Three Reasons for Optimism on Global Growth

Summary

• Fresh COVID restrictions leave downside risks to the global recovery as mobility slows again.
• Asia’s dominance in global growth, an accommodative policy stance and a more COVID-secure world economy should contain any near-term fall.
• Forward-looking components in PMI data are positive, and with businesses now more experienced with COVID restrictions we remain sanguine about this year’s growth outlook.

Investment Implications

• Medium term: positive for EM assets and global equities.

Mobility is falling once again. Another UK lockdown, ongoing tight restrictions across Europe and forthcoming new measures elsewhere leave risks that economic activity could face another sharp decline. But with vaccine rollout now underway, policy support continuing, and the main region of global growth (namely Asia) relatively unscathed in recent months, the expected global rebound remains fairly secure.

The new, more transmissible strain of COVID recently identified in the UK has not yet dented optimism over the global recovery. Neither did the virus-related weakness through Q4, which lowered the starting point for this year’s growth. Instead, a Democrat clean sweep and the prospect of further US stimulus are buoying risk sentiment. We agree with the positive market assessment and highlight three key reasons to remain upbeat on the global recovery.

1) Asia Will Remain a Key Driver of Global Growth

At almost one third of the global economy in PPP terms, the strong growth outlook for Asia (exc. Japan) will drive the global recovery (Chart 2). China’s swift recovery from the COVID outbreak is increasingly broad based, with exports performing significantly better than expected in recent months and consumption catching up.

One key risk is an outbreak of the new COVID variant in China. But even here we expect the authorities would quickly manage the situation. Taiwan, Singapore and Vietnam are considered the countries most successful in curbing local transmission (South Korea’s initial swift handling of COVID failed to prevent a third wave by the end of the year). And while China’s 19% of global GDP swamps their combined weight of 2%, these three countries are all key to the global supply chain and ongoing recovery in goods trade. They also offer an important template for improved COVID handling elsewhere given mass vaccination will take time.

A bounce in DM growth after last year’s dismal performance will also help support global growth. A recovery in the high-contact service sector should start to get underway through H2, with pent up demand providing an initial boost. COVID scarring and the long-term impact of foregone investment and destruction of viable business will only play out over the coming years. Next year will instead be one of normalization and catch-up.

2) Abundant Liquidity, Low Interest Rates and a Search for Yield Will Support EM Financing Conditions

10-year UST yields at 1% will start to tighten financial conditions for dollar borrowers. But with the Fed and other central banks around the world unlikely to restrain last year’s liquidity expansion anytime soon, the overall policy stance will remain firmly accommodative. A few more EMs may even cut interest rates further this year (India, Mexico and possibly Poland).

It also remains to be seen whether the recent rise in yields is sustained, particularly given this proved to be temporary following Donald Trump’s presidential win in 2016. Moreover, the exceptionally low level of rates in DM, abundant liquidity and search for yield should support continued capital flows to EMs and ensure financing conditions remain comfortable for now, even with the rising debt levels.

3) The Scale of the Disruption in Q1/Q2 2020 Is Unlikely to Repeat, With COVID-Compliant Practices Already in Place

The global economy is not COVID-proof. But it is in a much better position to continue under renewed COVID outbreaks than in H1 2020. Work from home practices are now well established for those jobs permitting it. Improved testing should face reduced constraints from staff shortages. And combined with better access to PPP, factory closures should be less common this time around. Closing retail, hospitality and leisure activity will still significantly hurt the services economy, but these sectors have also been able to pivot somewhat.

That the global manufacturing PMI remained close to a decade high in December despite rising COVID cases highlights the much-improved position (Chart 3). At 53.8 the global reading was unchanged from November, and new orders have now risen for six consecutive months. Production gains were also fairly broad based across countries (with Japan the main exception) and sectors, albeit with consumer goods lagging.

The newness of the COVID developments means even PMI data can quickly become outdated. But forward-looking components on orders give some comfort in that regard. The main concern is elevated supply-chain pressures. Supplier lead times are close to all-time highs, and inventories have fallen. Input and output costs are rising – sharply in some countries.

Given that activity held up well last month despite a rising virus count, it is difficult to see how the latest round of restrictions could trigger anything like the collapse recorded last year. Expect dampening growth, not derailment.

In summary, we remain optimistic on the global recovery. This is due to the Asian growth outlook remaining secure, an exceptionally accommodative policy stance set to remain in place and a more COVID-resilient working environment. Some near-term weakness is likely, and downside risks have increased. But this will pale in comparison to the deep contractions seen last year. An ongoing recovery in growth will support corporate profits and equities, while EM assets should continue to benefit from a search for yield.