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Relaxation of the corona measures:
The pent-up demand is spurring consumption - at least for the time being
Photo: Arnulf Hettrich / Fnoxx / imago images / Arnulf Hettrich
In my annual outlook, I outlined the expectation that the economy will recover strongly in 2021 because the social distancing measures will be relaxed in large parts of the northern hemisphere and the demand pent up during the corona pandemic can be dynamically discharged.
The downside of the development was a noticeable rise in inflation.
Daniel Pfänder
has many years of experience in macroeconomic analysis and financial market strategy.
He is the founder of the independent research company Research Ahead.
In fact, both the macroeconomic environment and the financial markets have developed positively so far, and, as expected, the demand for commodities has risen sharply in the wake of the upswing, and the same applies to the yields of government bonds such as US Treasuries and Bunds.
The latter was mainly driven by higher inflation expectations.
The upswing is solidifying - but only until autumn
It is becoming apparent that the global economic upturn may solidify and expand both sectorally and geographically.
In Europe and North America in particular, the dynamic vaccination progress enables a sustained and significant relaxation of social distancing measures.
As a result, the service sectors can increasingly contribute to the recovery.
Accordingly, the high pent-up demand can spur consumption and contribute to a significant recovery in the labor market.
Poor emerging countries, on the other hand, will likely take significantly longer to reach vaccination coverage.
As has been seen in India or Brazil in recent weeks, however, this is mainly a humanitarian problem and does not stand in the way of a recovery in the (world) economy.
The supply bottlenecks that were noticeable in the past few months will therefore persist for the time being. These delivery difficulties increase the upward pressure on prices in the short term and dampen the dynamic recovery. At the same time, however, the upswing is prolonged - because it takes longer before demand can be satisfied.
The climax of this development should be reached around late autumn.
Then, due to negative base effects and decreasing price adjustments, the currently increased inflation should also decrease again with a view to 2022.
This is because the output gaps are still quite high - especially in the euro zone - and it will take time before a stronger wage-price spiral is set in motion.
In the US, on the other hand, inflation is likely to remain above the Federal Reserve Board's target in the coming year.
There, the economy was operating close to full employment even before the pandemic, the growth recovery started earlier and has been more dynamic since then due to the very high fiscal support.
Central banks are scaling back their support
Monetary policy is likely to remain supportive for the time being, but it can be assumed that the discussion about reducing bond purchases will become more vigorous in the third quarter, initially in the USA. This should lead to decisions by the US Federal Reserve (Fed) in the fourth quarter to reduce bond purchases from the beginning of 2022. In the euro zone, too, bond purchases as part of the Pepp (Pandemic Emergency Purchase Program) are likely to be discontinued in the first half of 2022. However, the Asset Purchase Program (APP) will probably be continued for a longer period of time - and possibly even increased with the discontinuation of Pepp.
In the financial markets, the currently favorable environment for risky assets may last for a few more weeks.
Currently, the growth dynamic is even increasing and with it the profit dynamic of the companies.
Inflation has risen faster than originally expected, but central banks such as the Fed or the European Central Bank (ECB) have made it clear that they will view this increase as temporary and will not react with a change in monetary policy.
As a result, the distribution of assets remains unchanged for the time being, with an overweighting of stocks, commodity-sensitive assets and carry products.
Trend reversal in autumn
However, the financial market environment is likely to become much more difficult from autumn onwards. Even if growth momentum remains favorable, leading indicators are likely to begin to fall while inflation rates continue to rise. In addition, due to the advanced reduction in excess capacities, the central banks are already in the middle of the discussion about reducing bond purchases.
At the same time, wages in the USA are likely to grow faster again.
Many companies - especially in the low-wage sector - are already having problems recruiting enough employees and are reacting to this development with higher wages.
However, these are likely to fuel doubts that the sharp rise in inflation is actually only temporary.
A gloomy inflation outlook in the medium to long term would of course have consequences for the Fed's monetary policy.
A major slide in the stock market is possible
This would mean that the (expected) support from monetary policy would fall precisely at the point in time when a more difficult macroeconomic environment is expected anyway due to the inflationary dynamic and the gradually slowing growth also offers less support. This darkens the environment for risky assets and increases the risk of a major correction. A decline of 10 to 15 percent for broad stock indices is possible.
It is therefore advisable to reduce the investment risks towards the end of the third quarter.
This means lower equity quotas and a preference for more defensive sectors such as health care or utilities.
Positions on the commodity markets should then also be lower.
On the other hand, investments in shorter-term government bonds as well as in the Swiss franc and the Japanese yen are temporary "safe havens".
The US dollar could also see short-term support before weakening again.
Long-term outlook remains positive
However, the long-term outlook for equities, commodities and spread products remains favorable. The global economy is likely to grow strongly in the coming years. With the significant exception of China, the emerging economies are lagging behind in the post-pandemic recovery and have some catching up to do. The recovery in the euro zone is likely to be more steady than in the USA, also because the fiscal impetus has been smaller on this side of the Atlantic since the outbreak of the pandemic. In addition, the output gap is significantly larger and there is therefore no need to reduce monetary policy support in the short term, with the exception of the additional instruments used due to the pandemic.
In the USA, on the other hand, growth is likely to weaken considerably next year.
On the one hand, the economic boost due to the opening is over; on the other hand, the fiscal impulse is clearly negative.
The upswing should continue at a lower level, however, and the risk of a hard landing is very low.
The Fed will proceed cautiously with the tightening of monetary policy and could even carry out a new edition of the "Operation Twist" (sale of short government bonds and simultaneous purchase of long bonds).
In addition, the delivery bottlenecks should ease significantly in 2022.
The outlined market correction would then not be the beginning of a long-lasting bear market - but the cornerstone for the next upswing.
Daniel Pf Händler has many years of experience in macroeconomic analysis and financial market strategy. He is the founder of the independent research company Research Ahead and a member of the
opinion
makers of manager-magazin.de. Nevertheless, this column does not necessarily reflect the opinion of the editorial team of manager magazin.