Major economies struggle for traction with US in the lead

KUWAIT: The global environment remains challenging amid high interest rates, adverse geopolitics, and subdued global trade growth. Among major economies, only the US seems poised for solid growth in 2024 as resilient household spending and a still-tight labor market support activity. The eurozone and UK are flirting with or in recession, but growth could pick up slightly from last year’s weak base as inflation and the energy shock recede, and amid optimism about interest rate cuts. Despite Japan’s slow growth due to anemic global demand and falling real wages, above-target inflation means that a central bank policy U-turn towards monetary tightening is possible sometime this year. China, who’s post-COVID rebound disappointed in 2023, faces continued headwinds from muted domestic consumption and property sector weakness, amplifying calls for a more compelling policy response.

US: Resilient job market

The US economy has continued to positively surprise over the last several months, which prompted the IMF to upgrade its growth forecast for 2024 to 2.1 percent (still down from 2.5 percent in 2023) from 1 percent projected six months back. GDP grew by an above-trend 3.3 percent in Q4 2023, and recent PMI and consumer surveys point to momentum being sustained over the coming months. Thus far, consumer spending has been resilient to elevated interest rates, underpinned by generally slowing inflation (3.1 percent in January), strong job gains (+350K in January, a 12-month high), and wage growth accelerating to 4.5 percent y/y. Moreover, household wealth has been boosted by rising equity and home prices.

Although, the delayed impact of high interest rates could erode support from these areas in coming quarters, the big drop in inflation is fueling market hopes that the Fed can cut interest rates pre-emptively by 75-100 bps this year, helping the economy avoid a hard landing and even setting the stage for a reacceleration in growth in 2025. Ahead of the presidential elections in November, additional fiscal stimulus could also be forthcoming. This ‘Goldilocks’ scenario of slower inflation and robust economic growth with durable labor markets, while not implausible, is still exposed to various risks, such as fresh supply-chain shocks amid deteriorating geopolitics, and renewed inflation that delays interest rate cuts. A further downside risk to growth involves the moribund commercial real estate sector, with signs of distress highlighted in some recent corporate results.

Eurozone and UK

The eurozone has been hovering close to recession, having narrowly avoided two straight quarters of negative growth (-0.1 percent q/q and 0 percent, respectively in Q3 and Q4 2023). The bloc’s two largest economies, France, and Germany, continue to struggle with weak external demand (mainly on account of China) and soft domestic consumption (due to price and interest rate rises). The IMF recently cut its 2024 growth forecast for the eurozone from 1.2 percent last October to 0.9 percent, though still improving from 0.5 percent in 2023, as aftershocks from energy price rises subside and household consumption gradually recovers. Amid muted economic growth and sharply lower inflation (down to 2.8 percent as of January), the consensus view is that the ECB will reduce policy rates by 75-100 bps this year, with the ongoing resilience of the labor market providing the main reason to delay. The UK could see a similar recovery in growth to 0.6 percent, albeit from a low base of 0.1 percent in 2023, based on the IMF’s projections.

Wage growth at 6.2 percent y/y is now running well ahead of inflation at 4.0 percent, which will provide the basis for an easing in cost-of-living pressures this year and improve the outlook for consumer spending. But at the same time, this might slow the pace of interest rate cuts by the Bank of England, with markets looking for rates to drop by around 75 bps by end-2024. The government’s budget in March could unveil a package of tax cuts to boost growth ahead of a general election later in the year, but room for maneuver is limited by a fiscal deficit projected at nearly 5 percent of GDP this year. After a sizeable correction in 2022-23, the housing market looks set to be more stable. As in the US, risks surrounding the outlook for Europe include the inability of central banks to lower interest rates if inflation proves persistent, especially given the already feeble growth outlook. Uncertain energy prices, geopolitics and supply-chain issues linked to Red Sea shipping route disruption also present risks.

The Bank of Japan (BoJ) recently lowered its economic growth estimates for FY2023-24 (ending March 2024) to 1.8 percent due to slowing activity overseas and cooling consumer sentiment amid elevated inflation. However, the tightening labor market, rising nominal wages, and somewhat easing price pressures should support private consumption going forward, while inbound tourism should continue to recover from the pandemic. As a result, the BoJ raised its growth forecast for FY2024-25 by 0.2 percent to 1.2 percent, which although softer than this year is still above long-run trend growth. Meanwhile, the bank revised down its inflation forecast to 2.4 percent from 2.8 percent on declining energy prices, then a below-target 1.8 percent in FY2025-26. Despite currently above-target inflation, the BoJ has maintained its ultra-loose monetary policy until now, keeping short-term interest rates at -0.1 percent, worried that upward price pressures are temporary driven by cost factors.

At its latest meeting, the bank sent early signals of a shift towards policy tightening, though did not provide any indication on the timing or pace of the change. A complete withdrawal from negative interest rate policy hinges on a broad economic recovery including more robust household consumption growth and stronger overseas demand.

China: Lackluster consumption

China’s economy grew 5.2 percent in 2023, but the key headwinds that dampened growth have persisted. Due to the ongoing drag from the property sector, weak domestic consumption, a declining labor force and a soft external demand outlook, output growth could remain in a prolonged slowdown. Recent indicators such as PMI surveys, CPI prints, retail sales, bank credit and trade data, have signaled uneven momentum in early 2024 and the IMF sees GDP growth decelerating to 4.6 percent in 2024. China’s economic model, which relied heavily on debt-fueled infrastructure and property investment in the past, has faltered with investment as a share of GDP now trending well below pre-COVID levels. Indeed, a significant buildup in public debt, especially amongst fiscally-constrained local governments, has put the central government on the back foot. Policymakers have mulled boosting infrastructure spending, but that could stoke debt accumulation concerns, given the diminishing returns on investment. Volatile Sino-US relations and other geopolitical developments have compounded the challenges for the authorities. Nonetheless, the government has pledged fresh support to improve domestic consumption, while maintaining growth measures for exports of high-value-added green energy products. The authorities have also tried to prop up financial markets by imposing short-selling restrictions and injecting funds through state-owned enterprises, which could help stem capital outflows and support a weakening yuan. Still, recent measures to rejuvenate economic activity have yet to restore consumer and investor confidence.