We are likely to see global growth slowing for the remainder of the year. Our proprietary Fidelity Leading Indicator (FLI) remains stuck in the ‘growth below-trend and decelerating’ quadrant of its Cycle Tracker, pointing to softer growth in the coming months.
US: Losing momentum
The US, which has been the growth engine of the global economy, is likely to start slowing into year-end but the fiscal stimulus will continue to boost growth through 2019. Broader financial conditions in the US are still easy, but mild tightening - through rising interest rates, less-easy monetary policy and a strengthening dollar - are all starting to weigh on growth. We believe both the level and pace of this tightening matter. As such, we need to see much more tightening in financial conditions, and at a faster pace, to start worrying about serious growth implications.
While the US economy has been powering on thus far, there are now signs it may be running out of room. The economy is close to hitting capacity constraints - both in labour and product markets. And as labour market conditions continue to tighten, cost and wage pressures are building up. But we don’t see any flashing red lights yet as the picture is not broad-based across sectors. Indeed, real wage growth is heading into negative territory. Overall, the economy is heating up, but there are no signs of overheating yet.
Source: Bureau of Labor Statistics, Haver Analytics, Fidelity International, August 2018
We expect the Federal Reserve to stick to the plan of four rate rises through 2018, but next year a combination of three more planned hikes, further quantitative tightening and treasury issuance form a ‘triple whammy’. We believe that something will have to give - and we don’t think it will be fiscal! The biggest risk to global growth is the risk of the Fed doing too much.
Another worrying trend is the high level of corporate sector debt, which stands out as one of the biggest imbalances in the system. Debt as a percentage of GDP is now in line with previous cycle highs of around 45 per cent, although the pace of increase has been more measured relative to the last two episodes in 2001-2002 and 2008-2009. We think the size of this debt could certainly trigger a recession, but this is unlikely to be the epicentre of another crisis - at least for now.
Much has also been written about the flattening yield curve which is generally viewed as a precursor of a recession. While we don’t think that a US recession is imminent, we cannot dismiss the yield curve signal completely.
Source: Haver Analytics, Fidelity International, August 2018
Indicators in China have been mixed. On the positive side - PMIs are stable, imports are surprisingly strong, manufacturing PPI is healthy and house prices are still robust. However, investment, especially infrastructure, is very weak, and real estate construction is negative. Plunging retail sales volumes stand in contrast with second quarter GDP that was supported by a huge boost from consumption; this suggests that growth is materially weaker than the official number. All these factors indicate that the direction of travel has undoubtedly been downward.
Source: People’s Bank of China, Haver Analytics, Fidelity International, August 2018
Since June, the government has taken several steps to create ‘easier’ conditions to boost liquidity in the system. However, genuine fiscal loosening through measures such as the much touted corporate R&D tax cuts amount to just 0.065 trillion renminbi or 0.07 per cent of GDP. Other steps include ‘asking’ banks to lend, and ‘urging’ local governments to use more of their 1.35 trillion renminbi ‘special bond’ quota for infrastructure, which was only 25 per cent tapped in the first half of 2018. Overall, while we believe these measures are better than nothing, their magnitude still seems small and the numbers are unlikely to be game-changing.
What could cause the next global recession?
Outside of the US, a shock has to be pretty big to spill over globally, including into the US. A sudden stress in China’s financial system or a hard landing is an on-going risk, but we now believe such a risk is currently higher than average. Other triggers could be the ongoing Turkey crisis, a multilateral trade war scenario or a break-up of the euro (a scenario that is unlikely for now, but has the potential to derail global growth).
The situation in Turkey may yet represent a systemic shock that could lead to global contagion. But for major central banks to react, it has to spread to other emerging markets (EM) and dramatically tighten global financial conditions. In a sense, the situation has to get much worse before a significant global policy response. But there are other factors at play that make the Turkish situation much more unpredictable: the Erdogan-Trump politics, other interested parties (namely China and Russia) and hidden exposures - all this against the backdrop of tightening global liquidity. Maybe it’s time to dust off that classic EM crisis handbook?
What question should we tackle next?
Email your suggestion email@example.com
The value of investments and the income from them can go down as well as up so you may get back less than you invest. Past performance is not a reliable indicator of future results. These materials are provided for information purposes only and are intended only for the person or entity to which it is sent. These materials do not constitute a distribution, an offer or solicitation to engage the investment management services of Fidelity, or an offer to buy or sell or the solicitation of any offer to buy or sell any securities or investment product. Fidelity makes no representations that the contents are appropriate for use in all locations or that the transactions or services discussed are available or appropriate for sale or use in all jurisdictions or countries or by all investors or counterparties. Investors should also note that the views expressed may no longer be current and may have already been acted upon by Fidelity. They are valid only as of the date indicated and are subject to change without notice.
This material was created by Fidelity International. It must not be reproduced or circulated to any other party without prior permission of Fidelity. This communication is not directed at, and must not be acted on by persons inside the United States and is otherwise only directed at persons residing in jurisdictions where the relevant funds are authorised for distribution or where no such authorisation is required. Fidelity is not authorised to manage or distribute investment funds or products in, or to provide investment management or advisory services to persons resident in, mainland China. All persons and entities accessing the information do so on their own initiative and are responsible for compliance with applicable local laws and regulations and should consult their professional advisers. This content may contain materials from third-parties which are supplied by companies that are not affiliated with any Fidelity entity (Third-Party Content). Fidelity has not been involved in the preparation, adoption or editing of such third-party materials and does not explicitly or implicitly endorse or approve such content. Fidelity International refers to the group of companies which form the global investment management organisation that provides products and services in designated jurisdictions outside of North America Fidelity, Fidelity International, the Fidelity International logo and F symbol are trademarks of FIL Limited. Fidelity only offers information on products and services and does not provide investment advice personal recommendations based on individual circumstances. Issued in Europe: Issued by FIL Investments International (FCA registered number 122170) a firm authorised and regulated by the Financial Conduct Authority, FIL (Luxembourg) S.A., authorised and supervised by the CSSF (Commission de Surveillance du Secteur Financier) and FIL Investment Switzerland AG, authorised and supervised by the Swiss Financial Market Supervisory Authority FINMA. For German wholesale clients issued by FIL Investment Services GmbH, Kastanienhöhe 1, 61476 Kronberg im Taunus. For German institutional clients issued by FIL Investments International – Niederlassung Frankfurt. In Hong Kong, this content is issued by FIL Investment Management (Hong Kong) Limited and it has not been reviewed by the Securities and Future Commission. FIL Investment Management (Singapore) Limited (Co. Reg. No: 199006300E) is the legal representative of Fidelity International in Singapore. FIL Asset Management (Korea) Limited is the legal representative of Fidelity International in Korea. In Taiwan, independently operated by FIL Securities (Taiwan) Limited, 11F, 68 Zhongxiao East Road., Section 5, Xinyi Dist., Taipei City, Taiwan 11065, R.O.C. Customer Service Number: 0800-00-9911#2 Issued in Australia by Fidelity Responsible Entity (Australia) Limited ABN 33 148 059 009, AFSL No. 409340 (“Fidelity Australia”). This material has not been prepared specifically for Australian investors and may contain information which is not prepared in accordance with Australian law.