The global economy is in the midst of broad slowdown, IMF chair Christine Lagarde has warned, although it still looks as though it will avoid a full-blown recession.
At a speech in Washington last week, Lagarde said: “A year ago, I said, ‘the sun is shining – fix the roof.’ Six months ago, I pointed to clouds of risk on the horizon. Today, the weather is increasingly ‘unsettled’”.
In its last World Economic Outlook in January, the International Monetary Fund said global growth would be at around 3.5 per cent in 2019/20 (which was a downgrade on its previous forecast) but this is set to be lowered again later this week.
Lagarde added that just two years after 75 per cent of the global economy was experiencing an upswing but today 70 per cent is predicted to undergo a slowdown.
Real GDP growth (annual % change) – IMF’s Oct 2018 data set
Source: IMF World Economic Outlook (Oct 2018)
Concerns over Brexit, the US-China trade war and toughening financial situations caused by tightening interest rates were issues from 2018 that created an “unsettled” world economy at the start of the new year, according to the chair.
The year-long tariff war between the US and China was a source of major concern for Lagarde, as she said: “Nobody wins a trade war.”
The IMF’s research into the tariff trouble’s impact on GDP found that if the tariffs on all goods traded between the US and China went up by 25 percentage points, this would reduce the annual US GDP by up to 0.6 per cent and 1.5 per cent in China.
“These are potentially self-inflicted wounds that should be avoided,” Lagarde added. “We know that trade barriers are not the answer.”
That said, the IMF chair said there could be a rebound in global growth during the second half of 2019.
She pointed out that some of factors from 2018 that added to the slowdown are no longer in play. The US Federal Reserve, for example, has put its interest rate hiking plans on hold and the world’s central bank have pledged a more-patient pace of monetary normalisation; meanwhile, China has increased stimulus in a bid to bolster economic growth.
“To be clear, we do not see a recession in the near term,” she added. “In fact, we expect some pickup in growth in the second half of 2019 and into 2020.”
Trade as percentage of GDP in the US
Source: World Bank World Development Indicators
However, she added that this potential pickup in growth “vulnerable to downside risks”, citing issues such as Brexit, high debts of some sectors and countries, and a sense of general unease in financial markets.
The downbeat immediate outlook for the global economy is enough for some investors to take risk off the table. Pictet Asset Management chief strategist Luca Paolini explained that the worsening economic picture has led to the firm cutting back equities and allocating more to cash.
“With developed economies under pressure and corporate profit growth slowing, prospects for most stock markets look uninspiring,” Paolini said.
“A powerful rally across global stock markets since the start of the year has lifted equity valuations to levels at odds with our downbeat expectations for corporate profit growth. This has prompted us to cut equities to underweight and upgrade cash to overweight.
“Our expectation is that, worldwide, earnings could grow by as little as 1-2 per cent this year, significantly below the consensus view.”
Paolini argued that US equities – which has led the decade-long bull market that followed the financial crisis – looks the most vulnerable to a correction. This is based on it looking expensive and the risk that profit margins will fall back from their recent record highs.
Pictet’s preferred equity investment remains emerging market stocks, due to the developing world’s more resilient economic growth, low inflation and the prospect of a weaker US dollar. He added that China seems to be “a bright spot”, as its fiscal and monetary stimulus has turned it from being a major threat in the global economy to a stabilising force.
Performance of US vs emerging markets over 10yrs
Source: FE Analytics
The firm is neutral on Europe and Japan given sluggish economic growth but considers the UK to be cheap after being “unfairly tainted” by concerns over Brexit.
For sectors, Pictet prefers defensive industries such as healthcare and utilities, as they tend to outperform in periods of slowing economic growth, rather than economically-sensitive cyclical area, such as consumer discretionary and technology, which are currently looking expensive.
Back with Lagarde and the IMF chief urged countries to take steps to address slowing growth. “This is a delicate moment that requires us to ‘handle with care’,” she said.
“This means that we must not only avoid policy missteps, but also be sure to take the right policy steps.”
She concluded that that nations should focus on three mutually reinforcing areas of actions to help strengthen the global economy: domestic policies to build more resilient and inclusive economies, cross-border efforts to provide a more level playing field and partnerships to address global challenges.