum will slow a little, primarily because of Brexit and political uncertainties.
- Incoming data on the Eurozone economies point to a near-term rebound in growth, while the UK economy is proving resilient. In particular, consumer and business surveys (including the IHS Markit PMIs) underscore the better mood in Europe. Nevertheless, Europe faces daunting political challenges that could hurt confidence and growth next year. These include a potentially contentious Brexit, fallout from the recent referendum defeat in Italy, and upcoming elections in France, Germany, and the Netherlands. In particular, the political turmoil in Italy could trigger a crisis in the banking sector, which is already in dire straits. On the positive side, the European Central Bank looks set to extend its bond-buying program, and a weaker euro will help to lift export growth and (along with rising oil prices) raise inflation rates. IHS Markit continues to believe that these conflicting forces will weaken Eurozone growth from 1.7% in 2016 to 1.4% in 2017. Likewise, we expect UK growth to fall from 2.1% in 2016 to 1.3% in 2017. The good news is that the Brexit impact has been small, so far. The bad news is that it will likely get worse soon.
- 3. Japan’s economy will gain a little traction, thanks to a weaker yen.
- Recent data on Japan have also been upbeat, although the source of much of the recent growth rebound has been net exports—domestic demand growth remains lackluster. The recent plunge in the yen is likely to accentuate these trends. The weak yen will fuel exports and tourism, support corporate profits (which are now around 11% higher than a year ago), lift capital spending, and encourage further increases in stock prices. On the downside, higher import prices (and overall inflation) will erode the purchasing power of consumers and suppress consumer spending. With inflation moving up, the Bank of Japan will probably hold off on any additional stimulus. Moreover, the likely demise of the Trans-Pacific Partnership diminishes the chances of meaningful structural reforms in Japan. On the other hand, the fiscal package passed by Japan’s parliament in October, albeit modest, will provide earthquake relief and more infrastructure spending. On balance, IHS Markit believes that Japanese growth will stabilize at 1.0% in both 2016 and 2017.
- 4. China’s growth will grind down further, led by a housing construction slowdown.
- China's economic condition remains fragile in late 2016, as the growth divergence in key sectors of the economy has intensified. Industrial production was stable, but retail sales and investment have worsened, in inflation-adjusted terms. Exports have also continued to contract rapidly. Most concerning, corrections in the housing and automotive sectors are under way, and will worsen in coming months. Worried about a housing bubble, the government has begun to remove stimulus. This will hurt construction further. One counterweight is the recent improvement in the performance of some heavy industries and mining, as manifested by the ability of these sectors to raise prices, after years of deflation. China also faces another source of stress because of capital flight. Foreign exchange reserves are at a five-year low and the renminbi is back to 2008 levels. In response, the government has already imposed some capital controls and will likely do more soon—in an attempt to relieve pressure on the currency and limit annual depreciation to no more than 5%. IHS Markit believes that China’s policy contradictions will result in growth slowing from 6.7% in 2016 to 6.4% in 2017.
- 5. Emerging markets will do better, despite recent financial market pressures.
- The results of the US election are something of a good news/bad new story for emerging markets. On the plus side, moderately stronger growth in the US and global economies is good news for emerging markets whose economies are export-oriented. Moreover, the expected continuing rise in commodity prices will help to bring in more export revenues and replenish government coffers. On the downside, plunging currencies are unwelcome for at least two reasons. First, to prevent further capital flight, central banks have to pursue more restrictive policies than they would like. Second, dollar-denominated debt in the emerging world has risen rapidly in recent years, reaching around $3.5 trillion. As the value of the dollar goes up, so does the burden of these debts. The good news is that the economic fundamentals (e.g., current-account deficits) in most emerging markets have improved in the past couple of years. Also, with the exception of China, overall debt ratios (domestic and foreign) are mostly down. This means that these economies will be able to enjoy the fruits of a more upbeat global outlook.
- 6. Commodity prices will continue their upward trend.
