Global economic outlook - Q3 2023: Growth is slowing, and inflation is sticky

Read our outlook

The US Federal Reserve, the world’s de facto central bank has remained fairly hawkish, and it is leading other banks down the path of monetary tightening. While we have evidence that we are reaching the end of rate hikes in the US, we are very far from rate cuts. Meanwhile, monetary policy is becoming increasingly aggressive in the EU and the UK.

The different rate transmission mechanisms across countries have created varied conditions for inflation and growth globally, exacerbating global economic desynchronisation. Some trends can still be observed at a global level, but the local outlook is becoming more important. We expect the world to remain quite unbalanced, with American, Asian and European economies moving at very different speeds, if not different directions. Macroeconomic data will continue to be volatile.

Growth: The world is slowing down at a faster pace, as the effect of the Chinese reopening is petering out. Central banks continue to tighten, as inflation remains high. This raises the prospects of a recession, technical or severe, for many developed economies. Regions with the most persistent inflation, are also faced with worsening growth prospects by year-end. For the time being, probabilities are weighed towards the “soft landing” scenarios. A “hard landing” for the global economy is still a measurable probability, especially considering how volatile and unpredictable numbers are, but data suggest that it’s not the prevalent scenario.

Over the medium-to-longer term we expect a rebound of growth and a large capital expenditure (capex) cycle to drive global output possibly higher than its pre-pandemic trend.

The labour market: Some easing to labour market tightness has been observed as a result of slower growth. Unemployment is climbing across the board, albeit at a slow pace. Companies across all disciplines have been cutting staff, although not at very deep levels. However, by and large, labour conditions remain unusually tight across the board. Demographic pressures on the developed labour market have been exacerbated by the pandemic, leaving large gaps in the global skills market. This trend is increasing the bargaining power of labour across the board.

Inflation: The positive year-on-year effect has largely petered out. What remains is core inflation, especially in the services sector. In developed markets, inflation is becoming entrenched. We have moved away from supply-side price pressures, and we see signs of a classic price-wage spiral. Labour market conditions are less tight, but tight, nonetheless. Regional dynamics are beginning to take hold. Planned capex due to supply chain shifts and environmental strategies, as well as more negotiating power to labour also contribute to higher structural inflation going forward.

While retail sales data have been better than expected, in our view, consumer demand is not that strong and over the shorter term we could see some deflationary forces deployed. Medium and longer term however, the need for more capital investment, stalling globalisation and China’s gradual departure from its role as the world’s cheap manufacturer, will contribute to structural inflation above 2%, possibly even above 3%.

Interest rates. We are very close to the end of the current rate hike cycle in the US. Monetary policy remains constrictive in Developed Markets, despite evidenced of stresses in certain sectors, like banking, real estate and Private Equity. The ECB and the BOE have adopted a more hawkish stance. We expect rates to remain near peak until at least the end of 2023 and above neutral until at least the end of 2024. However, we feel that this is contingent to stresses in markets. Unless these become more pronounced, we believe that central bankers will be comfortable with keeping rates high. 

• Key areas to watch: Global economic performance for H2 will largely depend on the central banks’ stance towards inflation, which is as much subjective as it is data-driven.
• Longer term view: The pandemic has unleashed forces that could keep affecting growth, inflation, supply chains and geopolitical relationships in ways that may yet be unforeseen. The world is unbalanced and strives for a new post-pandemic equilibrium. A world in such imbalance can’t be easily understood let alone modelled. This implies that final outcomes will remain unpredictable. The larger question is whether the Great Moderation is over or temporarily deferred and if Secular Stagnation will drive consumer decisions in the near future. If that is the case, macroeconomic variables could continue to fluctuate in a way no one has experienced in a few generations. In that environment, inflation is set to remain above the central banks’ 2% target, which may well be revised upwards in the coming months, shifting central banks towards average. This sort of economic volatility could have profound consequences in macroprudential policies, economic policymaking, supply chains and inventories as well as wider business decisions.

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