Markets Weekly podcast – 30 January 2023

Henk Potts (HP): Hello. It’s Monday, 30th January and welcome to the Barclays Private Bank Markets Weekly podcast, the recording that will guide you through the turmoil of the global economy and financial markets. 

My name is Henk Potts, Market Strategist with Barclays Private Bank. I’m here to discuss both risks and opportunities for investors.

Given the barrage of crucial interest-rate decisions that will be delivered during the course of this week, from some of the major central banks, we thought we should devote this recording to discussing our global growth and inflation forecast for 2023, and, broadly, what that means in terms of the future path of monetary policy, after which I will focus on what to expect from this week’s meetings and beyond from the Federal Reserve, the Bank of England and, of course, the European Central Bank.

Central bankers will try to balance the weakening growth environment and the threat of inflation over the course of the coming months. 2023 looks set to be another challenging year for the global economy, given the combination of heightened geopolitical tensions, tighter financial conditions and the ongoing impact of elevated levels of inflation on consumption, all of which are likely to weigh on growth prospects.

Further risks to output could also emanate from a more prolonged period of price pressures than we estimated, particularly generated by wage increases, but also an extended energy shock and a renewed flare-up of the pandemic. Then, our base case, well, we’re certainly watching those elements very carefully indeed. But I think, given the probability that we will see a recession in the UK, in Europe and, to a lesser extent, in the United States, we do think it will be very difficult for advanced economies to generate meaningful growth during the course of this year.

At a global level, we forecast that growth will remain positive, albeit a very weak 2.2%, as China recovers from a depressed 2022, and the Indian economy grows at an impressive 5.2%. We should note if GDP does come in as projected at that 2.2%, that will represent the third weakest outturn for the global economy in the past 30 years, outside the contractions that we saw in 2009 and 2020.

Whilst growth forecasts remain constrained, we should note, of course, that activity over the course of the past few months has proved to be more resilient than expected. Household consumption has been cushioned by excess savings and robust labour markets, consumer, corporate and financial balance sheets still look very healthy, and the service sector has been recovering as the bounce back from the pandemic continues.

China’s decision to abandon its zero-COVID strategy should also materially boost domestic activity and improve global supply chains. The inflation trajectory will, of course, continue to be a big driver of policy during the course of this year. The big question clients ask us is, where are we in terms of inflation? Well, the answer to that is we do think we’re now past the point of peak price pressures, and that inflation prints will continue to moderate over the course of the coming months.

Goods inflation has already materially eased back as a result of elevated inventory levels, a relaxation of restrictions and rising capacity. As we look forward, further disinflationary pressures should emerge from weaker demand due to higher interest rates, improving labour market conditions and stabilising of commodity prices.

Whilst we expect inflation to remain above targeted levels in many regions during the course of 2023, we do believe that prints will become increasingly digestible over the course of the next couple of years. We forecast that global consumer prices will average 4.4% during the course of this year, then ease back to around 2.9% going through the course of 2024, much better than that 7% surge that was registered during the course of 2022.

Having instigated the steepest tightening cycle in four decades, we do think that much of the heavy interest-rate lifting has been accomplished by central bankers, and the end of the hiking cycle is now within sight. So, if, as expected, inflation does moderate, it should take some of the pressure off central bankers, and continue to push rates deeper into restrictive territory, thereby reducing the risk of a policy-induced harsh recession playing out.

That’s broadly how we see the outlook for the global economy, inflation and policy playing out during the course of this year. But, remember, that changes from region to region.

So, let’s start off with the world’s largest economy, where we’re expecting a subdued performance from the US during the course of this year, due to lower consumer demand growth, a softening housing market and lower levels of investment.

We expect private consumption growth to slow to 1.3% during the course of this year, much lower than that 3.7% growth that we saw in 2022, and we think that will weigh on growth prospects. You’ve got unemployment rising. Consumer purchasing power continues to be eroded by higher interest rates and inflation. We forecast that US unemployment will rise steadily from its current low base of 3.5%, to finish the year at around 4.8%.

On a positive note, US inflation has been moderating. If you look at December’s CPI print, it tells you that it declined one-tenth of 1% month on month. That’s the first decline that we’ve seen in two and a half years. Whilst the annual figure, at 6.5%, of course, is still elevated, remember, it’s still more than three-times the official target level, has been decelerating for six consecutive months and is now back to its lowest level since October 2021. 