- Between, January and September of 2016, commodity prices (as measured by the IHS Markit Industrial Materials Index) rose more than 40%. Subsequently, they retreated a little through early November and then surged after the US election. Earlier, expectations of a slight pickup in growth and better supply management were important factors. In the past few weeks, anticipation of even stronger growth and, in particular, more infrastructure spending by the United States has buoyed commodity markets. The euphoria may be overdone, as US commodity consumption is only about one-fifth that of China. Nevertheless, IHS Markit does expect commodity prices to continue to move up. In this regard, the recent OPEC agreement to cut output (by about 2% of world liquids production) will help by turning a small surplus in production into a deficit. As a result, IHS Markit has nudged up the average oil prices forecast for 2017 by a few dollars, to $55/barrel (dated Brent). Here again, market optimism should be tempered. OPEC members have a long history of less than 100% compliance with output cuts. Perhaps even more important, rising oil prices will encourage more US production, which will dampen any future prices increases.
- 7. Inflation rates will move up in many parts of the world.
- After many years of facing the threat of deflation, the world economy is poised on the threshold of an increase in inflation. With the US economy at or near full employment, wage inflation is already beginning to rise and is set to climb even faster with the implementation of fiscal stimulus. Along with increases in commodity prices, this will translate into faster price inflation (exceeding 2% in the coming two to three years). A similar upward trend is also evident in other parts of the world. Consumer price inflation is at a 31-month high in the Eurozone (although still low at 0.6%) and deflationary pressures in Japan are beginning to ease. Even more promising is that after many years of falling, China’s industrial prices have risen recently. Rising inflation in the US economy, accompanied by a stronger dollar, means that the United States will be “exporting” inflation. Specifically, falling currencies in other parts of the world mean higher imported and headline inflation. For example, IHS Markit believes that Japan’s consumer price inflation will rise from around zero in 2016 close to 1% in 2017. UK inflation could well end 2017 around 3.0%, compared with 0.9% currently.
- 8. US interest rates will keep rising—also pulling rates up in some emerging markets.
- Even before the recent US presidential election, financial markets expected the Federal Reserve to raise interest rates later this month and twice next year. After the election, with expectations of a larger US budget deficit and higher growth and inflation, IHS Markit predicts that the Fed will raise interest rates even more next year (at least three times) and keep raising rates until the overnight federal funds rate reaches 3.0% by the end of 2019. In anticipation of more rate hikes, markets pushed the 10-year Treasury yield roughly 50 basis points higher soon after the election. Elsewhere, anxiety among central banks has risen recently. Both the Bank of England and the European Central Bank have warned that higher interest rates in the United States and political uncertainty on both sides of the Atlantic could “reinforce existing vulnerabilities” in the global financial system, especially in the emerging world and Europe. Higher US interest rates have triggered a run on emerging-market currencies, forcing some central banks (e.g., Mexico and Turkey) to raise interest rates and others to halt any further rate cuts (e.g., India, Indonesia, and Malaysia). In Europe, there are concerns about banking problems and a new round of sovereign-debt pressures.
- 9. The US dollar will appreciate more.
- An already-strong dollar climbed even higher in the wake of Donald Trump’s victory. By the end of November, the dollar had risen to an 8-month high against the yen and a 20-month high against the euro. Some of this was because of the US election, but some was also due to anxiety about the Italian referendum. Emerging-market currencies were also hit hard. In Asia, exchange rates fell between 2% (offshore Chinese renminbi and Thai baht) and 7% (Japanese yen). In light of expected stronger growth in the US economy and higher interest rates, IHS Markit predicts that the greenback will keep appreciating over the next year. On an effective (trade-weighted) basis, we expect the dollar to rise another 2‒3% against key trading-partner currencies in 2017. The advance of the US dollar will not be uniform. The biggest increases are likely to be against the euro and the yen, as monetary policies in the Eurozone and Japan will be more accommodative than in the United States. We forecast that by the fourth quarter of 2017, the euro will briefly touch parity and that the yen will fall to around 120 per dollar. On the other hand, emerging-market currencies will fall much less, because they have already seen large declines.
- 10. The level of uncertainty has risen, but the risks of recession remain low.
