The global economy is doing just fine thank you

Matthew Peter, Chief Economist

Despite the best attempts of politicians, the global economy is rallying strongly. Recent releases of national accounts data show that most major economies are growing at above trend rates, with strong employment growth and falling unemployment rates.

Data on June quarter GDP growth rates (the broadest measure of a country’s growth in economic activity) show that: the US economy is growing at an annualised pace of 2.6% (around ½ a percentage point (ppt) above trend); the euro area economy is growing at 2.4% (around 1 ppt stronger than trend); China is growing at 6.9% (around 40 basis points stronger than authorities’ target growth); and even the perennial laggard Japan is growing at a stonking 4% annualised pace (around 3 ppts higher than trend). The odd-man-out is the UK, whose economy fell to a soggy 0.9% annualised pace in the June quarter as the weight of BREXIT drains consumer and business confidence.

In addition to the positive June quarter results, momentum leading into the second half of 2017 is strong across most of the major economies. In the US, prospects for consumer spending (about 70% of US final demand) are excellent. US employment is booming, with around 200k jobs per month being added and with the unemployment rate falling to a 16 year low. Upbeat labour market conditions are driving strong household spending, with US retail sales revealing robust growth in July, building on a strong June quarter. US real consumer spending is now on track to grow at an annualised rate of around 3% in the September quarter. Unsurprisingly, consumer sentiment is surging with the closely followed University of Michigan consumer sentiment index maintaining a level of around 97; a level not previously reached since the GFC. Similarly, business sentiment has also climbed, with the ISM manufacturing index maintaining levels close to post-GFC highs.

The US economy now looks poised to outstrip the robust growth of the June quarter with September quarter growth likely to exceed an annualised rate of 3%. Looking beyond the US, consumer spending in the euro area is performing strongly, with a steady rise in retail sales over the last 18 months to a yearly growth rate of over 3% in June. Strong labour market performance, which has seen steady progress in reducing the unemployment rate from its high point of 12.1% in 2013 to its current (7 year low) of 9.1% in June, is restoring consumer confidence to levels last seen as far back as 2001. Business sentiment is also at 5 year highs within region. The Asia region is also experiencing robust growth with China and Japan rebounding strongly from subdued growth over 2016. Recent data show that China is on track to exceed authorities’ growth target of 6.5% over 2017 and that the Japanese economy is likely to maintain steady growth in the second half of the year.

Two main factors have been responsible for the pick-up in the global economy following its 2015/16 weak patch: (i) the recovery in oil prices and (ii) the stabilisation of the Chinese economy. The recovery in the oil prices has arrested the recessions in Emerging Market oil-exporting economies such as Russia and Brazil and the fall in the global mining industry’s capital expenditure. During the 2015/16 collapse in oil prices, the Russian and Brazilian economies shrank at an average rate of 3% per annum, while many other EM economies also experienced sharp slowdowns. The fall in Russian and Brazilian economic growth alone represented a headwind to the global economy of around 20 bps. However, over 2017, Brazil and Russia will likely make small positive contributions to global growth.

Economic growth in China while remaining steadfastly positive nonetheless declined over 2015/16. More importantly, China import growth tanked over this period. Due to falling demand from China, as well as from the global mining sector and many EM commodity exporters, international trade collapsed dragging with it the global manufacturing sector. Growth in international merchandise trade and global industrial production hit four year lows in the first half of 2016; around the same time that the oil price and China growth hit their near decade-long low points.

However, since their March quarter 2016 low points, the recoveries in oil prices and Chinese & EM economic growth have led to a remarkable rebound in international merchandise trade and industrial production. International trade and industrial production are now growing at their fastest rates since 2011. With incoming data suggesting that this trend will continue over the second half of 2017, it is now up to the world’s politicians to derail the global economy.

Table 1: Financial market movements, 17 - 24 August 2017

Equity index

Level

Change

10-yr government bond

Yield

Change

Foreign exchange

Rate

Change

S&P 500

2,439.0

0.4%

US

2.19%

0.9 bps

US Dollar Index (DXY)

93.28

-0.4%

Nikkei 225

19,353.8

-1.8%

Japan

0.03%

-2.7 bps

USD-JPY

109.56

0.0%

FTSE 100

7,407.1

0.3%

UK

1.05%

-3.4 bps

GBP-USD

1.280

-0.5%

DAX

12,180.8

-0.2%

Germany

0.38%

-5.0 bps

EUR-USD

1.180

0.6%

S&P/ASX 200

5,745.5

-0.6%

Australia

2.64%

-0.5 bps

AUD-USD

0.791

0.3%

Economic Update

 

United States

Consumer sentiment bounces back, while business activity remains strong
  • Consumer sentiment in the US bounced back from a decline over the past two months, with the preliminary University of Michigan survey rising from 93.4 to 97.6 in August, reaching the highest level since the 13-year peak experienced in January. Consumers’ expectations of conditions going forward improved, but their assessment of current conditions was down slightly from its decade peak in July. Meanwhile, consumers’ long-term inflation expectations declined over August (2.5% from 2.6%). Given the timing of the recent events in Charlottesville, the effect on consumer sentiment is yet to be seen in the survey.  
  • Business conditions remain strong in the US, according to the US Markit Flash composite PMI, which rose from 54.6 to 56.0 in August, its highest level in over 2 years. This result was driven primarily by a pickup in service sector activity, which accelerated over the month, while activity in the manufacturing sector slowed.  
  • Recent data suggests a softening in conditions within the US housing market, with sales in both new (-9.4%) and existing (-1.3%) homes slowing down over the month of July. 

Euro area / United Kingdom

Euro area maintains strong momentum in business activity, but UK business investment stalls
  • Business activity within the euro area remains strong, with the Markit Flash Composite PMI exceeding market expectations of a slowdown in August, lifting to 55.8 from 55.7 in July. Activity within the manufacturing sector spiked over the month, with the index rising to 57.4 from 56.6 in July, while business activity in the services sector edged lower to 54.9 from 55.4 in July. Inflationary pressures, both in terms of input costs and final output prices picked up over the month, bucking a recent trend of an easing in prices since February.
  • Consumer confidence in the euro area remained broadly unchanged over August at elevated levels not seen since 2017.
  • Business investment in the UK has remained unchanged in Q2 relative the same quarter last year. This suggests that investment in the business sector has stalled since the British referendum, with uncertainty surrounding the outcome of the BREXIT discussions weighing on business spending.


China / Japan

Core inflation continues recovery in Japan
  • Manufacturing activity in Japan improved over August, with the Nikkei Flash PMI accelerating to 52.8, up from 52.1 in July. Most of the components in the survey suggested a faster rate of improvement, including output, new orders and employment. 
  • Inflation remains lacklustre in Japan, with the headline CPI remaining unchanged in July at 0.4%. Adjusting for fresh food, a measure used by the Bank of Japan in their forecasts, inflation edged higher to 0.5%, up from 0.4% in June. However, core CPI (adjusting for both food and energy prices) remains in negative territory at -0.1%, marginally improving from -0.2% in June.



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