We do expect that moderation trend to continue. In fact, we’ve got US CPI averaging 2.4% in the fourth quarter of this year, and the Federal Reserve, I think, will be watching that very carefully indeed. Remember, the US central bank stepped down to a 50-basis point hike in December, following a string of 75-basis point increases. The fed funds target range now stands at 4.25% to 4.5%. That’s the highest rate that we’ve seen since December 2007.  

Having raised rates for seven consecutive meetings, and by an astonishing 425 basis points during the course of last year, we predict the FOMC will conclude this hiking cycle over the course of the next few months with a string of 25-basis point increases. So, we expect a quarter-point hike during the course of this week and at the March and the May meetings, after which we anticipate that the central bank will maintain a policy rate of 5% to 5.25% through much of the year. 

Towards the very end of this year, as the economy slows down, as inflation moderates and labour markets cool, we do think there’s the potential for a pivot to an easing stance. In fact, we’ve pencilled in 25-basis point cuts at the November and December meeting. 

So, let’s now move on to Europe where economic data, as we have been talking about, has held up better than expected over the course of the past few months, helped by the mild winter weather, high levels of gas storage and the importing of liquified natural gas, all of which has helped to reduce fears of an immediate energy supply shock impacting the region. 

However, medium-term energy risks persist as we look into the supply-and-demand dynamic for winter 2023 and 2024. But I think, more broadly, the outlook for European growth is still anticipated to be affected by weaker domestic demand, reduced levels of industrial output and lower levels of investment. 

We expect eurozone GDP to contract by one-tenth of 1% during the course of this year, and forecast the rate of unemployment will rise to 6.9% at the end of this year. Eurozone inflation continues to be a problem, though it did decelerate to 9.2% in December and is back into single digits for the first time since August. We forecast that eurozone price pressures will continue to slowly moderate because of governments’ intervention in energy markets along with weaker gas and electricity prices.  

Nevertheless, we do think that inflation will remain elevated during the course of this year as wage growth starts to shine through. We think wage growth will be driven by increases in minimum wages, but also higher pay demands coming through from powerful trade unions, all of which is creating upward pressure on employee compensation. 

Despite the weakening backdrop, the European Central Bank remains determined to tame inflation. The Governing Council has increased the deposit rate, remember, from negative territory in early summer last year, to 2% at the December meeting. The European Central Bank recently guided that rates will still have to rise significantly and at a steady pace to reach levels that are sufficiently restrictive. Therefore, we look for a 50-basis point increase at this week’s meeting, a further half of 1% increase coming through in March, forecast the terminal deposit rate of 3%, but we should also acknowledge that risks in Europe, when it comes to rates, continue to be skewed to the upside. 

Let’s finish off with the UK, where we know the cost-of-living crisis, political turmoil and policy confusion has created a particularly negative backdrop for the UK economy. Household consumption has slumped. You only have to look at those retail sales numbers that we saw for December, down 5.8% year on year, the biggest fall that we’ve seen since 1997. Manufacturing PMI is in contraction territory and the recovery in the service sector has been fizzling out.  

UK inflation remains in double-digit territory. It came in at 10.5% in December and is forecast to moderate at a slower pace than other advanced economies. This, in part, is due to the impact of higher energy bills and lower levels of government assistance. But the ongoing disruption to supply of labour and goods continues to impact when it comes to price pressures. Therefore, we forecast UK CPI will average 7.3% during the course of this year. 

In terms of the policy outlook, well, the Bank of England increased interest rates by 50-basis points in December, pushing the base rate up to 3.5%. Remember, that’s the highest that we’ve seen in 14 years. We forecast that the Monetary Policy Committee will raise rates by a further 50-basis points this week, followed by 25-basis point increases in March and May, taking the terminal rate for UK rates up to 4.5%.  

So, still some work to be done, I think, when it comes to raising interest rates in some of those major regions.  

We do expect, as I say, those hikes from the Fed, from the European Central Bank and the Bank of England during the course of this week, but we do think we are now moving towards, as we’ve been talking about, the end of this hiking cycle, which, along with moderating inflation and the reopening of China, should provide a boost to sentiment over the course of the coming months and allow, I think, economic momentum to resume towards the end of this year. 

With that, I’d like to thank you once again for joining us. I hope you’ve found this update interesting. We will, of course, be back next week with our next instalment. But, for now, may I wish you every success in the trading week ahead.