The start of the New Year always brings fresh optimism. 2020 is no different with the year characterised by a favourable outlook for the global economy and markets.
US/China trade truce
The optimism for the markets has largely been driven by the US and China agreeing and signing their much awaited Phase One trade deal. Critics have said the deal lacks substance, but the deal offers a way for both sides to claim a victory and, therefore, has proved supportive to markets.
Whilst not at the centre of the dispute, Europe stands to benefit disproportionately, if global trade re-accelerates. Last year, European economic growth was lacklustre, largely due to the importance of the manufacturing sector in countries such as Germany and Italy, relative to other regions. Recent data suggests that business investment in Germany may have bottomed; however, it remains doubtful that this will lead to a sharp rebound in capital investment. This is due to the muted expectations of a Phase Two US/China trade deal, together with the uncertainty regarding the UK/European Union (EU) Brexit trade negotiations and the brewing US/EU trade tensions.
In December, US manufacturing data confirmed that the sector was in mild recession for all of 2019, shrinking 1.3%. This is the worst year for manufacturing since 2016 and reflects the US/China trade tensions; however, the signing of the US/China Phase One deal should see an improvement in global trade.
The weakening of the US economy can also be seen through the latest employment data. Although US claims for unemployment benefits in the week ending 4 January, declined 214,000, the number of Americans unemployed at the end of 2019 surged to its highest level in 18 months. However, at this stage it is unlikely the US economy will enter recession, one reason being the strength of the housing market. In December, housing starts were 1.508 million, well above the most optimistic expectations.
In December, US inflation, as measured by the Consumer Price Index (CPI), rose by 0.2% from the previous month, its highest level since October 2018. Given the recent weakness in the US economy, the US Federal Reserve (Fed) is likely to keep interest rates at current levels.
The UK formerly leaves the EU on 31 January 2020 and will enter a transition period in which the UK remains an EU member in all but name, whilst both sides try to agree a deal on their post Brexit relationship. The deadline to reach an agreement, which is enshrined in UK law, is 31 December 2020. A comprehensive free trade deal would encompass everything from financial services, rules of origin to tariffs, state aid rules and fishing, although the scope and sequencing of any future deal is still up for discussions. If there is no agreement, the UK and EU trading relationship is likely to be based on World Trade Organisation rules.
The EY Items Club has upgraded their economic forecast for the UK economy from 1% to 1.2%, however, their economists stressed that the outlook for the UK economy will depend on the UK/EU negotiations.
In November, the UK economy, as measured by Gross Domestic Product (GDP), contracted 0.3%. Economists had expected zero growth, but the manufacturing and production sectors declined by more than expected. Industrial production declined by 1.2%, whilst manufacturing dropped 1.7%.
Retail sales, as measured by the British Retail Consortium (BRC), declined 0.1% in 2019, with November and December particularly weak. The BRC blamed political uncertainty over Brexit and the General Election.
In December, UK inflation, as measured by CPI, rose 1.3%, year on year, which is its lowest level in more than 3 years. Market expectations had been for a rise of 1.5% and, therefore, market commentators suggested that the Bank of England should respond with an interest rate cut, however, the Bank of England decided at this stage to keep interest rates unchanged.
The UK labour market continues to illustrate the underlying strength of the UK economy. In the three months to November, 208,000 jobs were added to the economy compared to the previous three months. Average weekly earnings, including bonuses, rose 3.2% year on year, unchanged from the previous three months.
China’s economy, as measured by GDP, grew 6.1% in 2019 and reflects the US/China trade tensions, together with domestic pressures. This is the lowest economic growth since 1990. Weaker consumer spending, rising unemployment and problems in the financial system weighed on growth.
In December, inflation in China, as measured by CPI, rose 4.5%, year on year, marginally lower than market expectations of a 4.7% rise. Rising pork prices were the main driver of higher inflation, which was caused by an African swine fever crisis.
At the start of the year, the big unknown is the economic impact of the Coronavirus, a virus that China is trying to contain. So far, at least 6,000 individuals have been infected around the world, albeit predominately in China, with over 100 deaths.
Middle East tensions between the US and Iran have had minimal effect on the oil price and the global economy. This just illustrates that the Middle East is losing its economic importance.
Towards the end of 2019, the economic data arising from most of the developed economies were indicating an economic slowdown. This economic weakness is one of the main reasons why all the major central banks, such as the Fed and the European Central Bank, were supporting their economies by loosening their monetary policy with either lower interest rates or further Quantitative Easing. With the Phase One trade deal between the US and China now signed, market participants are watching economic data very closely to gauge the impact of the agreement.