Global Economic Overview – September 2024

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• Global

  As the tide has turned in favour of an easing bias across the Western world, the Fed became the latest to join the group of major central banks already loosening policy. Indeed, the question now is how quickly policymakers will want to dial back restrictiveness. We note that economic growth has started to disappoint in some major economies and that weighed down by high interest rates, both the BoC and Riksbank have already signalled potentially more and bigger cuts to come – somewhat more aggressive than expected just a few months ago. But how far will they and others have to go? Will simply getting to a neutral level of rates more quickly be sufficient, or will policy need to be loosened to such an extent as to have a stimulating effect on the economy?

  Chart 1: The pivot towards monetary easing is well underway in the G10

  

  Source: Macrobond, Investec Economics

  Some answers to that can be found in the macroeconomic data. Clearly there has been a softening in labour markets across the board, with unemployment rates creeping up. But labour markets have not collapsed, and neither has economic growth. Our global growth forecasts are broadly unchanged at 3.2% in 2024 and 3.1% in 2025, suggesting that current market pricing for policy rates may be too aggressive given the growth backdrop. But we do acknowledge that some cracks to the ‘soft landing’ scenario are starting to appear. We’ve made subtle downgrades to the Eurozone as Germany continues to be a drag, and also see China and the US posting slightly weaker growth in 2025 of 4.1% and 1.5%, respectively.

  Chart 2: Some loosening in global labour markets is starting to materialise

  

  Source: Macrobond, Investec Economics

  But the softening economic growth backdrop is not all due to restrictive monetary policy. The expected recovery in the manufacturing sector has not yet materialised, particularly in the Eurozone, where PMIs have been soft (below 50, indicating a contraction in output compared to the previous month) for over a year now, with the recent performance of the global manufacturing PMI suggesting that the bottoming out in the sector may be faltering, and the sub-indices suggesting further weakness ahead too. Pockets of supply chain pressures continue to have some dampening effect, but a large part of why manufacturing remains in the doldrums can be attributed to the economic woes in China, where domestic demand is yet to pick up.

  Chart 3: What recovery? Manufacturing remains in the doldrums

  

  Source: Macrobond, S&P Global, Investec Economics

  Macro data for August brought more bad news for China’s property sector whilst consumer confidence and consumption momentum continued to falter. As such, with the 5% annual growth target looking more challenging, the PBoC have unleashed a wave of stimulus, including a 20bp cut to its main policy rate, the 7-day reverse repo rate, and a 50bp cut to the reserve requirement ratio. Government funding to boost the stock market and support for homebuyers were also announced. However, we are sceptical as to whether this is enough to revive the economy. Indeed, whilst these measures have provided a short-term boost to stock markets, they fail to address one of the main areas of economic weakness, the reluctance of Chinese consumer to spend.

  Chart 4: Will the PBoC’s stimulus measures be enough to revive consumer confidence?

  

  Source: Macrobond, Investec Economics

  Swimming against the tide of central banks easing policy continues to be the Bank of Japan (BoJ). Although opting to keep rates on hold this month, further hikes look to be in play if prices rise as the BoJ expects. Coupled with an easing in Fed policy, the high interest rate differential between the two countries should narrow. Indeed we have already seen the anticipation of this driving the Yen higher. $:¥ briefly traded below ¥140 this month for the first time in over a year, and although perhaps most of the immediate disruption was played out in August, the Yen carry trade has further room to unwind. Various estimates put the trade at around 50% unwound, which could point to more volatility and strength in JPY ahead.

  Chart 5: The unwinding of the carry trade still has a long way to go

  

  *The strategies rank the currencies using an avg. of recent implied USD interest rates as a carry measure
  Source: Bloomberg, Macrobond, Investec Economics

  Indeed, markets and sentiment look set to remain driven by the outlook for interest rates, particularly US rates, over the medium term. Global equity markets have rallied on the bumper 50bp cut from the Fed as hopes that the US economy will be guided to a soft landing have been bolstered. Indeed, with global markets so closely following developments in the US, positive sentiment has spread, which should contribute to a loosening in financial conditions globally, despite a comparatively slower pace of easing expected from the BoE and ECB. An ongoing risk though relates to events in the Middle East. Although not yet an all-out war, threats of further escalation from both sides risks greater humanitarian catastrophe as well as adding volatility to markets.

