Economic Outlook by Barclays Wealth
The second half of the year will prove more risky than the first as the necessary fiscal measures begin to bite into a fragile recovery and key imbalances in the world economy remain unresolved. The risk of costly fiscal or policy mistakes are very high.
Increasingly burdened consumers
Policy makers have rescued the global economy but the bill will burden consumers and governments as the biggest ever global tightening of fiscal policy is implemented. The US consumer, who accounts for a quarter of global consumption, will be crucial but sharp tightening of US fiscal policy and expected tax hikes will hurt disposable income.
US unemployment levels of more than one in ten will continue to have an impact.
Modest growth expected in the developed world
Private consumption will be sluggish and there will be little rise in investment spending. The political pain associated with massive fiscal tightening makes policy mistakes almost inevitable. Exchange rates could be a source of tension with governments tempted to keep their currencies weak.
Emerging markets macroeconomic growth will be more impressive but less impactful than generally thought as their domestic demand will account for only a small proportion of global economic activity.
Equities and Commodities for the first half
It may be worthwhile starting the year overweight equities and commodities however if the game of two halves plays out investors should be ready to switch.
Michael Dicks, Chief Economist at Barclays Wealth, said, "Policymakers have saved the world from a second Great Depression but at great cost. As governments repair the public finances through raising taxes and interest rates the consumer will bear more of the burden.
"Accordingly our macroeconomic forecasts for 2010 are rather below consensus. In fact, like many sporting events 2010 may turn out to be a game of 'two halves' with economies and riskier asset classes appearing to do well in the short term but with the spectre of a double dip crisis rising, not falling, over time.
"It is easy to draw up a shortlist of things that could go wrong from a sharp rise in bond yields to fiscal tightening impacting the recovery and a lack of political will to address imbalances in the global economy.
"Investors should be aware of the risks and be prepared for substantial reallocations within their portfolios shifting later in the year from overweight equities positions into safer asset classes such as bonds. As the risks of an accident are quite high, investors should try to be nimble – remaining aware that abrupt reallocations may be required during 2010 – perhaps with very little warning."
'Bills are piling up' in US economy
Gustavo Reis, US Economist, added, "Entering 2010, the US economy is expanding again, inventories have been trimmed, firms have stopped firing and inflation expectations have stabilised. But the cost of successfully fighting the recession remains high and the bills are piling up at the door.
"Legacies such as high unemployment and excess capacity are likely to constrain wage growth so fiscal and monetary policy should remain stimulative. But the Fed will need to demonstrate its credibility and firmer GDP growth in the second half and concerns about inflation expectations are likely to bring it back into action."
Euro economy set to maintain expansion
Sandra Horsfield (pictured), Euro area Economist commented, "Having climbed out of recession in Q3 2009, the euro-area economy looks set to maintain its expansion in 2010 and beyond.
"But we are expecting an initial bounce followed by feeble growth as GDP growth spurts but then fades as a number of temporary supportive factors are scaled back. Inflation has turned positive again and should stay that way but without approaching the ECB’s definition of price stability until 2011. As a result ECB rate hikes are not expected until later in 2010."
Michael Dicks, Chief Economist, said, "We expect UK growth to resume in 2010, remaining slow but positive before picking up in 2011. Government spending cuts and cautious consumers remain the main source of weakness. CPI inflation will be volatile over the next year and will be so pronounced that the upper and lower boundaries of the inflation target will be approached.
"Monetary and fiscal policies are both likely to tighten in the second half of 2010 following the general election."
Asset classes
• Cautious optimism for equities with profitability looking set to recover delivering returns of low double digits. However, if macro risks rise equity prices could suffer.
• Government bonds look likely to be volatile and register small losses, however economic deterioration would increase their appeal.
• Corporate credit–spreads should narrow slightly. Monetary tightening risks will make corporate bonds less attractive. Some slight falls in emerging market sovereign spreads are possible.
• In Global real estate, US and UK commercial property markets now appear fairly valued, in contrast to Europe and Japan which looks a little expensive. Real estate loans coming due for refinancing create a danger of forced sales.
• A gentle up-trend in commodity prices overall is expected as global demand and market confidence improves.
• FX – The US dollar is due to recover a little in 2010. The Euro looks expensive and may weaken. The Australian dollar, NZ dollar, and Norwegian Krone will rise and the Swiss Franc and Japanese Yen sink. Sterling is particularly at risk from policy mistakes.
