Thinking about the world economy in 2016 with 5 key questions that will determine market sentiment in 5 graphs.
There are clearly a lot of challenges for the eurozone in coming quarters: the Greek issue could make a comeback at any time, the refugee issue is not going away, the economic divergence between Germany and France is worrying and political divisions could easily lead to negative economic outcomes. That said, there are also several things helping the eurozone economy in the near term: a weak euro, low interest rates, cheap commodities, housing market recovery in the earlier crisis countries… Business confidence has already improved a lot, and is now at a level that was consistent with more than 2% economic growth in the past. After several years of disappointment, 2016 could be the year the eurozone economy finally surprises to the upside.
At its last meeting of 2015 the Fed finally decided to start a new rate hiking cycle. For now, both the Fed and financial markets are expecting a very gradual increase of policy rates as the economy continues its recovery. That said, several leading indicators for the labour market suggest that wage growth is set to accelerate significantly in 2016. If this acceleration were to materialise, the Fed would be forced to step up the pace of monetary tightening. This would have a huge impact on financial markets.
China was already a key issue in 2015, and that will remain the case in 2016. The current Chinese growth model built on private sector credit growth is unsustainable. The authorities are trying to get the Chinese economy to a more sustainable growth path, while managing the resulting economic slowdown. They will continue to do so in 2016. On current evidence they have the means to continue to succeed in this strategy. That said, there is a risk that they lose control of their debt-fuelled economy. China hitting the wall would spell trouble for the entire world economy.
Since mid-2014 commodity prices have basically fallen off a cliff. Overinvestment in the previous decade (at least partly based on the erroneous assumption that China would continue to grow at more than 10% a year indefinitely) resulted in excess capacity, while the modest recovery of the global economy has held demand for commodities back. Severe cutbacks in investment in the commodity sector and some pickup in demand as the global recovery continues will at some point create a floor for commodity prices. This will generate some relief for hard-hit commodity-related assets, and will fairly rapidly lead to an uptick in headline inflation rates in developed markets.
8 years since the last global crisis, it’s a valid question whether or not the global economy is about to hit another one soon. Possible triggers for a new crisis could be a spike in interest rates, the fallout from the deflating commodity bubble or the collapse of the Chinese economy. These are valid concerns, but will probably not drag the entire world economy into a new crisis in 2016. Basically the world economy has not grown fast enough these past few years to generate the excesses that could trigger a new crisis. That said, growth in the world economy is likely to remain fairly modest and unevenly distributed. It’s likely to remain a rocky road for the world economy in 2016.