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Global Outlook

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Economic and Financial Outlook, Q2 08

Fri, Apr 18 2008, 07:09 GMT
by Allan von Mehren

Danske Bank A/S

Macro and central bank outlook:

• Global: The global picture is dominated by the significant slowdown of the US economy and the financial crisis. A continued rise in oil and food prices is adding to the economic woes globally, although commodity exporters are benefitting. The US is set to experience a significant slowdown in the first half of 2008 but is expected to recover slightly in the second half. Euroland will slow down further and the Emerging Markets will also feel the headwinds and experience softer growth ahead.

• US: Economic activity has slowed substantially and a recession may be imminent or already unfolding. In the short term, downside risks remain predominant. If anything, the picture will darken further in the next few months, as consumers struggle with rising energy prices, slowing labour income, tighter credit and declining household wealth. Moreover, industrial and labour market indicators are set for further deterioration. Consequently, the Fed is expected to ease rates to 1.50% by June. As the fiscal stimulus package kicks in by late Q2 and in Q3, consumer spending is set to revive and the Fed will go on hold. Aided by low inventory levels, this is likely to prompt a temporary rebound in US industry during the autumn and a stabilisation in the economy in H2. With the underlying economy remaining fragile, a renewed period of weakness is likely to appear around New Year as the effect from the tax rebates peters out. A sustained recovery will not materialise before somewhere in 2009. Given this picture, the Fed is likely keep rates low for a lengthy period.

• Euroland: The slowdown of the Euroland economy is likely to strengthen over the coming quarters as the economy is faced with significant headwinds. We expect growth to fall to 1.4% this year followed by 1.5% in 2009. The strong slowdown on Euroland’s two biggest export markets, ie the US and the UK, will start to be felt and this will only be worsened by the significant strengthening of the euro versus both the dollar and the pound. Inflation has surprised to the upside and will stay elevated around 3% for some time and continue. The high inflation weakens consumption growth, and housing markets in several countries are at risk of a hard landing due to the credit crisis. Weaker growth and some decline in inflation in the second half of 2008 is expected to pave the way for three rate cuts in September, December and March, taking the ECB rate down to 3.25%. The risk is, though, that inflation stays in a territory where the ECB is boxed in and is unable to move rates.

• Japan: Growth is slowing but in the short run it will not turn out as bad as feared. In the short run, demand in Japan will be supported by recovering housing construction following the near collapse of housing construction in H2 07 after the government tightened building regulation. In addition, private consumption has proven more resilient than expected and the decline in exports to the US has largely been offset by stronger exports to the emerging markets. However, we believe H2 08 will be more challenging for the Japanese economy. The boost from stronger housing construction will disappear in H2 08 and export growth will start to suffer as emerging market growth starts to slow. Growth is expected to pick up in 2009 as the global outlook gradually starts to brighten. The Bank of Japan is expected to keep the leading O/N target rate unchanged at 0.5% until mid-2009.

• Emerging Markets: The Emerging Markets will not be immune from slower growth in the developed markets, although the fundamentals for many of the Emerging Markets remain strong. Emerging Market growth is expected to slow but remain above trend in 2008 and 2009. Slower growth is expected to be most pronounced in Central & Eastern Europe (CEE), where growth has been imbalanced, as indicated by overvalued currencies and unsustainable current account deficits. In the Emerging Markets of Asia, growth is increasingly supported by domestic demand. In addition, direct spill-over from the current financial market turmoil is expected to be limited. In Latin America, the Middle East, CIS and Africa, growth and current accounts will remain supported by higher energy and commodity prices and current account surpluses. Major risks for the Emerging Markets besides general risk aversion, are a major correction in energy and commodity prices and an increasing risk of political tensions on the back of the recent surge in food prices.

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Published on  Fri, Apr 18 2008, 07:18 GMT