  Chart 6: The BoE may be more cautious than the Fed, but rate markets remain correlated

  

  Source: Macrobond, ICAP, Investec Economics

• United States

  At its latest meeting the FOMC surprised the majority of economists (financial markets had been pricing in a higher chance of a larger move) with a ‘jumbo’ 50bp rate cut, taking the Federal funds target range to 4.75-5.00%. In his press conference Chair Powell cited the downward revisions to payrolls and the anecdotal evidence from the Beige Book as reasons for the outsized interest rate cut. He tried to convey the message that the half point move was not due to panic over the strength of the economy and should be viewed as a ‘recalibration of policy’ in light of shifting risks. The FOMC’s updated economic projections suggested much the same, with the economy expanding above the long-run pace and the unemployment rate falling over the forecast horizon in the baseline scenario.

  Chart 7: Updated Fed projections do not point to a deep downturn, or much of a downturn at all

  

  Source: Federal Reserve, Investec Economics

  What was most striking from the forecasts though was that not one member (as displayed by the range) expected inflation to undershoot the 2% target at any point over the forecast horizon. Instead, the FOMC seems to have opted for the larger move solely to counter greater upside risks to unemployment – suggesting a change in the Fed’s reaction function. This likely explains why Chair Powell failed to convince financial markets that this would not necessarily be followed by further 50’s. To us the 50bp cut signalled the Fed’s commitment to reach ‘neutral’ at a faster pace than we previously had assumed. As such we have updated our own forecasts, now expecting six back-to back 25bp cuts from here, leaving the end-‘25 Federal funds target range at 3.25-3.50%.

  Chart 8: We expect back-to-back 25bp cuts by the FOMC over the next six meetings

  

  Source: Macrobond, Investec Economics

  But this is based on our own estimate of where the neutral rate might now lie, which is higher than the Fed’s ‘longer run’ forecast. It is very hard to be sure where this rate might be until we get there though, as demonstrated by the large, and rising, dispersion of views on the committee (Chart 9). Our forecasts encompass the assumption that it will not be necessary for the Fed to move rates below neutral, i.e. to accommodative territory. Although employment metrics are slowing, the economy is still expanding at a robust pace. Indeed, the Atlanta Fed GDP tracker is pointing to 2.9% (saar) growth in Q3. Should the economy turn sharply and unemployment rise rapidly though, the FOMC could well switch to an accommodative rather than simply a neutral gear.

  Chart 9: The Fed has to feel its way to ‘neutral’, it is becoming less sure where it lies

  

  Source: Federal Reserve, Investec Economics

  That is not to say that we do not think the US economy will cool though, that has been embedded in our forecasts for some time. Considering the deteriorating health of the consumer balance sheet, we do not imagine that the economy will be able to sustain the current strong pace of growth. Indeed, the saving rate is historically low, real household income growth is slowing and credit card debt is rising. Furthermore, if we assume that higher migration and therefore higher labour supply had been supporting the economy, the slowing of that (as suggested by border encounters data) should have the opposite effect. We think this is playing out already in the data. As such we have nudged down our 2025 GDP forecast to 1.5% from 1.7%.

  Chart 10: Bloomberg survey shows wide range of expectations for the path of the US economy

  

  Source: Bloomberg, Macrobond, Investec Economics

  The strength of the economy is one of voters’ biggest concerns, as per polling. As such, with less than fifty days to go until the Presidential election both sides have been scrutinised over their plans for the economy. In contrast with national polling over the ultimate election winner, on the economy specifically Donald Trump looks to have the edge. Indeed, his bold policies, such as on tariffs, seem to have resonated with voters. But where some policies sharply differ (such as on corporation tax) others are very similar (such as eliminating tax on tips). Our concern is that both candidates’ agendas are fiscally expansionary, if to varying degrees (Chart 12). The question is how long investors’ indifference to rapidly rising debt burdens in the world’s largest economy will last.

  Chart 11: What do the two Presidential candidates propose for the economy?

  

  Source: Various news agencies, Investec Economics (images from the White House)

  Financial markets are seemingly unfazed by the contest thus far though, continuing to be driven by expected changes in monetary, rather than fiscal, policy. This is understandable: given how close polling is, we do not factor a change in leadership into our forecasts at this stage either. For now, it is the expectations of a rapid Fed loosening cycle that has weighed on the USD in recent weeks. Indeed, the greenback has weakened by c.0.5% in trade-weighted terms* since the start of the month, as the attractiveness of US rates has started to fade with the punchy start to the easing cycle. We expect the dollar to hover around similar levels for the remainder of the year, but then to weaken further next. We forecast end-‘25 cable at $1.37 and EURUSD at $1.15.

  Chart 12: Both candidates propose fiscally expansionary policies, one more so than the other

  

  *As per the Fed’s nominal broad index Source: Penn Wharton Budget Model, Macrobond, Investec Economics

• Eurozone

  Euro area economic activity has largely performed as expected, GDP growing 0.2% q/q in Q2, only marginally below our 0.3% forecast. However we are mindful that downside risks to the outlook appear to be rising with data outturns having begun to undershoot expectations. Continued weakness in manufacturing, which has been in recession since early 2023 is a factor, especially in Germany where the auto sector remains a drag. Volkswagen’s statement that it is considering domestic factory closures for the first time in its history exemplifies this. Weak Chinese demand is a factor too (Chart 14). Given few signs that a manufacturing upturn is on the way it will be the service sector that will continue to have to do the heavy lifting.

