Q3 | 2021

Global Macro Outlook

Last innings of

the reopening trade

Macroeconomic themes that could shape the financial markets in the months ahead

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Macroeconomic Strategy, Multi-Asset Solutions Team

Global economic outlook 

It’s time to think beyond the reopening and examine factors that could drive the post-COVID-19 global economy. While many countries have only just embarked on the path toward reopening, the world’s largest economies—the United States and China—are already well on their way. The road map to reopening has been laid out, and uncertainties surrounding the virus, vaccination, and how economies might fare as they reopen have diminished substantially.

In our view, there are important factors that remain supportive of risk assets: Global growth is likely to be running at historically high levels throughout 2021 (and into 2022), and monetary and fiscal policy will continue to be extraordinarily accommodative. In absolute terms, most global macro indicators appear very strong; however, we believe these supportive factors will begin to diminish on a relative basis going forward, implying that we’re currently at peak macro—and the road ahead could be bumpy.

The somewhat more challenging macro environment should be able to mitigate the gradual rise in market rates, and we expect it to be less damaging to equities. Crucially, we believe sector selection, country selection, and regional focus will play a very important role in asset allocation decisions in the coming months—the ability to distinguish which elements in the macro narrative have reached peak (versus those that haven’t) could be critical to outcomes in the third and fourth quarters of 2021.

Peak macro factors

Timeline

  1. Peak monetary policy accommodation

    While monetary policy remains extremely accommodative, most global central banks—including the Fed—have directly or indirectly indicated that they’re taking their foot off the easing pedal. In our view, monetary accommodation has reached an inflection point, and we’ve entered a period in which communication errors (and potential policy errors) are no longer unthinkable.

  2. Peak U.S. fiscal policy support

    Although fiscal spending is likely to stay elevated in the United States, it’s fair to say that the fiscal impulse is going to wane significantly in the next two years. Should this happen, it'll translate into a sizable drag on growth—mathematically, at least—in the United States and globally in 2022. Unsurprisingly, this has fueled speculation that the current growth cycle will be very short, but we certainly don’t expect a recession to materialize.

  3. Peak reflation

    We believe that inflation is likely to stay elevated throughout Q3 before easing back to around 2.0% in 2022, followed by structurally higher inflation—possibly closer to the 2.5% mark—in 2023 and beyond. Problematically, we expect the reflation narrative to move from being framed as a positive development to being seen as a warning about higher input costs across a select set of industries that's been beset by supply chain disruptions.

  4. Peak China impulse

    The Chinese economy was first to enter into a COVID-19 recession and the first to emerge from it. China is also the first country to materially tighten fiscal and monetary measures. China’s credit impulse has decelerated as a result—a development that, judging from past experience, could hurt global trade and global industrial production.

  5. Peak aggregate U.S. data

    We expect U.S. growth to remain robust throughout 2021 and into 2022; however, much of the positive factors behind the economy’s growth momentum have already been priced into the market, and as data begins to suggest that growth in a few key sectors has topped out, the scope for investor disappointment grows. Indeed, we see more downside risks than upside risks on this front.

Macro factors that aren't yet at peak

  • Europe and Canada

    The eurozone and Canada have significantly lagged the U.S. reopening due partly to a slower vaccine rollout—the pace has since picked up but market expectations have yet to catch up—which we believe could create opportunities. Crucially, there’s still room for these two economies’ macro narrative to surprise to the upside. 

  • Global labor markets

    September could see the return of labor supply, as various government support programs come to an end (in the U.S. and in Canada), concerns about COVID-19 diminish as inoculation rates rise, and in-person schooling resumes. Barring surprises, these developments could keep wage pressures at bay. 

  • Global capital expenditure

    Capital investment is critical to global growth, and we believe this is one area that has the potential to provide the positive surprise needed to offset peak fiscal policy (and monetary policy). Our leading indicators suggest capex will underpin the next phase of global growth and will likely mollify concerns relating to the duration of the current growth cycle. 

  • Select emerging markets

    While we remain cautious on the broad emerging-market universe, we believe several markets could surprise to the upside, including Brazil, South Korea, Indonesia, and India. 

Going forward, we believe macro factors that were previously supportive will begin to diminish on a relative basis, implying that we’ve arrived at peak macro and that the road ahead will be bumpy.

—Frances Donald, Global Chief Economist and Global Head of Macroeconomic Strategy

United States: a period of strength

Many of the indicators traditionally used to gauge U.S. economic health remain distorted and could take months before they’re able to produce reliable readings that reflect the real economy. In our view, this should remain a theme for the balance of the year. But as these factors dissipate, normalization will be a welcome development: Higher employment, supply chain improvements, and the accompanying easing of inflationary pressures will all be met with relief. Conversely, moderations toward even healthy growth rates to areas such as housing and the consumption of goods could feel like a letdown after the feverish pace experienced over the last several quarters. From a policy perspective, we maintain that—on balance—economic data will provide the Fed with enough of a justification to introduce its intention to begin reducing the pace of quantitative easing before the end of the year, and quite possibly in third quarter.

  • Key market views

    Equities

    Since the S&P 500 Index appears to be fully valued, we believe that modest index-level returns could persist over the summer months. We maintain that stock selection and sector rotation will be critical components of generating return in the coming quarter.


