What’s on the mind of these 3 chief economists?

This article is brought to you thanks to the collaboration of The European Sting with the World Economic Forum./

Author: Robin Pomeroy, Podcast Editor, World Economic Forum, Kate Whiting, Senior Writer, Forum Agenda

• The world is still in a period of great economic uncertainty, with inflation forcing central banks to tighten monetary policy.
• Three chief economists spoke to Radio Davos at the World Economic Forum’s Growth Summit.
• From unemployment to deglobalization and stagflation risks, this is where they think the global economy is headed.

“It is a mixed picture overall.”

So says Razia Khan, Chief Economist for Standard Chartered – and her view of the global economy is shared by other economists.

Uncertainty persists as inflation remains high and central banks are continuing to raise interest rates to try to bring down spending.

But there is some optimism around the resilience of Europe and a sense that the economic outlook will become clearer in the second half of the year, as China’s economy rebounds further from the COVID-19 pandemic.

Economists were split over the likelihood of a global recession in 2023 in the World Economic Forum’s latest Global Economic Outlook, published in May.

January showed a mixed picture of the chances of a global recession. Image: World Economic Forum

To get a full picture of the global economy, and where it’s headed, Khan and her fellow chief economists, Gregory Daco (EY-Parthenon) and Jorge Sicilia (BBVA Group) shared their insights with the Radio Davos podcast at the Forum’s recent Growth Summit 2023.

Here, in quotes that have been edited, are some of the topics on their minds.

Recession risk

For Khan, there is some good news.

“If we look at recent data out of Europe, the fears of a really deep recession over the winter, the energy crisis, a slowing of growth – that seems to have been somewhat unfounded,” she says.

“Europe has been more resilient than initially believed.”

“The way we see it is that we’re going to have a mild recession in the US,” says Sicilia, “and we don’t see vulnerabilities that would lead us to think that recession is going to be different than a normal cycle. That means recovery is likely to come afterwards when inflation comes down and real interest rates are able to be a little bit lower.”

Global growth

“Until now, growth has been very resilient across the board and the big question is whether this resilience shows that there is an underlying strength in the economy or whether you’re having some elements or buffers that are helping the economies out,” says Sicilia.

“In the case of the US or even Europe, are there large excess savings accumulated during the pandemic that are still able to generate sufficient income for families to continue spending? That has been one big explanation of why the economy has been resilient.

“The issue is, if this [level of spending] stops, consumption is not going to continue supporting the US economy as before.”

Khan says Standard Chartered remains “relatively upbeat” on global growth.

The IMF’s projected growth forecast.

“Asia, for example, doesn’t have the significant headwinds that some of the weaker, more vulnerable economies seem to have.

“There’s no question that concerns around a global slowdown dominate. But from the perspective of China’s economic recovery, with good prospects in Asia, there is reason to be somewhat more upbeat.

“Provided we see only a very shallow slowdown in developed markets, the focus for many will shift to China’s recovery, which we at Standard Chartered think will start to be more pronounced in the second half of the year.”

The road ahead is bumpier for the more fragile economies that are dependent on foreign financing of their needs, she added.

“This is where there will be a need for the real adoption of reform to try to sustain any kind of growth recovery.”

Inflation and stagflation

Inflation remains high and it might not come down anytime soon, says Sicilia.

“Inflation has increased dramatically as a consequence of many elements related both to supply side shocks but also to high demand, mainly fiscal policy that was implemented during and after the pandemic. So we have supply and demand issues.

“What we are seeing now is the year-on-year rate decline of base effects that are feeding their way through the economy but still core inflation, and clearly services inflation, remains very high. And there is more uncertainty as regards how quickly it’s going to come down in the near future.”

High inflation has a greater impact on those on lower incomes and increases inequality in society.

“The long-term consequences of this very negative impact of inflation go beyond the short term. It’s very important to bring inflation down as quickly as possible, as well as very targeted policies that are able to alleviate the problems of high inflation in low-income families.”

How stagflation risk differs around the world. Image: World Economic Forum

Stagflation – stagnation or even a contraction in economic activity plus high inflation – is less of a risk, according to Daco.

“There are certainly hints that may sound stagflationary because we’re seeing slower growth and still elevated inflation. But if you look at the flow of economic activity, what you’re seeing is that we’re past peak inflation across most places around the world. We’re seeing disinflation. So inflation is falling, prices are still rising, but they’re rising at a slower clip. And we have an environment where we have slower growth.

