7 Macro Disruptors Reshaping the Economy

As we begin to emerge from the COVID-19 pandemic, seven ‘new normal’ ideas merit the attention of investors.

early in 2021, it’s fair to say that the global ecoAS I WRITE THIS, nomic outlook seems more stable than it was last March amid the COVID-19 pandemic: Vaccines are gradually being made available around the world, central banks have brought stability and liquidity to global markets, and governments worldwide have introduced some of the largest fiscal stimulus packages in modern history.

And yet, tremendous uncertainty persists, The strength of the global economic recovery depends on the speed at which COVID-19 vaccines can be distributed, and the scope for further fiscal spending depends on the outcome of delicate political negotiations in each country. Meanwhile, the resilience we’re seeing in the financial markets may be limited by when investors believe central banks might start to roll-back quantitative easing (QE).

What, then, constitutes a reasonable base case for 2021? Our outlook comprises four key themes: a year of two halves; a Kshaped recovery; a temporary spike in inflation; and the continued search for yield. Within this very reasonable consensus, and, dare we say it, uninspired base case, we find ourselves monitoring a number of non-standard themes and ideas — macro disruptors that were either borne out of — or came into prominence as a result of — the COVID-19 outbreak.

Although we’re confident about our forecast, we also expect the way markets think about the macro environment to shift away from traditional premises and gravitate towards nascent and unconventional macro trends in 2021. While these ‘new normal’ ideas may not be directly investable just yet, they are areas that we expect to devote special time and attention to this year.

MACRO DISRUPTOR 1: Monetary and fiscal policy coordination and the blurring of policy roles.

The simultaneous implementation of both monetary policy and fiscal policy stimulus in 2020 has been cheered as a successful example of coordinated policy. It likely saved the global economy from a persistent depression and should no doubt be lauded; however, this coordination on a multitude of levels is, in our view, also blurring the line of central bank independence and the traditional roles and goals of each type of policy.

Primarily, the extent of central bank purchases of government bonds — particularly those issued after March 2020 — and the share of the government bond market held by central banks is eye-catching and has generated discussions about whether central banks have been financing government debt. While we don’t necessarily agree with that view, it is clear to us that the amount of government debt issued has been facilitated by historically low interest-rate policy that most central banks are committed to maintaining. It is also clear that government dependence on low rates and QE programs will add more fuel to the ongoing discussion about debt monetization and modern monetary theory as well as common trade ideas associated with them, such as inflation protection and yield curve steepeners.

Meanwhile, central banks have stepped up their research efforts on topics beyond their typical scope, including income inequality, climate change and digital currency transfers. Notably, the U.S. Federal Reserve’s (Fed’s) transition to average inflation targeting will give the central bank more flexibility to address varied issues because the new framework allows for an overshoot of inflationary pressures when the economy runs hot. The appointment of former Fed Chair Janet Yellen as U.S. Treasury secretary is also likely to strengthen the interaction and application of both forms of policies.

Crucially, we believe the cross-pollination of goals and focus between fiscal and monetary policy suggests central banks could be motivated to keep interest rates very low as they tackle issues beyond inflation. It also implies that global money supply could continue to expand and that government debt and deficits will be persistent. This may seem subtle but, in our view, the development could affect many macro areas and interact in unexpected ways with other emerging macro disruptors.

MACRO DISRUPTOR 2: A growing thirst for alternative investments, including cryptocurrencies.

The ‘search for yield’ — an increased risk taking in exchange for higher expected return during periods with relatively low interest rates — has been an important strategic investment theme for us over the past several years and informs our asset allocation perspective. Massive central bank balance sheet expansion and the surge in government debt/deficit will likely encourage investors to venture further into alternative asset classes. While it is likely that investors will increasingly focus on traditional alternative assets such as private assets, emerging markets and infrastructure

Central banks have stepped up their research efforts on income inequality, climate change and digital currency transfers.

and agriculture funds, we believe there will also be a growing demand for assets whose value cannot be distorted by central bank purchases, specifically those that may be subject to less regulation and taxation, since governments may be seeking additional revenue to fund expected future deficits.

Against this backdrop, cryptocurrencies will likely be viewed as an alternative investment that offers a solution to investor fears that ongoing extraordinary policy support could lead to resource misallocation. This doesn’t necessarily imply that investments in cryptocurrencies are appropriate, but it does suggest that cryptoassets such as bitcoin will increasingly become a standard point of reference for investors and policymakers alike.

MACRO DISRUPTOR 3: A shift away from traditional data, including GDP and CPI, pivoting towards private and alternative data.

In 2020, economists and investors alike were forced to eschew traditional economic indicators as they raced to understand how the pandemic was affecting the economy. Indeed, traditional data sets — most of which are lagging indicators — proved to be too lagged and distorted to be meaningful in a rapidly changing environment. Wild swings in traditional data points didn’t help — the month-over-month, year-over-year changes were of such a huge magnitude that the extent to which they missed expectations was borderline irrelevant. Crucially, swings in widely monitored headline data contained precious little insight to explain the massive disruptions that were taking place in the real economy.