  Chart 13: Economic indicators have in recent months missed expectations

  

  Source: Macrobond, Investec Economics

  Indicators have continued to point to growth in the service sector, but survey evidence has begun to show some signs of service-sector activity slowing. The Services PMI for example has fallen from 53.3 in April, to a seven-month low, showing near stagnation at 50.5 in September. Clearly should this sector weaken further EU20 growth estimates are at risk of downgrades. But for now we have made only marginal changes to our Euro area GDP forecasts with 2024 and 2025 both revised lower by 0.1%pts to 0.7% and 1.4% respectively. This is mainly on account of revisions to Germany, where we now expect a second consecutive year of negative growth (-0.1% 2024) thanks to a technical recession over the middle of this year.

  Chart 14: Softening Chinese demand has been a headwind to EU20 manufacturing

  

  Source: Macrobond, Investec Economics

  These risks to the growth outlook are beginning to factor into the ECB’s thinking, its latest projections seeing downward revisions to GDP. However for now it remains on a gradual path of policy easing. September’s 25bp cut in the Deposit rate to 3.50% is the latest step. We judge the next cut will be delivered in December, with the Governing Council having often highlighted the quarterly projection meetings as being the more likely occasions for policy adjustments. Despite some reports having suggested that an October cut could be considered should data undershoot expectations, we would tend to the view that there is a dearth of tier 1 data before the 17 October meeting that would be deemed sufficient to trigger such a move.

  Chart 15: The Deposit rate (DFR) is expected to fall to 2% next year

  

  Source: Macrobond, Investec Economics

  We look for five cuts in 2025, the DFR ending the year at 2%, representing a slightly faster pace of cuts than previously envisaged. Even so we judge the risks as being skewed towards an even faster easing, with the ECB potentially having to lower rates below 2% should growth slow more than expected. Some on the ECB have however argued for caution given still elevated services inflation. Progress here has been slow. But while some recent figures have been unhelpful, there are still reasons to believe the trend is lower. For example, August’s rise to 4.2% was likely distorted by a temporary impact from the Paris Olympics: French services inflation jumped 0.5%pts to 3.1%. At the same time a broad swathe of underlying inflation measures has continued lower.

  Chart 16: Unhelpful services inflation distortions, but underlying measures remain encouraging

  

  Source: Macrobond, Investec Economics

  The latest compensation* figures have also been encouraging, falling to 4.3% in Q2. How these fundamentals play out will have a bearing on the attractiveness of the Euro. A materialisation of downside risks and more aggressive ECB action would put downward pressure on the single currency. However as a baseline view, we continue to expect €:$ movements to be driven by the dollar where we anticipate that the Fed’s easing cycle will prompt a depreciation in the USD. €:$ has already seen some uplift following the Fed’s 50bp cut, rising to $1.11. Indeed, the Fed’s larger than expected cut has led us to uprate our Q4-24 forecast to 1.11 from 1.10, whilst Q4 2025 is unchanged at 1.15.

  Chart 17: Euro performance: Historic and forecast

  

  *compensation per employee (y/y)
  Source: Macrobond, Investec Economics

  Politics is also a consideration given the political issues in France. New PM Michel Barnier certainly has his work cut out. His newly appointed, right-leaning, cabinet already faces the threat of a no-confidence vote. Meanwhile a draft 2025 Budget needs to be completed by the 1 Oct. This will test the former Brexit negotiator’s skills given that he will likely need the support of Marine Le Pen’s National Rally to pass a budget bill, but whose policies are at odds with addressing France’s fiscal challenges. It recently published its economic agenda which included a cut in corporation tax and the cancellation of income tax for those under 30. Such policies would further worsen France’s fiscal position, with reports suggesting that the 2024 deficit estimate could be pushed up to 6%, putting it at odds with the European Commission which placed France in EDP* this year.

  Chart 18: Estimates for France’s 2024 public-sector deficit continue to deteriorate

  

  *Excessive Deficit Procedure, estimates from EC Spring Package June 2024, # latest- French press reports Finance and Economy ministry to forecast deficit could reach 6% without fiscal measures
  Source: Macrobond, Investec Economics

• United Kingdom

  There have been mixed messages on UK economic activity recently: PMIs have been running consistently above the neutral level of 50 since May; conversely real GDP growth has stalled, with three out of the past four reports’ output numbers flat on the month (Chart 19). Such divergence is not uncommon. But it naturally raises doubts over how much weight to place on the latest GDP print. This is all the more so considering that real-time initial GDP figures can be inaccurate around economic turning points. For instance, they failed to pick up both the start and the end of the UK recession during the Global Financial Crisis. For now, our GDP growth forecasts for ’24 and ’25 remain at 1.2% and 1.9%, respectively.