- IHS Markit estimates that the risk of either a US or global recession in 2017 is no more than 25%. The usual “recovery killers” are in abeyance. To begin with, even with the Fed expected to raise interest rates over the next year, global monetary conditions remain extremely accommodative. Thus, chances of central banks killing off the recovery are slim to none. Second, despite the recent OPEC agreement to cut production, global oil markets are well supplied. This means that the risk of an oil shock is low. Finally, notwithstanding the recent euphoria in US equity markets, there is little (if any) evidence of asset bubbles in most parts of the world. In other words, the odds of a repeat of the 2008‒09 financial crisis are also pretty remote. Unfortunately, political and policy uncertainties (and risks) are higher now than they were a year ago. The rise of anti-globalization movements in the United States and Europe could result in policies that hurt growth. In particular, a trade war could push the US and global economies into recession. On the other hand, business-friendly policies (including lower corporate taxes and a roll-back of regulation) could boost both short-term and long-term growth.
Top-10 economic predictions for 2016—How accurate were we?
The top-10 predictions for 2016, shown below, were published in December 2015. The text in italics describes what actually happened.
Since 2012, world growth has been range-bound between 2.5% and 2.7%. During that time, the growth in the advanced economies has accelerated gradually, while economic activity in emerging markets has decelerated dramatically. IHS expects a slightly better overall performance for the world economy in 2016, with an expected growth rate of around 2.9%. Solid growth in the United States and a slight pickup in the pace of Eurozone and Japanese economic activity, along with an expected easing of recessionary pressures in Brazil and Russia, are among the reasons for this moderately upbeat assessment. In the same vein, low oil prices and more monetary stimulus—in particular, from the European Central Bank (ECB), the People’s Bank of China, and (possibly) the Bank of Japan—will not only support growth, but could also provide the basis for some upside surprises. Unfortunately, there is no shortage of downside risks, including high public- and private-sector debt levels, corporate risk aversion, further weakness in China and other emerging markets, and daunting geopolitical risks. This means that the probability of the global economy being stuck in low gear for another year is still uncomfortably high.
What actually happened:Global growth in 2016 was a disappointing 2.4%. The major culprits were the inventory cycle in the United States and financial volatility due to fears of a Chinese devaluation (in January) and Brexit (in June). That said, 8 out of the 10 economic predictions by IHS Markit were on the mark.
- 1. US growth will remain solid.
The underlying fundamentals of the US domestic economy remain sound. Consumer spending has been increasing at rate of around 3% over the past year and is predicted to keep growing at the same pace in 2016. After an off year in 2014, housing activity picked up in 2015 and is likely to remain strong for the next couple of years. Nonresidential capital spending (excluding the energy sector) will also be a positive factor. Last but not least, thanks to the recent congressional budget agreement, government spending will be adding to GDP growth in 2016, after being a negative factor for the past three years. There were three negative influences on the economy in 2015: an inventory cycle, the collapse in energy sector investment, and the impact of a strong dollar and weak global growth. Two of these will ease in the coming year. The inventory correction is likely to be over by the first quarter of 2016, and the sharp drop in energy-related capital spending will probably end in the first half of the year. This means the growth rate of the US economy can be expected to remain in the 2.5–3.0% range in 2016.
What actually happened:US GDP grew a paltry 1.5% in 2016, mostly because of the continued decline in energy-sector investment and an abrupt slowdown in inventory investment.
- 2. Europe will keep growing at a modest pace.
After contracting for two years, the Eurozone economy began a modest recovery in 2014, expanding at a 0.9% rate. Growth accelerated a little in 2015 to 1.5%, and is expected to do marginally better in 2016 (1.7%). Four trends are supporting this improved outlook: low energy prices, reduced fiscal headwinds, more monetary stimulus, and a weak euro. The latter two can be expected to support growth even more in 2016. The ECB has indicated its willingness to provide additional stimulus, and IHS expects that the euro will depreciate further. A weakening currency is providing something of buffer for the Eurozone from weak global growth. While the human toll from the recent terrorist attacks in Paris is incalculably high, the economic impacts will be limited and short-lived. Moreover, in recent months, the risks of Greece leaving the Eurozone have diminished considerably. Meanwhile, UK economic growth will remain steady at 2.4%, and IHS expects that the upcoming referendum will probably not result in the United Kingdom leaving the European Union.
What actually happened:In 2016, economic growth is estimated at 1.6% in the Eurozone and 2.1% in the United Kingdom.
- 3. The Japanese economy will continue to limp along.
