Over the past few months, the business climate in both developed economies and emerging markets has improved significantly. In this environment, Eurozone growth should accelerate to 2% in 2018.
Global growth has clearly accelerated further, as illustrated by the uptick in trade and industrial production. The dissipation of fears of a sudden slowdown in the Chinese economy has contributed to the improvement, allowing commodities prices to stabilise. Commodity-producing countries are now benefitting from a more favourable environment as export income increases, while appreciating currencies have reduced inflationary tensions and provided greater leeway in terms of monetary policy.
In China, although growth is gradually being rebalanced in favour of private consumption, further structural reforms are still required to reduce household incentive to save and to enable more rapid wage growth. The authorities are still facing challenges however, as a fine balance between curbing credit growth and maintaining sufficient growth in the economy must be constantly preserved.
In the US, the election of Donald Trump at the end of 2016 raised hopes, but also triggered fears. The prospect of steep tax cuts and an infrastructure investment stimulus package immediately drove up equity markets. However, it is clear that with the exception of the Obamacare reform, adopted for the time being only by the House of Representatives, the other projects, particularly the tax reform, have not made much progress, even with the Republican party commanding a majority in Congress.
The delay in the tax reform is not likely to derail the recovery. The economy will effectively continue to benefit from the global expansion. The stabilisation in the oil price is encouraging fresh capex in the mining sector. Additionally, the labour market remains dynamic and wages should continue to gradually accelerate and support household spending.
It is however still likely that some tax cuts will be implemented in 2018, which should push growth towards 2.5% in 2018 vs just over 2% this year. In this context, the Federal Reserve should continue to normalise interest rates and start to reduce the size of its balance sheet … before Janet Yellen's term of office comes to an end in February 2018.
Growth in the Eurozone has gained momentum and appears to be solid. This growth is driven primarily by domestic demand. After several years of adjustment, the residential construction sector is recovering. Despite the uptick in inflation and limited wage increases, household consumption is now being supported by more dynamic job creation. Furthermore, with an improved demand outlook and favourable credit conditions, companies are expected to increase capex. External trade could nonetheless weigh somewhat on growth: although exports are benefitting from the global recovery, the depreciation of the euro has been stemmed and imports should increase slightly more rapidly. Lastly, with overall modest efforts to rebalance public finances, growth should reach 1.8% in 2017 and 2% in 2018.
As the economic recovery is more robust, the ECB is now in a stronger position to begin a very progressive shift in its policy. However the ECB will be careful to avoid a sharp increase in long term interest rates. The economy is effectively still a long way from reaching full employment, with low core inflation and still modest credit growth. While the ECB has largely contributed towards kick-starting the economy, it is now up to governments to make the effort to reduce the increasing divergences between the biggest Eurozone economies, in terms of unemployment and debt levels. More specifically over the next few years, some countries will need to put their public debt on a downward trend, as required by the euro fiscal rules. Beyond the recovery, political changes are now badly needed!