Market Perspectives March 2021
Encouraging hopes of a vaccine-driven recovery are keeping investors in good spirits.
By Henk Potts, London UK, Market Strategist EMEA
With high hopes of a strong, vaccine-driven bounce this year, what risks might dash a quick return to normal, whether health-related or otherwise?
Last year was truly traumatic as the pandemic-induced slump resulted in the worst economic contraction since the Great Depression. Nonetheless, with vaccination rates rapidly rising, economies reopening and policymakers maintaining their accommodative stance, this looks set to be a year of recovery with global growth of 6.0%.
The speed and shape of the recovery will inevitably be dependent on arresting the coronavirus pandemic. While lockdown measures have helped to reduce infections, hospital admissions, intensive care occupancy levels and coronavirus deaths in a number of countries, the effectiveness of vaccination programmes will be key to normalising activity. Achieving herd immunity status should quickly translate into accelerating activity as economies fully reopen, consumption rises and employment prospects improve.
Early data shows that the vaccine rollout in advanced economies has been outpacing those in developing economies. We believe that both the UK and US may be able to achieve herd immunity in the second quarter of the year, with Europe achieving that status by the end of the third quarter. While certain countries have achieved impressive vaccination rates, namely Israel and the United Arab Emirates, there are also some noticeable laggards in Africa and Latin America.
Economic conditions this year should be supported by policymakers to help ensure the recovery. In most major regions we would predict that central banks will keep interest rates down at historically low levels over the next couple of years. If the speed of the recovery allows, a tapering of asset purchase programmes might start in 2022, but this should only occur in a targeted and controlled way to avoid any “tantrums” playing out.
On the fiscal side, a number of countries, most notably the US, are embarking upon additional packages aimed at controlling the virus and supporting growth. That said, we would expect some of the emergency measures, such as furlough programmes, to be scaled back as the recovery develops.
We expect emerging markets to grow and outperform advanced economies this year. China’s latest figures provide further evidence of a V-shaped recovery. Its strong growth profile has been driven by encouraging export demand, robust factory output, rising domestic retail sales and steady fixed asset investment. As such, we expect China to grow at 8.4% this year.
Beyond China we think that India will register impressive growth of 10.4% this year as consumer spending increases, credit availability improves and labour markets stabilise as the rural recovery broadens out to urban centres.
This should be a positive year for the US with growth coming in at 6.4%. The acceleration of the vaccine rollout should reduce new cases and help revive the all-important service sector. Furthermore, President Joe Biden’s additional stimulus programme is likely to boost consumption and provide support for low paid workers, small businesses and state services.
In the UK, the recovery is likely to be a little more subdued than in America this year, although the economy is still likely to grow by 4.0%. The rapid vaccination programme should encourage a rebound in household spending through the summer, but growth prospects may be held back by Brexit friction weighing on supply chains and exports.
For Europe, the bloc looks set to officially register a double-dip recession in the first three months of the year as lockdowns weigh on household consumption and bottlenecks in global supply chains risk disrupting the so far resilient manufacturing sector. There should be a mild improvement in the second quarter as vaccinations and the warmer weather eases restrictions. The second half of the year looks stronger; as the region inches towards herd immunity and benefits from higher public investment. For Europe we forecast full-year growth of 3.8%.
While remaining optimistic about growth prospects for this year, a range of factors could infringe on short and long-term growth prospects. These include a significant deterioration in the healthcare environment, forced policy reversal and unemployment remaining at elevated levels.
The immediate risk to our forecasts stems from how well the pandemic is controlled. Our positive outlook is primarily based on the vaccination programme being progressively effective in halting the transmission of the virus.
However, it is important to recognise that there are still a number of vaccine unknowns including, the length of immunity, efficacy against future mutations and possible side effects. A reduction in efficacy rates would impede the road to normalisation and hit business and consumer confidence; delaying the recovery.
Continued fiscal policy support is a vital element of our projected robust growth forecasts. The distribution of the European Recovery Fund is essential for the region’s growth prospects. However, political infighting, poorly coordinated investment priorities and slow progress on commitments to economic reforms risk disbursement delays.
That said, government debt levels have risen substantially as a result of the fiscal response. Fiscally conservative lawmakers may demand that future stimulus packages are scaled back. Longer term, nations’ finances will eventually need to be put back onto a sustainable path. To achieve this, governments may be forced to raise taxes and reduce spending, thereby diminishing growth potential.
A robust recovery, rising commodity prices and ultra- accommodative policy could be a perfect recipe for higher inflation levels. If sustainable inflation projections begin to spike above central bank targets, it will increase pressure on them to exit their “emergency” policy posture. The resulting tightening of financial conditions would quickly filter through to a weaker growth profile.
In view of the recovery, along with concerns over creating asset bubbles and financial imbalances, China is expected to be the first major country to consider withdrawing its stimulus, albeit only gradually. Conversely, a worsening of growth prospects may force central banks to introduce negative rates, which could lead to a broad range of unintended negative consequences.
Labour markets have been particularly hit by the pandemic, particularly in the service sector. Its recovery will have a significant impact on consumption levels. Countries with the most flexible labour markets are likely to benefit from a relatively quick return to pre-pandemic employment levels, while those with stringent labour laws and powerful unions could see unemployment rates elevated for some time.
While the outlook remains positive, there are many dangers that could derail the global economy. Health officials and financial policymakers will need to balance protecting the public, ensuring the recovery and averting future imbalances to achieve long-term sustainable growth.
Encouraging hopes of a vaccine-driven recovery are keeping investors in good spirits.
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