Revised data show that the Japanese economy avoided recession in 2015—negative growth in the second quarter was followed by positive growth in the third quarter. However, since 2011, Japan has suffered through three recessions, defined as two or more quarters of negative growth. There is a growing sense that while the three arrows of Abenomics—aggressive monetary easing, agile fiscal stimulus, and structural reforms—have lowered the yen considerably and boosted the stock market, they have had little impact on economic fundamentals. Specifically, after a brief bout of inflation, prices are stagnating again. More importantly, inflation-adjusted wages have fallen over the past three years, hampering consumer spending. The good news is that real wages have stopped declining recently. This will help consumer spending and housing. IHS expects that Japan’s growth rate will be a lackluster 1.0% in 2016, after an even more meagre 0.7% advance in 2015. One risk on the horizon is the planned April 2017 sales tax hike from 8% to 10%. This could trigger another spending cycle (as occurred in 2014), with buy-in advance behavior helping growth in late 2016 and early 2017, but increasing the risk of another downturn in mid-2017.
What actually happened:Japanese growth in 2016 was a lackluster 0.7%.
- 4. China’s economic activity will decelerate even more.
Since 2010, China’s growth rate has steadily declined. The past year was no exception, with 2015 growth expected to be 6.9%, compared with 7.3% in 2014 and 7.7% in 2013. IHS predicts that China’s growth rate will decline even further to 6.3% in 2016. In fact, the Communist Party has set a target to double the level of real GDP between 2010 and 2020, which implies an annual average target growth rate of 6.6% from now to 2020—the slowest target growth rate in a long time. The actual growth rate is likely to be even lower. Continuing problems (overcapacity, high debt levels, and low or negative rates of return) in the heavy manufacturing, utilities, and mining sectors have been—and will continue to be—the principal drags on the economy. On the other hand, the services sectors and light manufacturing are proving more resilient. At the same time, the news on the real estate markets is no longer uniformly bad. Home sales are picking up, although high inventories will continue to dampen construction activity. Neither the change in the government’s one-child policy nor the Chinese renminbi’s inclusion in the IMF’s special drawing rights basket is likely to have a big impact in the near term.
What actually happened:China’s growth rate edged down from 6.9% in 2015 to 6.7% in 2016, as a surge in investment by state-owned firms cushioned the deceleration.
- 5. Some emerging markets will remain in recession, while growth elsewhere will disappoint.
Since the beginning of 2013, emerging markets have been hit by a “perfect storm”: plunging commodity prices, capital outflows, and plummeting currencies (forcing some central banks to raise interest rates, even during recessions); swooning stock markets; and stagnating world trade. Those hit hardest have been commodity exporters, especially those with weak finances or other structural problems. This includes oil exporters such as Iran, Venezuela, Libya, and Algeria; whereas strong reserves and better finances have protected Saudi Arabia, Kuwait, and the United Arab Emirates. Two of the hardest-hit economies have been Brazil and Russia, both of which are suffering deep recessions. At the other extreme, net commodity importers such as India are doing much better. The recessions in Brazil and Russia are expected to last into 2016, and growth in most emerging markets will remain challenged by weak global growth, fragile exchange rates, and low commodity prices. Nevertheless, as commodity prices bottom out in 2016, the pressures on emerging markets will likely ease.
What actually happened:Brazil, Russia, and Venezuela remained in recession, while growth in most emerging regions either slowed or held steady.
- 6. Commodity prices will reach a trough.
Commodity prices have fallen by about one-third over the past year and are down nearly 60% since the beginning of 2014. The biggest factors behind the plunge in nonoil commodity markets have been the struggles in China’s manufacturing sectors and the associated large declines in its imports from the rest of the world. While suppliers have cut production, demand has weakened even more. Production cutbacks are likely to continue, and IHS expects that prices will begin to firm during 2016. In the case of oil, weak demand from China was compounded by strong production from the United States and the decision by OPEC to not cut production. Low prices are having an effect on US producers. IHS expects a cut in US output of roughly 600,000 barrels per day between mid-2015 and mid-2016. This will likely be enough to put a floor on prices. However, lower US production costs and increased productivity will continue to push break-even points lower, limiting upside price risks in 2016. The prices of both oil and other commodities are expected to be flat though the first half of 2016, and then begin to rise gradually in the second half.
What actually happened:Most commodity prices hit a trough at the beginning of the year and then began to rise.
- 7. Any rise in inflation will be modest.
