July 22, 2021 | 12:38
Global Growth Olympics: Slower, Lower, Weaker?
The great reopening trade was briefly staggered by the one-two punch of the Delta variant and inflation concerns. On the former, rising virus case counts have prompted new restrictions in some economies and, at the very least, cast some doubt on the recovery in the travel and entertainment industries. On the latter, the U.S.-led spike in consumer prices has raised the risk of an earlier-than-expected tightening of monetary policy, with many central banks eyeing or already moving to the exits. Meantime, still grinding away in the backdrop is the wide array of constraints and bottlenecks dragging on global supply chains. Combined, markets have had a major rethink on the strength of the global recovery, with bond yields reversing much of this year’s climb, commodities and related currencies correcting, and stocks wobbling (Chart 1). But the key question is: To what extent has the global outlook been affected by recent developments? We believe that while some of the upside has been capped (and we have chipped away at the forecast for some key economies), the bigger picture has barely budged—6% global growth this year, 5% next, and a return to trend by 2023.
While the spread of the Delta variant has been gnawing at market sentiment for some time, it broke more into the open this week on a rapid rise in new cases in a number of low-vaccination economies—like Australia, Japan, Korea, Thailand—but also in some high-vaccination countries—like Israel, the U.S., and especially the U.K. (Chart 2). While hospitalizations and deaths remain generally low compared with new cases for the latter group, Delta’s fast spread has still prompted a variety of measures to slow the tide. However, even with the jarring rise in new cases, it’s unlikely that significant new restrictions will be enacted in high-vaccination economies, particularly if more severe health outcomes are avoided (Chart 3). Still, the bigger impact of the widespread rise in new Delta cases is to drum home the point that the pandemic will be with us for some time yet, and the recovery in international travel will be more protracted. For global growth, the risks have swung from the upside to the downside, particularly in Asia.
Widespread and diverse supply problems are also weighing on the outlook. The longer the bottlenecks last, the bigger the dent to growth (Chart 4). Automakers have been the most visible casualty, with their complex supply chains and huge number of inputs. Even with strong orders to fill, many have been forced to idle production (and workers) while they await microchips. North American auto production was actually 7% below year-ago levels in June, and down 22% from two years ago, even after one of the best six-month runs ever for U.S. auto sales (in H1). Chips are also used for consumer electronics, phones and medical devices, and those items have all been in supercharged demand since the pandemic began. However, the largest manufacturers of these chips are from Asia, where COVID cases are flaring once again, forcing output-crimping health restrictions. Other factors (some related to the pandemic, others to Mother Nature) have also delayed deliveries of goods. A COVID outbreak prompted the Yantian port in China to close in May, causing a massive disruption to global container shipping, even though operations resumed in late June. The Suez Canal fiasco, caused by human error, also contributed to slower deliveries, as well as the lower water levels in the Panama Canal, traffic jams at the ports on the U.S. West Coast, and a port strike in Montreal. And, most recently, flooding in China’s Henan province may impact industrial activity. Comments in the latest ISM surveys and the Beige Book were telling, with supply shortages and delays described as “severe” and “numerous” with “no end in sight”, and the “lack of labor is killing us.” While these issues will gradually resolve, they will also dampen growth this year, pushing more of the rebound into 2022, and even 2023.
In turn, multiple supply issues have aggravated simmering inflation pressures in a wide variety of goods, and in many major economies (Chart 5). Again, the most spectacular example can be found in autos, where U.S. used vehicle prices have spiked a record 45% y/y, but even new auto prices are up 5.3% y/y—which, almost quietly, is a 35-year high itself. But after abstracting these extreme moves, reopening price bouncebacks (e.g., airfares up 24.6% y/y), and base effects, we are still left with surprising underlying strength in prices. For example, Canada’s CPI does not include used cars and has not had the reopening bounce, yet underlying prices are running at their fastest pace in nearly two decades. At the very least, the jump in consumer inflation means that a greater share of nominal spending increases is being diverted into rising prices, rather than rising volumes—by definition, capping real growth. In addition, the jump in U.S. inflation has blunted consumer sentiment, judging by the latest dip in the University of Michigan’s survey.
How are central bankers reacting to this complicated turn of events? Policymakers are torn between their inflation mandates and supporting economic growth through this difficult episode—which has become that much more difficult with the Delta flare-up. Some smaller or less developed economies have seen inflation soar well beyond their targets and have ratcheted policy rates sharply higher (Table 1). Brazil stands out with its aggressive three hikes this year at 75 bps each, with a 100 bp move expected in August. Mexico pulled a surprise 25 bp rate hike out of its hat as well, “in order to avoid adverse effects on inflation expectations”. New Zealand abruptly ended its QE program early just last week, Canada has tapered further, and Australia will begin to do so in September. Norway has all but told markets to expect a rate hike in September, while South Korea is considering one within the year. These aggressive plans may be thwarted by a duller global recovery on Delta’s spread and longer-lasting supply problems.
But the bigger issue for the global growth outlook is whether their larger counterparts at the Fed, ECB, BoJ and BoE respond more to the inflation spike, or the variety of growth threats. There is some market chatter about the possibility of a policy mistake—that is, the big central banks, and especially the Fed, tightening too soon in response to the inflation spike. Our view is that the risks are in fact tilted in the other direction, and that the Fed will be overly indulgent in its tolerance for a run of hot inflation, waiting to see where things settle down once the acute pressures fade. Ultimately, the threat to global growth is more from the direct drain from higher inflation rather than the possibility of a pre-emptive tightening by the biggest central banks.
Bottom Line: Reflecting the above issues, we trimmed our 2021 growth call slightly for the U.S. this week to just a bit below consensus. This was partly offset by small upward revisions made earlier to some other major economies (e.g., the Euro Area), while China is still solid, keeping our overall global growth expectations on track (Chart 6). The key point is that upside risks to growth have been capped, while downside risks have been revived by the recent series of unfortunate events—dependent on the degree of any possible new restrictions. But any dimming of the near-term outlook simply pushes some of the anticipated rebound into 2022 or 2023.