  • Rates/yields

    After peaking around the end of the first quarter, rates have more or less moved sideways. At current levels, we believe the downside risk to yields is limited. In our view, the next catalyst that’ll trigger market rates to move higher will either be tighter monetary policy, which would come in the form of a timeframe around the unwinding of quantitative easing, or data surprises that force market participants to reassess what’s a broadly consensus and well-entrenched base-case expectation.

Canada: from macro laggard to leader

Canada’s economic outlook has evolved significantly in the past three months. For one, the pace of vaccinations in the country has ramped up aggressively. Crucially, although policymakers have chosen to reopen the economy slowly (particularly in Ontario), when it does happen, we should see a sizable pop in growth that’ll be at least be on par with—if not exceed—what we saw in the United States, albeit with a three- to six-month lag. This brighter outlook has encouraged the Bank of Canada to adopt a hawkish policy stance, fueling speculation that the central bank could hike rates twice next year. In our view, context is paramount: The Canadian economy remains overlevered and is home to a particularly vulnerable housing market as well as a currency that’s roughly 8% stronger than it was (against the U.S. dollar) before the pandemic struck.¹ In other words, the path to policy normalization isn’t likely to be quite so straightforward.

  • Factors to monitor

    Canada housing

    Housing activity continues to be an important focal point and poses a risk to the broader outlook. Our list of concerns has grown (beyond financial stability) to include the likelihood that structurally high house prices could dampen corporate competitiveness, encourage cost-push inflation, and drive intraprovince immigration flows inside and, potentially, out of Canada—which could be detrimental to growth.


  • Bank of Canada

    The central bank has already begun tapering its asset purchases (possibly because its share of the total Canadian government bond market remains around 40%¹ and is therefore uncomfortably high). In our view, further adjustments to its purchases will need to be managed in a way that doesn’t encourage unwarranted tightening or disruptions. 

Contextualizing China's economic performance

A string of negative surprises in activity data has led to a narrowing in consensus expectations for China’s GDP differentials. As headline growth rates remain distorted by base effects from last year’s COVID-19 downturn, it makes sense to focus on a longer horizon that captures the loss of output in 2020 and the extent to which expected recoveries in 2021 and 2022 can offset the economic damage. On this basis, China has seen only modest revisions since September 2020. The usual lag between policy implementation and impact means recent policy tightening—monetary, fiscal, credit, and regulatory—is likely to become a more forceful drag later this year.

  • What we're watching

    Credit growth

    The Chinese government is targeting a much weaker credit impulse this year than in 2020. We believe the expected slowdown in credit growth will weigh on the wider economy in the second half of the year. 


  • Worsening supply shortages

    Profit margins have compressed on the back of higher input prices, scattered COVID-19 outbreaks (which led to localized lockdowns), and sluggish consumer demand. Geopolitical disruptions could lead to tighter foreign import controls, amplifying this trend.

Previous editions of Global Macro Outlook

Euro area: playing catch-up

In our view, Europe’s catch-up period still has legs as high-frequency growth indicators reveal a continued acceleration across both manufacturing and services.¹ Leading sentiment indexes are elevated, along with an economic surprise index that suggests a continued underappreciation of the balance of risks on the part of market participants. The European Central Bank has correspondingly adjusted its assessment of the risks to growth from downward to neutral,² and policymakers appear to be doing their best to push the asset purchase tapering discussion to the September meeting. European sovereign bond spreads have widened modestly but remain well contained relative to their historical ranges. In terms of political risk, the upcoming German election is expected to deliver a status quo result with Greens as a key player in the next coalition government.³

Brazil: better days ahead

The worst of Brazil’s economic downturn arising from the COVID-19 outbreak is likely to be behind us as we head further into the second half of 2021. Q1 growth surprised to the upside, bolstered by inventory rebuilding and the commodity boom that pushed agricultural GDP to its highest level since 2017.¹ Coronavouchers (amounting to ~US$110 a month distributed to 30% of the population⁴) were reinstated in April and are expected to end in July. The Banco Central do Brasil responded to these improvements and higher inflation by raising rates by 75 basis points—first in March, then in May and June,¹ making it one of the most hawkish major central banks globally. We expect negative investor sentiment to continue to ease in the coming quarters as the severity of the pandemic and the geopolitical risk premium unwind, further supporting growing foreign inflows to Brazilian assets.

Bloomberg, as of June 12, 2021. Macroeconomic projections June 2021,” European Central Bank, June 2021. "Germany’s Upcoming Ballot Is a Climate Election,” Bloomberg, June 11, 2021. "COVID in Brazil: Hunger worsens in city slums,” BBC News, April 18, 2021.

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A widespread health crisis such as a global pandemic could cause substantial market volatility, exchange-trading suspensions and closures, and affect portfolio performance. For example, the novel coronavirus disease (COVID-19) has resulted in significant disruptions to global business activity. The impact of a health crisis and other epidemics and pandemics that may arise in the future could affect the global economy in ways that cannot necessarily be foreseen at the present time. A health crisis may exacerbate other preexisting political, social, and economic risks. Any such impact could adversely affect the portfolio’s performance, resulting in losses to your investment.

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