The global economy: Rising trade policy uncertainty is weighing heavily on capital spending
During the past two years, news-based and earnings-call-based indexes of trade policy uncertainty (TPU) have both risen sharply and become much more volatile. These indexes measure the number of times trade policy is mentioned in news stories and earnings calls. Indexes of TPU are now three to five times higher than they were in 2015. A recent research paper by IHS Markit estimates the surge in TPU has lowered US capital spending and real GDP by USD100 billion (or 0.5% of GDP). The pain is concentrated in the manufacturing sectors, where the exposure to trade is the greatest. The ramifications for world GDP growth are evident in the IHS Markit projections, which show a big drop from 3.4% in 2017 to 2.5% in 2020.
The United States: Recent data take some of the shine
off the consumer sector.
Real GDP growth slowed to a 2.0% annual rate in the second quarter, down from 3.1% growth in the first quarter. Third-quarter data are likely to show a further deceleration. On the plus side, housing market indicators, including home sales and housing starts, point to an improved outlook for residential investment. Data on the US financial accounts through the second quarter show considerably more household wealth than previously reported. While this will support consumer spending in quarters to come, recent monthly data on consumer spending and retail sales were disappointing. The strike against GM is also estimated to shave 0.1 percentage point from third-quarter GDP growth. IHS Markit predicts US real GDP growth will average 2.0% in 2020 and 2021, well below the 2.6% average of the previous two years.
Europe: Reaching stall speed.
Both the hard and soft data underline the weakness of the eurozone economy. Industrial output, construction, and retail sales have declined recently. The IHS Markit manufacturing PMI fell to its lowest level since October 2012 and the service-sector PMI is retreating. All this listlessness points to flat real GDP in the third quarter, with contractions in Germany and Italy. Eurozone real GDP growth is projected to slow from 1.9% in 2018 to 1.1% this year and 0.8% in 2020. Meanwhile, the United Kingdom has made little progress toward ratifying a European Union withdrawal agreement by the 31 October 2019 deadline. Our forecast assumes a third extension of Article 50 to 31 January 2020 to hold a general election and (hopefully) break the Brexit gridlock. An agreement is likely to be eventually ratified. Negligible real GDP growth is expected in the second half of 2019, followed by a modest acceleration in early 2020 due to precautionary purchases ahead of the extended Brexit deadline.
Japan: Will the sales tax hike bring on another
recession? Probably not.
Japan's experience with sales tax hikes in the past three decades has not been a happy one. The increase from 0% to 3% in 1989 hurt consumer spending, but the damage was limited, thanks to a booming economy. The hikes in 1997 (from 3% to 5%) and 2014 (from 5% to 8%) did more damage. Consumer spending flat-lined after the 1997 increase and fell sharply after the 2014 rise. The sales tax was raised again on 1 October 2019 from 8% to 10%. The impact this time around may be more muted thanks to several factors. First, the Rugby World Cup, now taking place in Japan, has boosted consumer spending and may offset some negative impacts of the tax increase. Second, many food and beverage items are exempt. Third, the government will spend some tax proceeds on childcare and pensions. Finally, with the government's help, small retailers will offer customers rebates of up to 5%. These factors mean that, while Japan's growth is set to slow, a recession is probably not in the cards.
China: Further evidence of short-term softness and
In recent months, industrial production, fixed-asset investment, and housing activity have slowed further, and auto sales, exports, and imports have fallen again. The damage from the trade war is evident in plunging exports to the United States. Our forecast shows real GDP growth slowing from 6.6% in 2018 to 6.2% this year and 5.7% next year. A focus on the short-term fragilities of the Chinese economy misses the (arguably) more formidable longer-term challenges. In particular, the large drop in the growth of total factor productivity—from an annual average rate of over 5% in the 2000s to 1% in the current decade—is alarming. It suggests China's model of state-controlled development is running out of steam and China is at risk of falling into the middle-income trap of diminished growth potential.
Other large emerging markets: Rate cuts will sustain
While growth is slowing in all large emerging markets, a series of rate cuts by their respective central banks will limit the downside risks—absent a large global shock. India's economic growth slowed from 5.8% in the March quarter to a six-year low of 5.0% year on year in the June 2019 quarter. The 135 basis points in policy rate cuts by the Reserve Bank of India (RBI) this year, coupled with surplus liquidity in the banking system and corporate tax cuts, will facilitate investment. Similarly, the Central Bank of Brazil lowered its Selic interest rate by 50 basis points in both August and September, bringing it to 5.50%. We anticipate further reductions to 5.00% before the end of 2019, as inflation remains low. These steps will help to lift growth a little next year.
Monetary stimulus, with a possible assist from fiscal policy, will help to put a floor under global growth so long as the risks from the trade war can be contained.
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