The US performed well in 2018, but there are already signs of softer growth, particularly in the housing market and on capital spending. Political tensions remain high with the President highly critical of the Federal Reserve’s stance on monetary policy while the current government shutdown could be a prelude of more disruption to come now that the new Democrat-controlled House has been sworn in.
Nonetheless, it isn't all bad news. The tight jobs market means employees are finally feeling the recovery in the form of higher wages and more generous benefit packages. The plunge in motor fuel costs is another positive for consumer cash flow, while the ceasefire on US-China trade tensions offers some breathing room for business. With core inflation grinding higher we still see the scope for some additional Fed rate hikes, but they will be more modest than seen in 2018.
The Eurozone’s economic figures continue to disappoint. While the dispute over Italy’s budget has been resolved, trade wars and Brexit remain substantial risks to eurozone growth, which is already suffering from a slowdown in the emerging world. As the ECB’s growth and inflation forecasts are likely to be disappointed, the scope to raise interest rates seems very limited.
With less than three months until the UK leaves the EU, the economy is beginning to stall as Prime Minister Theresa May prepares to hold a crunch vote on her deal in mid-January. This looks set to be rejected by MPs, potentially opening the door to either a second referendum or a push towards the so-called ‘Norway option’. Nobody truly knows which option will prevail, but either way, some form of Brexit delay is looking more likely.
The Chinese economy is weakening, as shown by manufacturing surveys, but fiscal stimulus should soon be in place to counter the risk of rising unemployment in private enterprises. The central bank will use its new tool, the Targeted Medium-term Lending Facility (TMLF ) to provide lifelines to private and small companies. We are monitoring the yuan trend to confirm if it warrants a milder depreciation forecast in the wake of the change in the central bank’s exchange rate policy stance.
Japan’s economy was severely hit by the weather, with a partial recovery now being seen. However, inflation continues to undershoot expectations, while Bank of Japan rhetoric is keeping a lid on bond yields, although the real target may be to moderate yen appreciation.
The recent downturn in bond yields, prompted by political worries, may continue in the near term. However, we expect US yields shift back towards the upper end of their current range as concerns about core US inflation and rising issuance reassert themselves.