The thing about an inflation battle is that it’s not over till it’s over. Consumer price increases have picked up recently in some of the world’s big economies – after months of falling – in a thorny reminder that the last mile is often the hardest part of the whole trek.
For many central banks, that means having to sit on their hands for a while, leaving in place the high interest rates they’ve been using to cool inflation, even at the risk of weighing down the job market and economic growth. They’re looking for those price pressures to fall further, before they chip away at the cost of borrowing money.
UK investment house abrdn sees it all playing out without a global recession – but not without some bumps in the road. Here’s a glimpse of its latest outlook.
Inflation: gradually moving toward the target.
Following a rapid slowdown in 2023, inflation nudged up again at the start of 2024 in many economies. The increase, in part, reflects seasonal distortions and data-related issues. But the strength of wage growth and core services inflation, alongside the sharp rise in maritime freight rates, has meant that many key central banks aren’t yet ready to cut interest rates.
That said, yearly rates of inflation should fall close to those central banks’ 2% target by mid-year in many places – including the US. Although core services inflation is strong in the world’s biggest economy, price rises for shelter should soon moderate. And wage growth appears to be coming down gradually and inflation expectations are staying well-anchored in almost all developed market (DM) economies.
But there’s been a bumpy disinflation ride across emerging markets (EM) as well. And there are also clear last-mile risks there too, including some stemming from the climate impact of El Niño and from geopolitical volatility, both of which could push up food prices.
Interest rates: trims on the horizon.
Against this backdrop, abrdn expects several developed market central banks to begin interest-rate cuts around the middle of this year. It sees the Federal Reserve (Fed), European Central Bank (ECB), and Bank of England (BoE) each making an initial cut in June. To drill down into the details: it sees the US central bank shaving its benchmark fed funds rate from the current range of 5.25% to 5.5%, to just 4.25% to 4.5% by the end of the year. And it sees further trims in 2025, with the lower end of the range dropping to 3%. The eventual end point of the cuts, arbdn says, will be between 2% and 3%.
Across EMs, cooling inflation and a high starting point for real rates (that is, interest rates adjusted for inflation) give room for interest rate cuts this year. Easing is well underway in Latin America, although cuts in Mexico may wait until after the Fed has moved. Asian central banks, meanwhile, didn’t hike interest rates as aggressively and growth is holding up better in much of the region, but rates are still likely to be lowered later this year.
China and India: contrasting fortunes.
Chinese policy continues to ease, with recent interventions aimed at shoring up weak stock markets. However, real estate activity and property prices show a continued slide, and the desire to hold the line on de-risking means these headwinds may continue to outweigh stimulus measures.
China has set a modest economic growth target of “around 5%”, but abrdn sees it falling short. That said, “Japanification” concerns – fear of a decades-long period of economic stagnation – appear to be overdone, with underlying inflation dynamics less concerning than the deflationary headline numbers.
By contrast, although Indian growth is likely to slow from 2023’s heady rate, it will still be a global growth outperformer, thanks to some favorable long-term factors. Reform momentum and avoiding protectionism will be key to further boosting the economy.
Big picture: a few scenarios.
On the political front, abrdn’s global forecast incorporates broadly unchanged US government policy. However, it sees the election as a source of significant macro uncertainty.
And it says the probability of a “hard landing” in the US is still more elevated than in a typical year of the business cycle, especially as the boost from high savings and strong supply-side growth fades.
Conversely, the recent strength of US activity may point to a global “no landing” scenario, in which growth remains well above trend and inflation heats back up. That’d mean that interest rates would have to remain higher for longer, and the next move in interest rates could be upward, not downward. This tightening could cause a more pronounced downturn further in the future, although in the near term, it would be priced as reflation.
A more unambiguously upside scenario would be a global supply-side uplift, in which trend growth moves higher. This could be driven by realizing productivity gains from AI earlier than expected. And it could lead to strong growth, without a commensurate increase in inflation. Interest rates would still ease this year in this scenario, but long-term equilibrium interest rates would shift higher.
China, for its part, continues to pose material downside risks to the global economy. A Chinese balance sheet recession could occur because of a more abrupt correction in real estate, alongside insufficient policy offsets.
And, finally, an escalation of the conflict in the Middle East that causes a further move up in shipping rates (alongside higher oil prices) could generate a big inflation shock. And that would also mean that the next move in interest rates would be upward.
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Capital at risk. Our analyst insights are for educational and entertainment purposes only. They’re produced by Finimize and represent their own opinions and views only. Wealthyhood does not render investment, financial, legal, tax, or accounting advice and has no control over the analyst insights content.
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