To compensate for that, we turned to new, seemingly unorthodox and, occasionally, private sector data such as Opentable restaurant reservations, Google’s mobility indexes and cross-border visitor arrival data for a read on the economy. These aren’t without faults, but they proved to be useful — timely, nuanced and ultimately highly correlated with the traditional monthly data points we had grown so accustomed to.

We believe investors will continue to demand more timely data that can provide an instant read on economic conditions,

and this private sector data will become a critical building block of macro views from here on. We also expect markets to have more muted reactions to traditional economic data releases than they might have historically. In other words, investors have identified the need for new informational tools in a POST-COVID-19 landscape that can enable them to understand the macroeconomic environment better and stay ahead of the markets.

MACRO DISRUPTOR 4: Central bank digital currencies will receive more attention.

We suspect central banks will intensify existing efforts to better understand digital currencies, specifically central bank digital currencies (CBDCS), which refer to the system in which a digital currency is distributed, one that’s backed and controlled by central banks (i.e. it doesn’t rely on blockchain technology and isn’t a cryptocurrency). The construction of a CBDC system could take many forms, but the idea is often associated with the concept of a ‘digital wallet’ held by end users, which could include households or businesses.

While the idea might seem far-fetched, central banks are already immersed in the research: At least 36 central banks have published on the subject, and we expect work in this area to intensify. In our view, the ongoing cross-collaboration between the world’s largest central banks and the Bank for International Settlements to develop common foundational principles and core features of a CBDC could be seen as a sign of things to come. Interestingly, China has already trialed a central bank-backed digital yuan.

CBDCS would — in theory — improve the effectiveness and transmission of monetary policy by targeting money to those

COVID-19 has turned the spotlight on the extent of racial, gender and wealth inequalities.

who most need it, as opposed to the indirect nature of QE (and potentially free central banks from worrying about the asset bubbles QE may or may not create). Crucially, CBDCS could enable the disbursement of ‘helicopter money’ should it be necessary. They aren’t, however, without major obstacles — they run the risk of disintermediating banks, a development that could have important consequences. But as the effectiveness of monetary policy hits its limits — particularly at a time when policymakers are looking for ways to target inequalities more effectively — CBDCS could be the logical next step.

MACRO DISRUPTOR 5: An accelerated focus on ESG investing that expands into the macro universe.

This could well be the year that environmental, social, and governance (ESG) factors extend their reach into the broader macro universe. For one, we expect investors who are increasingly ESG aware to move beyond examining how individual companies are tackling these issues and focus on how economies are approaching sustainability, equality and diversity challenges. This will likely create additional pressure on governments — and central bankers — to focus on topics such as climate change and how to transition to a low-carbon environment.

In a sense, the current macro backdrop should incentivize policymakers to do so. Interest rates are low, and the general view is that higher government spending is appropriate at this moment in time. This will likely accelerate the development of financial instruments that are designed to support broad economy transitions, such as green bonds, and have important implications for fiscal spending, monetary policy decisions and, from an investment perspective, asset allocation.

MACRO DISRUPTOR 6: Labour market scarring.

With COVID-19 vaccines already being distributed and unemployment rates having bounced off historic lows, it’s tempting to think that life could return to normal in short order. While that is true for many pockets of the economy, the full picture is more complex.

One area that bears careful monitoring is the relatively substantial drop in the labour force participation rate (LFPR) in many countries that occurred in 2020, which points to potential longer-term scarring of the labour market. Major central banks have extensively studied the concept of hysteresis, or the persistent economic harm, particularly among disadvantaged groups.

Research suggests that falls in LFPR in industrial economies after severe economic downturns can last for up to a decade. Crucially, an economy’s long-term potential growth rate is deeply tied to its LFPR. Notably, structurally declining LFPR is often cited as a key reason why interest rates have declined. If the labour market shock of 2020 persists over the coming years, it’s likely that interest rates will remain lower than they would have PRE-COVID-19, even if most of the broader economy appears to have healed.

MACRO DISRUPTOR 7: Populism and the demand for redistributive policies.

As economists and strategists, we typically shy away from political analysis at all costs. But as we head into 2021, it appears to us that few are paying attention to the risks of a surge in the populist movement. In our view, there is scope for the movement to grow, particularly since COVID-19 turned the spotlight on the extent of racial, gender and wealth inequalities that were somehow

hidden in plain sight. Pressure to address this imbalance will likely grow. In Europe, we’re keeping an eye on the upcoming German federal election in September, along with the Italian and French elections of 2022, during which populist parties could win a bigger share of the electorate’s vote. But Europe isn’t alone — we believe demands for redistributive policies will grow in many major economies, with implications for the size, scope and effectiveness of fiscal policy.

In closing

The list of possible macro disruptors may seem long, but it could yet grow. We’re also keeping an eye on seemingly innocuous trends — such as the expected rise in mergers and acquisitions and initial public offerings, the shift from the millennial consumer to the Generation Z consumer, and likely disruptions in healthcare and education — that could have important implications for worker mobility, cost of living and inflation.

While the bulk of investor focus in 2021 will be on a return to our previous way of life, we believe it is even more important to probe beneath the surface, which, in many ways, will look very different than it did before COVID-19.