Central banks in several countries will be forced to reverse course on tightening interest rates as their economies either go into recession, or teeter on the edge of it, independent global economics researcher Capital Economics says.
Capital Economics has done a crunchy update on the global economic picture - and it's not a pretty one.
In fact the economists have revised down their global GDP forecasts and they are forecasting several countries will go into recession.
They anticipate recessions in the euro-zone and the UK and expect the US, Canada, Australia and New Zealand to avoid economic contraction only narrowly.
"If a technical “global recession” is avoided, this will be largely thanks to a moderate post-Covid rebound in China and relative economic strength among the major commodities producers. Inflation is likely to prove more persistent than in the recent past, so the widespread and aggressive monetary policy tightening cycle has further to run. But this will add to headwinds to growth and ultimately force several central banks to reverse course in 2024 or even before," the economists say.
As stated above, they don't see either New Zealand or Australia going into recession - but only because they think the central banks in both countries will change course.
"The US will suffer from a contraction in residential investment and further weakness in consumption, despite its relatively low levels of household debt," the economists say.
"Canada, Australia and New Zealand will be hit even harder by housing downturns. Indeed, our view that all four will narrowly avoid recession is predicated on the assumption that central banks recognise this economic fragility and begin to cut rates again as early as next year."
Capital Economics is forecasting a 15% house price fall in Australia - but 20% in New Zealand.
The economists say that both the Reserve Bank of New Zealand (RBNZ) and the Reserve Bank of Australia (RBA) "will slam harder on the brakes than most anticipate".
"As the ongoing housing downturns intensify, consumption growth will soften and dwellings investment will plunge. Accordingly, we expect both central banks to loosen policy next year."
They think inflation has already peaked in New Zealand (hitting an annual 7.3% as at the June quarter) and are picking a peak of about 8% in Australia. The expect official interest rates to go as high as 3.5% in both countries.
"And with inflation set to fall back towards central banks’ targets as supply shortages ease and commodity prices fall, we expect both central banks to loosen policy again before long. We have pencilled in 50bp of rate cuts by the RBA and 75bp of rate cuts by the RBNZ from next year. That suggests that the recent depreciation of the Aussie and the Kiwi [currencies] will continue."
The economists say the expected recovery in China later this year and continued strength among energy producers will boost global average GDP growth.
"But emerging markets will experience a further slowdown on the whole as most are hit by high inflation just like in advanced economies and interest rate hikes (which typically began sooner than in DMs) take a toll.
"In aggregate, we expect global growth of 2.5% this year, which is weaker than our previous forecast of 2.7% and meets the IMF’s old definition of a global recession.
"...Even against this gloomy backdrop, we think that the risks are skewed to the downside. Some of the greatest are to Europe, where a cut-off in Russian gas supply would prompt a deeper recession. More generally, supply shortages could worsen again, perhaps if renewed virus waves prompt restrictions in China which limit its exports. Finally, policy tightening could be more damaging than we anticipate if stubbornly high inflation forces central banks to keep interest rates higher for longer than we expect."
The economists say the good news is that inflation has probably peaked.
"We suspect that the recent decline in oil and agricultural commodity prices has further to run. And in any case, statistical base effects in energy and food CPI imply that their contribution to headline rates will drop even if prices hold at current high levels. But while inflation will fall, it will remain high by past standards, implying weak or even negative real incomes growth and a further squeeze on consumption."
Looking out to the future, Capital Economics says the pandemic "will not do much permanent damage" to the level of GDP in most countries, especially developed markets. Nonetheless, it will accelerate some of the structural trends that were already set to weaken the long-term growth prospects of emerging markets.
"This will result in global GDP growth easing to 2.5% by 2050. Meanwhile, central banks’ strong reaction to recent price pressures has reduced the risk of a sustained period of significantly higher inflation in future."
The economists say the transition to green energy, "which should be accelerated by the war in Ukraine", will add to inflationary pressures over the medium term. What’s more, some of the structural forces that contributed to the low inflation era are now easing or reversing. However, policymakers’ renewed focus on fighting inflation suggests that it will only be a little higher in DMs over the coming decades than it was in the past one.
"Meanwhile, we expect real short-term rates to remain low by historical standards. This is partly because any rise in equilibrium interest rates is likely to be limited and gradual. And the higher levels of debt that are a legacy of the pandemic might act as a constraint on how far interest rates rise and for how long."
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