Synchronized Slowing Growth

Synchronized global growth was one of the main themes coming into 2018. In the second quarter GDP in the U.S. was the strongest since 2014, even as growth around the world downshifted. While global growth will be decent in the second half of this year, growth has already slowed in the U.K, Europe, China, and Japan. In July the International Monetary Fund trimmed its April 2018 growth estimates in July for a number of individual countries while maintaining their 3.9% global GDP projection for 2018. As the IMF noted in its Summary, “The expansion is becoming less even, and risks to the outlook are mounting. The rate of expansion appears to have peaked in some major economies and growth has become less synchronized. Growth projections have been revised down for the euro area, Japan, and the United Kingdom. Among emerging market and developing economies, growth prospects are also becoming more uneven, amid rising oil prices, higher yields in the United States, escalating trade tensions, and market pressures on the currencies of some economies with weaker fundamentals. The balance of risks has shifted further to the downside, including in the short term. Higher inflation readings in the United States, where unemployment is below 4 percent but markets are pricing in a much shallower path of interest rate increases than the one in the projections of the Federal Open Market Committee, could also lead to a sudden reassessment of fundamentals and risks by investors. Tighter financial conditions could potentially cause disruptive portfolio adjustments, sharp exchange rate movements, and further reductions in capital inflows to emerging markets, particularly those with weaker fundamentals or higher political risks.

Central bank monetary policy has been a major tailwind for the global economy and global financial markets, as the European Central Bank (ECB), Bank of England (BOE), and Bank of Japan (BOJ) joined the Federal Reserve with large Quantitative Easing programs of their own. Even as the Fed began trimming its balance sheet in October 2017, the combined balance sheets of the Fed, ECB, and BOJ continued to expand so that the 12 month moving average was still positive. If the ECB lowers its purchases as it has indicated, the 12 month moving average of the combined balance sheet will drop below zero before the end of 2018. Short term interest rates in the U.S. have doubled from a year ago, while the 90 day Libor rate has doubled in the past 16 months. Trillions of dollars of loans are tied to these short term rates, which will progressively become a headwind in the U.S. and globally as loans are rolled over at higher rates.

The volume of shipping by air or by container ship is a reflection of global growth. Since peaking at a high level in the second half of 2017, the 3 month rate of change in air freight traffic and container traffic slowed significantly through May. Although they are still well above the lows in late 2015 and early 2016, the rate of deceleration can’t be ignored. After bottoming in the first quarter of 2016, Global Industrial Production and the composite of Global Purchasing Manager Index’s (PMIs) rebounded strongly through the end of 2017, as measured by its 12 month rate of change. The strength in air freight traffic, container traffic, Global Industrial Production, and Global PMIs formed the back bone of the synchronized global growth story. Growth is still positive in all of these components but some of the air has come out of the story. The introduction of tariffs and angst about global trade in general has had a dampening effect on export activity, as measured by the new exports sub component of the JP Morgan Global Manufacturing PMI Index. As trade talks drag on or trade tensions increase, particularly with China, the global economy will be facing another headwind that was not present in 2017 when global growth was stronger and more synchronized.