The Global Economic Outlook
Global markets have endured a tough summer, hit by a financial crisis that had its origins in China, but spread quickly to other parts of the world. Trillions of dollars have been wiped out in equity values and some feared for another global recession. Thus, should we really fear for the worst, or is this just a correction of prices and their movement back to their fundamental values? In this short article, my aim is to shed some light into the current global economic outlook, separating the prospects between developed and emerging markets.
Developed vs. Emerging & Developing Economies
According to the IMF World Economic Outlook in July 2015, global growth is projected at 3.3% and 3.8% for 2015 and 2016, respectively. This week however the IMF Managing Director, Christine Lagarde, has indicated that this forecast is too optimistic yet she expects to remain above the 3 percent threshold. This growth is characterized by a gradual increase in developed economies and a slowdown in emerging and developing markets. The rate of growth for developed economies is projected at 2.1% and 2.4% for 2015 and 2016, respectively (compare that to a growth rate of 1.8% for 2014). Some of the main reasons for the favorable prospects relate to: the easy financial conditions (interest rates for many developed nations have been for some time now close to zero), the renewed hope for an exit of the Eurozone from its current crisis after the massive QE programme of the ECB, the low oil prices (consistently below $50 a barrel), as well as improving confidence in the economy and the labor market conditions. The rate of growth in emerging and developing economies is projected at 4.2% and 4.7% for 2015 and 2016, respectively (compared to a growth of 4.6% for 2014). Some of the reasons for this slowdown can be attributed to lower commodity prices (which affects negatively many exporting countries), tighter external financial conditions, inability to implement efficiently much-needed structural reforms, as well as the slowing of the Chinese economy (the growth rate in China for 2014 was at 7.4%, the slowest in the last 24 years, while the expectation is that this year China will not be able to achieve its target of 7%).
Sources of Risk
There are various sources of risk that can create deviations from the expected growth projections. First, we are experiencing substantial financial market volatility, not seen since 2011 amidst the Eurozone debt crisis. Also, the fact that interest rates have been so low for such a prolonged period of time and the speculation for interest rate hikes by the US Fed and the Bank of England, creates disruptive shifts (deviations) in asset prices. Furthermore, the potential output growth is lower for both developed and emerging (developing) economies, while the drop in commodity prices creates an extra source of risk (mainly for emerging/developing economies). Lastly, geopolitical risk has been on the rise lately (e.g. the migrant crisis that Europe is facing now, or the wars that are happening in places like Syria or Iraq and the rise of terrorist groups such as ISIS).
Drivers of Forecasts
First, growth for the first quarter of the year has been weaker than previously expected, mainly in the US. Also, despite the drop in commodity prices, to a certain extent, oil prices have started rebounding (due to an increase in demand and lower than expected oil production in the US). Furthermore, inflation is probably at the lowest level in many advanced economies and will have to start going up soon, while the opposite is happening in emerging markets as inflation has been declining. Another important determinant is the fact that financing is favorable for both corporations and households, especially in the developed economies. Lastly, the slowing down of the Chinese economy, the expected monetary tightening of the US economy, and the continued monetary easing of the Euro area and Japan are important factors that drive the above forecasts.
The writer is an Associate Professor of Finance at Cyprus International Institute of Management (CIIM) and the Director of the MSc in Financial Services.
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