  Chart 19: PMIs have been pointing to expansion, but monthly GDP has recently stagnated

  

  Source: S&P Global, ONS, Macrobond, Investec Economics

  Although our ’24 GDP growth forecast is above the OBR’s prediction in March of 0.8%, which should have boosted the tax take relative to expectations, the new government has stated it has found a ‘black hole’ of £22bn (0.8% of GDP) in the current tax year’s funding. PM Starmer has warned this will make for a ‘painful’ Budget on 30 Oct, and that those with ‘the broadest shoulders should bear the heavier burden’. As already confirmed by Chancellor Reeves, tax rises will form part of plugging the gap. We doubt though they will be the sole means: this would jeopardize the target to boost trend GDP growth to 2.5%. Just how crucial growth is not just now but for long-term fiscal prospects is illustrated by new OBR scenarios: net debt in 50 years’ time could be nearly 650% of GDP with 0.5% p.a. productivity growth but just 65% with 2.5% productivity growth (Chart 20).

  Chart 20: Long-term productivity growth trends are crucial for public debt sustainability

  

  Source: OBR, Macrobond, Investec Economics

  Hence we expect spending cuts too (their impact buffered by efficiency gains), tweaks to metrics used to assess fiscal rules and efforts to persuade the OBR that faster growth is indeed achievable. A headwind to the latter though is policy to cut net migration into the UK. Labour has kept in place the Tories’ recent tightening of visa eligibility for care workers’ and students’ dependants and for skilled workers, the former to visible effect (Chart 21). Although politically popular, in the near term this will weigh on the labour force and complicate the discharge of NHS patients post-treatment to care settings, making it harder to cut waiting lists. This will place even more onus on productivity rather than employment gains to lift GDP growth.

  Chart 21: Visa applications by care workers and their dependants have plunged this year

  

  Source: UK Home Office, Macrobond, Investec Economics

  As regards inflation, the latest news has been fairly encouraging: had it not been for a jump in airfares, CPI inflation would have dropped by 0.2%pts in August, back to target. We note though that the CPI is not designed to reflect the cost of living of the average household. One reason why is that mortgage costs for owner-occupiers are omitted. Another, more subtle, factor is that the CPI uses weights for individual items derived from total household spending. Yet certain items are bought predominantly by higher-income households. This makes the official CPI basket skewed towards a higher income household’s spending pattern. Applying ‘democratic’ weights, i.e. the average income household’s weights, instead, we calculate that the mean household experienced higher CPI inflation at its peak, by c½%pt. Recently though, this gap has turned slightly negative (Chart 22).

  Chart 22: An average income household experienced higher inflation than the CPI suggests

  

  Source: ONS, Macrobond, Investec Economics

  At its Sep meeting, the MPC played down the significance of surprises in data outturns relative to its Aug MPR forecast, signalling it plans to pursue ‘a gradual approach to removing policy restraint’ in the absence of ‘material developments’. We agree, predicting a 25bp-per-MPR meeting pace of rate cuts for the rest of this year and next if the economy evolves as we predict. Historically, such easing would be slow but prolonged (Chart 23). The ‘known unknowns’ to look out for are the Budget and, ahead of that, the Blue Book on 30 Sep. Should large downward revisions to household savings in 2022 have persisted since, this will affect the estimated impact of monetary policy on the economy, and thus the appropriate rate path.

  Chart 23: Unless recession hits, we expect a gradual but prolonged easing cycle this time

  

  Omits cut from 0.50% to 0.25% in Aug 2016 after 89m for ease of display
  Source: Macrobond, Investec Economics

  Sterling has appreciated against all its major trading partners since the start of 2024. The picture since the start of Q3 is a little more mixed, thanks primarily to the strengthening yen. Still, it is noteworthy how substantial the move against USD has been (Chart 24). USD has generally lost some of its shine amid mounting expectations of Fed rate cuts. As the Fed appears more minded than others to front-load easing towards ‘neutral’, there remains scope for some further gains in Cable, in our view; we predict an end-’24 level of $1.33 and end-‘25 level of $1.37. We see less movement against EUR, especially in the near term: we expect 83p by end-’24 and a small GBP weakening to 84p by end-’25 as EU20 GDP growth recovers.

  Chart 24: Sterling has appreciated visibly against all trading partners so far this year

  

  Source: Macrobond, Investec Economics

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