“I would anticipate that if we continue to see slower growth and if we see some potential recessions across the world, that will put downward pressure on inflation and potentially in some sectors lead to outright deflation, so where prices are falling.

“So I don’t really think that we are at risk of a stagflation area environment in the purest sense of the term. But we are certainly seeing some hints of an environment right now of slower growth and still elevated inflation.”

Interest rates

Sicilia says: “Among economists, there is the feeling that probably the peak of interest rates is near and perhaps more clearly so in the US than in Europe. Certainly in emerging Latin America they have gone already significantly a long way, not so much in Asia. So it depends on the region but more or less the answer would be yes.

“There is more uncertainty when I discuss with other colleagues as regards whether interest rates are going to come down or remain high for a longer period of time.”

There are still central banks tightening monetary policy in this high inflation environment, says Daco, and it’s having a greater impact on some sectors that are more exposed to higher interest rates.

“We’ve seen some economies around the world face significant downfalls in housing activity, the US being a prime example.

“Encouragingly, though, we’ve seen that the amount of leverage that has backed the housing sector over the past 10 years is much less than was the case during the 07/08 crisis. So that’s a positive development on the household sector front. But there are still concerns around the commercial real estate side.

“Other sectors that are also exposed are the banking sector, mutual funds, pension funds that have this duration mismatch between what they owe and what they have in terms of assets.”

Most economists see interest rate rises slowing. Image: World Economic Forum

Unemployment

Labour markets have stayed tight despite the economic uncertainty, but could unemployment start to grow?

“Across the board the unemployment rate has not increased as much as one would have thought one year or 18 months ago,” says Sicilia. “So that’s a good thing. But at the same time, there are a few things that are not working in the labour market.

“In the US, you have these COVID scars and the labour force participation has not recovered as much. This is not the case in Europe, but in emerging economies and sometimes in developed economies as well, there is an increase in informal employment.

“That is a problem in terms of generating the environment in which you can invest in people, thus increasing their skills for the new type of jobs that are going to be required.

“The main challenge that we have long term, is to make sure that the labour force has sufficient skills to adapt to this innovation that is happening.”

We have to distinguish the cyclical factors from the structural factors, says Daco.

“On the cyclical side, we are seeing a slowdown in economic activity, but businesses, as I mentioned, are eager not to let go of their workforce too rapidly because they struggle to get the right size of talent pool into the doors over the last couple of years, so they are much more cautious.

“That being said, oftentimes recessions are non-linear. We have a sudden shift in the economic environment that leads businesses and consumers to retrench more rapidly.

“So while the unemployment rate across a number of economies around the world is at historic lows, we still have this risk that it could start to rise and fairly rapidly once it gets under way.

“Now, on the structural side of the labour force, we have an environment where most of the labour force across the world is ageing. So supply has become an increasing concern and that supply of labour is not going to be increasing rapidly over the next 5 to 10 years.

“So where businesses are increasingly focused is on driving up the productivity of that pool of talent and that comes gradually over time.

“But it is certainly a concern that a lot of businesses have in terms of ensuring that their talent pool is as productive, as efficient as possible, because that alleviates the supply shortage, while also mitigating the pressure on the cost front in terms of labour.”

How economists see the structure of supply chains changing. Image: World Economic Forum

Globalization

Globalization has increased “dramatically” in the past 30 years, says Sicilia, but it’s had negative consequences in terms of the excess liquidity, the global financial crisis and inequality.

“There is one thing that globalization has kept relatively low and it’s firms looking for the best way of increasing production and making it more efficient. That has generated an environment where inflation has been very low across the board, mainly due to goods inflation.

“Now, depending on which type of globalization or deglobalization you think is going to come, you’re going to see different effects. There’s going to be a more challenging environment for inflation because you’re not going to be able to react quickly to shocks.”

“What we are seeing is a slower pace of globalization and a major risk that we enter a world that is increasingly fragmented,” adds Daco.

“We’re not seeing deglobalization, where we’ve gone into reverse, but policies that are being put in place across a number of countries that are increasingly focused on the domestic economy and on this idea of friend-shoring, essentially trading with traditional trade partners, and distancing oneself from other potential trade partners.

“In that type of environment where industrial policy takes a greater role, that generally tends to weigh on economic activity because you’re losing some of the potential advantages of trading with other partners and you’re implicitly increasing the cost of doing trade globally.”