The World in 2022

Neil Shearing, Group Chief Economist at Capital Economics provides his views on global markets for 2022.

We expect growth in almost every major economy to slow next year with the US and China in particular falling some way short of current expectations. At the same time, while headline inflation will drop sharply, core inflation will remain higher than most anticipate in a number of countries. This will pose a dilemma for policymakers. We expect most central banks to tighten policy next year, but in some cases (though notably not the US) the pace of tightening will be a bit slower than investors currently anticipate. China is likely to be one of the few countries in which interest rates are cut.

The evolution of the pandemic will continue to be the most important driver of economic and market outcomes. Our forecast assumes that the virus continues to ebb and flow with new variants emerging and governments responding by tightening (and then loosening) restrictions. In most countries we assume that these will be targeted and less economically disruptive than in the initial phase of the pandemic, but stricter measures are clearly possible if more dangerous strains emerge and/or healthcare systems become overwhelmed.

Those economies that continue to follow “zero-COVID” strategies (notably China) will respond with localised lockdowns and tighter restrictions on regional travel as outbreaks emerge. This will make for a more volatile path of output in these countries. While there is a tendency to focus on the downside risks from new variants of the virus, it’s possible that over the next year it mutates into a less deadly form that is ultimately positive for economic growth.

With that said, we think 2022 will be a year in which economic growth disappoints. In the US, we expect demand to remain strong but think that supply constraints will be a firmer brake on output than most currently anticipate; in China, we expect the construction-led slowdown will intensify; and in Emerging Markets, we expect a combination of tighter policy, lower commodity prices and continuing virus disruption to weigh on growth.

We are more upbeat than the consensus in a handful of economies, including Australia. But overall our GDP forecasts sit below most expectations. While the IMF expects global GDP to expand by nearly 5% next year, we expect growth to be closer to 4% (compared to 6% in 2021).

At the same time, while headline inflation will fall back everywhere, core inflation will remain uncomfortably high in a number of countries. The sharp increase in energy inflation, which has propelled this year’s surge in inflation, will unwind in 2022. But in most advanced economies a combination of strong demand and lingering supply shortages means that core inflation is unlikely to ease as quickly as policymakers expect. Some of the heat will come out of the inflation debate, but it will continue to be the key issue for policymakers and markets.

Most central banks will tighten policy next year, but the degree to which our view is priced into markets varies. We expect interest rates in the US to increase at a similar pace to markets next year (and at a faster pace in 2023). But in several other countries, including the UK, Australia, Brazil and South Africa, we think the pace of tightening will be slower than investors currently anticipate. We expect interest rates to remain at their current record lows in the euro-zone and Japan. And we think the People’s Bank of China will cut policy rates.

The combination of a strong economic recovery and accommodative monetary policy has fuelled healthy returns for many investors over the past 18 months or so, but we think that the macroeconomic backdrop is now becoming more challenging. A combination of monetary tightening and stubbornly high inflation will mean returns on US Treasuries are likely to be negative and that those from government bonds in other Developed Markets will be only slightly positive. We anticipate that returns from equities and commercial property will be higher, but that high valuations and weaker growth will cause them to fall well short of returns in 2021. And while many analysts are forecasting the start of a new commodities supercycle, we expect most commodity prices to fall next year. In currency markets, we expect the dollar to strengthen a bit further against other majors, but by less than its ~7% rise in 2021.

An article by Neil Shearing, Group Chief Economist, Capital Economics - 17th December 2021

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