A variety of factors have conspired to keep inflation in many parts of the world in check. Principal among these are the large amounts of excess capacity worldwide and the nosedive in commodity prices. Assuming that commodity prices are either flat or fall more, this benign state of affairs will continue throughout 2016. There are two exceptions to the low-inflation picture. First, in countries where currencies have also tumbled, inflation rates have risen. Brazil and Russia are cases in point. The other exception is a potential rather than an actual threat. Both in the United Kingdom and the United States, labor markets are becoming tighter. This is manifesting itself in a modest upward movement in wage inflation. By some measures, there is additional slack in the American and British labor markets. This means that any rises in wage inflation in the coming year will probably be small. Moreover, in light of the (still) vast amounts of excess capacity worldwide, inflationary pressures in most parts of the global economy will remain muted throughout much of 2016.
What actually happened:With the exception of Japan (which experienced slight deflation in 2016), there was a modest rise in inflation in most developed economies.
- 8. The Federal Reserve and the Bank of England will raise interest rates a little, while other central banks will either be on hold or ease more.
During 2016, diverging economic fundamentals will call for different monetary policy actions. The United States and United Kingdom will be growing faster than most other developed economies. With early signs of wage inflation in both economies, the Federal Reserve and the Bank of England (BoE) will raise interest rates sooner than their peers. The Fed is set to hike rates in December (for the first time since 2006), and the BoE will probably follow suit by midyear. There is a good chance that the Bank of Canada may also jump on the rate-hike band wagon by the end of the year. The good news is that even with these “first movers,” interest rates will remain very low (negative in inflation-adjusted terms) through the end of 2016. Meanwhile, in December, the European Central Bank pushed overnight rates further into negative territory and extended its quantitative easing program. Considering the fragile nature of Japan’s economy, there is a chance that the Bank of Japan may also extend or expand its bond-purchasing program.
What actually happened:The Fed raised rates in December 2015 and is on track to raise them again in December 2016; however, the European Central Bank, Bank of England, and the Bank of Japan provided more stimulus.
- 9. The US dollar will rise further.
Over the past year, the dollar has risen about 8% against other major currencies. Its appreciation against some emerging-market currencies has been even larger. In light of stronger US fundamentals relative to the rest of the world, and given that the Fed is likely to be the first major central bank to raise interest rates, IHS expects that the dollar will appreciate another 3–5% in the first half of 2016, before topping out. This means that the dollar/euro rate will approach parity by the middle of 2016, reaching as low as $1.02 by midyear. Similarly, the yen is predicted to hit 126 per dollar by the end of 2016. The Chinese renminbi is also set to depreciate gradually against the dollar. This is a function of downward pressure on the currency from capital outflows, as well as the commitment by Chinese policymakers to limit the amount of intervention in foreign exchange markets (as part of China’s new status as a reserve currency). That said, IHS does not expect any dramatic changes in the dollar/renminbi rate. The currency will continue to be managed, but not in as rigid a way as before. Thus, depreciation on the order of around 4% in 2016 seems most likely.
What actually happened:The dollar did rise throughout much of 2016, and then surged after the presidential election (in anticipation of large fiscal stimulus in the United States).
- 10. The risks buffeting the global economy will likely not derail it.
As highlighted above, there is no shortage of risks facing the global economy. Fortunately, none has done severe damage—so far. Just as importantly, the usual “recovery killers” are a distant threat. First, with a few exceptions, policy tightening is not a danger to recoveries in most parts of the world. In fact, from a global perspective, monetary policy may become a little more stimulative in 2016. Second, the net effect of the commodity rout on global growth is positive, albeit small. Third, asset bubbles (and the potential for them bursting) are not a significant hazard. Finally, while the risk of even slower growth in China is high, the impacts on the developed world and commodity-importing emerging markets is limited. The one risk that could derail global growth in the near term is a big oil shock, triggered by an escalation of the Middle East conflicts. Fortunately, the probability of such an event in 2016 is relatively low. Since 2011, the upside and downside risks to the world economy have largely offset one another, leaving growth stuck in the 2.5–3.0% range—the same is likely to be the case in 2016.
What actually happened:In 2016 the global economy was rocked by financial turmoil and political upsets, which slowed the global recovery but did not push it into recession.
