Although the pandemic has put large parts of the world on lockdown, global growth appears to be strong as the economic cycle sets foot in the new phase. This robust growth seems unsurprising, given the significant stimulus provided by fiscal spending and central bank rate cuts.
However, the ultimate thing is what can go wrong with the growth estimates.
Not every force is working in favor of financial markets. Concerns about the global recovery’s pace are creating opposing currents, with key indicators pointing to uncertainties in growth even though stock markets continue to hit new highs. The effects of the strains of the COVID-19 virus, which is currently causing population mobility restrictions around the world and moderate China slowdown, are the two main drivers of an uncertain economic outlook.
Following are the fault lines developing around the global economic boom you should know about.
Inflation
After years of low downward March, inflation rates have surprisingly reached the upside. Numerous factors, including ongoing disruptions and Fed’s easy policies, have led to Inflation rates steadily rising in the second half of 2021. Though inflation has surged across the world’s distinct region, developing economies, however, have witnessed this rise intensely owing to the sensitivities to their energy and food prices. This has led central banks to normalize their policies so as to stabilize inflation.
However, inflation and economic growth concerns are expected to ease in 2022.
The recent economic rebound has seen America and Europe emerge as the main drivers of global economic growth. So, witnessing slower growth in these areas may ease the stresses on the supply chain and, in turn, cause elevated prices to decline.
Equity
After ending the previous year with equity at or near all-time highs, things might not seem that healthy under the hood. Mutual fund redemptions and ETF sales have soared recently, indicating that stocks are taking a breather, especially after three years of double-digit returns. The Federal Reserve has begun tightening its monetary policy with more moves planned for 2022, and equities typically do not react well to Fed tightenings.
A soft landing is highly unlikely in these circumstances and likely in the ones to come.
Debt
Nearly every fixed-income asset class has witnessed a bumpy ride in 2021. Long-term Treasury yields rose significantly and speedily in the first quarter of the year, owing to growing optimism about the global economic recovery. Yet, as the year progressed, fears of persistent pressures further raised doubts about whether Fed will unwind its ultra-easy policy support from the market.
Participants, however, in the recent months have brought forward rate hike expectations resulting in a flattening of the yield curve. Well, this can seem to be the first of many warning signs!
Fed may begin its tightening cycle early — in March. This is what currently the experts anticipate. But if inflation moderates, we may expect Fed to hold on with its policies for a bit longer.
China’s take in the new chapter
The Chinese market value has dropped by about $1 trillion as a result of its drive for common prosperity. Profit margins, too, have been ‘squeezed down’ when virus outbreaks have weighed on economic conditions. This has raised concerns about the nation’s commitment to becoming a market-based economy.
However, the Chinese government is actively working to slow down the current regulatory cycle. This is unquestionably a sign of relief for the big names that have been most affected by the equity market’s condition.
In any case, it’s too early to rule China out of the game.
Uphill Risks
Well, no one can foresee the future — perhaps inflation moderates before the first-rate hike or no new variant emerges and the pandemic passes.
Omicron may bend the economy, but certainly, it won’t break it. It seems to be more infectious but is less lethal than previous variants, which could prove to be crucial in transitioning from pandemic to endemic status. Although this shift will not be free, it should benefit risk assets by reducing the need for further restrictions. Anyway, let’s go with the odds (as listed in the Forbes latest article about the economic outlook for 2022) that say
•Indexed equity returns are likely to be low over a few quarters.
•Given the uncertainty at this time, it’s best to play conservative and assume the Fed will raise rates in the coming months.
•A flattening yield curve doesn’t work well for a positive economic expansion. While Fed’s policies may cause short-term rates to hike, longer-term rates are more sensitive to economic growth, so the forecast remains “lower for longer.”
The risks mentioned above warrant a thorough analysis. If they have a less damaging effect on the market than anticipated, the asset class should see significant gains in the coming year.
Final Note
The economy is still running on three pillars, but as far as inflation is concerned, it’s certainly creeping back as the conversation around rate hikes is heating up. On top of it, variants of COVID-19 have made matters worse.
Given the current economic conditions, policies, and consumer attitudes, our strong belief is that “disappointing” economic growth appears to be the most probable scenario for the economy in 2022.
Markets are already anticipating significant monetary tightening. So if you’re an investor, be prepared for near-term uncertainties in the equity market.
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