Global economy watch - May 2013

 

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Economies around the world are recovering at varying speeds. Six months ago we reviewed the state of the global economy and pointed out a two speed recovery, with emerging markets growing faster than the advanced economies.

But as the state of the global recovery evolves we are seeing the US gradually break away from the pack of countries that are growing slowly, giving rise to a three speed world economy. 

In this next phase of the recovery, we are projecting the US will be in the middle lane of growth, expanding by around 2% and driving forward G7 economic growth.

Emerging markets are projected to continue to be in the fast lane of growth. Our analysis suggests their output could be growing three times as fast as the G7 economies, as evidenced by the recently released Chinese GDP data.

The Eurozone is projected to remain in the slow lane, with its output contracting for a second consecutive year. In the opinion of the former President of Cyprus, this is partly because of the institutional gaps in dealing with the link between a weak banking sector and governments.

Finally, this month we’ve focused on the equity markets, which in the case of the UK and the US have breached their pre-crisis levels. The shift in the focus of the major central banks from inflation, to growth, has helped minimise volatility, improve sentiment and boost returns in most major indices.

However, our analysis of the link between equity markets and the real economy suggests in some cases, businesses could be disappointed as stock exchange are not always leading indicators of more buoyant economic activity.

At a glance

Key messages:

  1. The global economy is recovering but the pace of economic growth is disjointed with emerging markets growing fast and the Eurozone lagging behind.
  2. In our interview with the former President of Cyprus he says that Europe needs to integrate even more to overcome its debt crisis.
  3. Equity markets have exceeded their pre-crisis levels as the Fed and the Bank of Japan continue to pump 150 billion US dollars per month into the markets.
  • Economies around the world are recovering at different speeds. Six months ago, we highlighted the rise of a ‘two speed’ economy, with emerging markets growing faster than advanced economies. But whilst the Eurozone continues to focus on crisis management and Japan puts the finishing touches to its reforms, the US appears to be breaking away from the pack and gradually returning to trend growth. As pointed out by the IMF, we are now seeing the rise of a ‘three speed’ economy.
  • Emerging and developing economies continue to be in the ‘fast lane’. Our projections suggest that the BRIC economies will be growing around three times as fast as the G7. The release of the first quarter GDP data for China confirmed our view that it will continue to grow slightly faster than the 7.5% government target rate (actual growth was 7.7% year on year), whilst gradually rebalancing from investment to consumption-led growth.
  • The US economy is in the ‘middle lane’ and is projected to grow close to its trend rate of around 2% in 2013. Sustained job creation is helping households gradually reduce their debt exposure from a peak of 106% of GDP in 2008 to around 94% in 2012.  The US now accounts for most of the growth in the G7 economies – had it not grown at all, G7  growth would drop from our projected 1.2% to just 0.3% in 2013.
  • The Eurozone is firmly in the ‘slow lane’. As our interview with the former President of Cyprus highlights, this is partly because of institutional gaps in dealing with the links between a weak banking sector and governments. We project that the Eurozone will contract for a second consecutive year in 2013.
  • The shift in focus of the major central banks from inflation to growth has helped to push US and UK equity markets back up above their pre-crisis levels. The main drivers have been the US Federal Reserve and the Bank of Japan. Together they are injecting around 150 billion US dollars per month which is roughly equivalent to the size of Vietnam’s annual output.
  • But despite trading at pre-crisis levels, equity markets do not immediately seem overpriced.  The S&P 500 and FTSE 100 are trading on a forward P/E basis of 16 and 13.9 respectively,  which is below their ten year average levels.
  • The US earnings season indicates a healthy business environment, with most companies reporting rising profits. However, the key theme still continues to be cost-cutting, rather than expansion and revenue growth.

Charts of the month

Figure 2 – The latest projections from the IMF World Economic Outlook showed that for most parts of the world growth prospects will have slowed down
 

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