Reality Bites on Interest Rates for Global Economy


Monday, February 12, 2018 /09:25 AM /Fitch Ratings 

World growth prospects remain very strong for 2018 and are unlikely to be derailed by recent financial market volatility, but the balance of inflation risks is shifting, with implications for monetary policy, says Fitch Ratings in its latest Global Economic Update report.

Data released since Fitch's December 2017 Global Economic Outlook (GEO) show world growth to have recovered even more rapidly than previously thought in 2017 and confirm that momentum has been maintained in early 2018, supported by rising investment, buoyant world trade, loose financial conditions and pro-cyclical fiscal easing.

"Economic slack is diminishing rapidly, and against a backdrop of an even stronger global recovery last year than we thought, market concerns over inflation and forthcoming monetary policy adjustments have risen. This has sparked a rise in global bond yields and significant equity market volatility. But we see this primarily as a correction to an overly sanguine view on the US interest rate outlook rather than signalling any serious threat of a sharp economic slowdown," said Brian Coulton, Fitch's Chief Economist.

The rise in oil prices in the aftermath of the extension of OPEC quota reductions, sharp falls in Venezuela's oil production and declining global crude inventories also adds risks to headline inflation. While we still expect the strong supply response from US shale producers to continue, there are upside risks to our USD52.5/bbl (Brent) oil price forecast for 2018.

The Fed looks increasingly likely to raise rates four times in 2018 following upgrades to its growth forecasts. Concerns about low core inflation have eased and will be further assuaged by the recent pick-up in US wage inflation to an eight-year high of 2.9%.

The ECB is sounding much more confident about economic recovery and has acknowledged the recent acceleration in wages, even though core CPI inflation remains below the bank's comfort zone at 1%.

Net asset purchases at EUR30 billion per month through September 2018 are still the base case, but the chances of any extension or upscaling are diminishing and ECB forward guidance is likely to start reflecting this in March. Better-than-expected UK growth increases the chance of a further Bank of England rate increase this year as low unemployment reduces the bank's tolerance for above-target inflation.

US GDP grew by 2.5% annualised in 4Q17, broadly in line with our GEO forecast. Private domestic demand growth now exceeds 3% on an annual basis, led by a pick-up in business investment. The capex recovery is boosting US imports, imparting a drag on GDP growth from net trade. Nevertheless, with the final tax package worth 0.7% of GDP in its first year, domestic demand is likely to accelerate this year and there are modest upside risk to the GEO growth forecast of 2.5%.

Eurozone GDP grew by 0.6% in 4Q17, in line with our GEO forecast. However, upward revisions to previous quarters saw the 2017 annual outturn hit 2.5%, the strongest growth rate since 2007. PMI surveys remain at very elevated levels, and the ECB's January bank lending survey showed increasing loan demand from firms. The latter is consistent with an increasingly buoyant outlook for eurozone capex as conditions for SMEs improve, bank lending picks up, and economic and political uncertainties subside.

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The strength of the eurozone economy was an important factor supporting UK growth in 4Q17, when GDP expanded by a faster-than-expected 0.5%, taking 2017 annual GDP growth to 1.8%, 0.2pp faster than anticipated. Japan's 4Q17 GDP data has yet to be released, but upward revisions to earlier quarters and buoyant monthly data point to 2017 growth having beaten the GEO estimate of 1.5% and to upside risks for 2018.

China's economy grew by 6.8% yoy and by 1.6% qoq in 4Q17. These rates were in line with our GEO forecasts, but upward revisions to preceding quarters pushed 2017 annual growth up to 6.9%, the first incremental increase since 2010. The slowdown in credit and housing sales in late 2017 was consistent with weakening sequential GDP growth through the year (from 1.9% qoq in 2Q17) and points to some mild further slowing ahead.


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