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March 12, 2020
An Uncertain Start to 2020
2019 was a year fraught with several macroeconomic and geopolitical challenges, including the US-China trade war, uncertainty surrounding Brexit, and unrest in the Middle East, among others, which hampered global economic activity – especially manufacturing and trade. However, signs that the weakness in global economic growth was bottoming out started emerging towards the end of the year, supported by prospects of a truce between the US and China, ratification of the Brexit bill by the UK Parliament and tentative stabilization in manufacturing activity, thereby raising expectations of a rebound this year. These expectations were not unfounded as 2020 began on
a stronger footing, with favourable news on the US-China trade war and Brexit, offering some respite to investors and consumers alike.
However, the Coronavirus outbreak in China around second week of January 2020 and its rapid spread across several countries has dampened outlook for this year. Looking ahead, we believe global economy could witness slower growth compared to 2019, as risks appear to be skewed towards the downside. In this report, we highlight our views on how the global economic landscape would pan out in the year ahead.
Coronavirus Poses Downside Risk to Global Growth, despite Easing Geopolitical and Macroeconomic Tensions
Global economic growth remained subdued in 2019, largely due to the persistent geopolitical and macroeconomic concerns, notably the uncertainty related to the US-China trade war and the UK’s exit from the European Union. With regards to these issues, 2020 began on a positive note, with the signing of a partial trade deal between the US and China and the UK’s exit from the EU on January 31, 2020.
While these developments augur well for the global economy, the outbreak of Coronavirus in China is posing significant downside risk to global growth outlook this year. Taking into account the potential impact of the Coronavirus outbreak, the International Monetary Fund has indicated that global growth in 2020 would be slower than last year’s 2.9%1 growth, and much slower than its January 2020 estimate of 3.3% growth. The Organisation for Economic Cooperation and Development (OECD) has lowered its 2020 global growth forecast to 2.4%2, down from its November 2019 growth forecast of 2.9%, citing the potential impact of the Coronavirus outbreak on financial markets, the travel sector and global supply chains, especially those strongly connected to China. The OECD has also warned that in case of a longer than expected and more severe Coronavirus outbreak in other parts of the world, the global growth could drop to 1.5%2 in 2020.
Global Economic Growth is Expected to Decline in 2020, but a rebound is expected in 2021
Agencies like the IMF and the World Bank have come together to help address the human and economic challenges related to the rapidly spreading virus, including through emergency funding. Meanwhile, the Chinese Centers for Disease Control and Prevention (CCDC), has indicated that around 80%3 of coronavirus cases are mild and the outbreak is less deadly than the Severe Acute Respiratory Syndrome (SARS) outbreak of 2002-03.
Also, the World Health Organization (WHO) has indicated that although there are many unknowns about Coronavirus, it can be contained. In our opinion, most of the impact of this pandemic will be felt on the first half of the year, while the latter half would witness a return to normality, provided the effects of the virus outbreak fade as expected. The global growth outlook is highly dependent on measures taken by governments to contain and mitigate the economic impact of the outbreak.
We believe that the accommodative monetary policy around the world and the recent interest rate cut by the US Federal Reserve is likely to cushion the impact of the outbreak on the global economy to some extent. Furthermore, the partial resolution of the trade dispute between the US and China and the UK’s exit from the EU would diminish political uncertainty and will boost business sentiment and result in global trade and investments to recover gradually from last year’s weakness.
Phase-1 US-China Trade Deal is the First Step Towards De-escalating the Trade War
The protracted US-China trade war continued to weigh on global macroeconomic dynamics throughout 2019, as talks between the world’s
two largest economies to resolve their concerns dragged along for the best part of the year. However, towards the end of last year, expectations of an agreement on a partial deal lifted sentiment and the US President, Donald Trump and the Chinese Vice-Premier, Liu He, signed Phase-1 of the trade deal earlier this year, thereby at least temporarily ending the prolonged uncertainty across the globe.
The first stage of the trade deal majorly comprises of provisions to address intellectual property theft and forced technology transfers by China and an increase in the latter’s purchase of US products by at least $200 billion4 over the next two years. However, barring a tariffcut by the US on $120 billion4 worth of Chinese goods, tariffs on most of US and Chinese goods will remain in place in the near future.
In our opinion, the partial deal has left many issues still unresolved, including a failure to eliminate the high tariffs, hard-to-attain purchase targets for China and failure to address concerns related to Chinese subsidies to state-owned firms. However, despite its shortcomings, we believe that the deal is a major breakthrough and will provide a way forward to resolving the trade impasse that began in July 2018.
While we reckon that the signing of the Phase-1 trade deal by the US is a vital step towards resolving its trade conflict with China, the enforcement of these commitments through bilateral consultations would be equally important to mitigate any chance of further escalation in the trade dispute. The spread of Coronavirus and a halt in the activity in China could hamper its ability to stick to the terms of the deal, however, US officials have emphasized that despite the outbreak, China is expected to meet the terms of the Phase 1 trade deal.
We believe that the spread of Coronavirus could impede commitments made by China in the deal with the US. Meanwhile, we expect Phase2 of the trade deal to address several key points of contention and eliminate more of the tariffs. According to the US, removal of further tariffs will be part of the Phase-2 deal, on which negotiations are expected to commence before the US Presidential elections in November 2020.
Apart from offering some clarity regarding the trade relationship between the US and China, the signing of the deal also presents an opportunity to the US President, Donald Trump, to claim a political victory, as he heads into the 2020 US Presidential elections.
2020 US Presidential Elections: Will Donald Trump be Re-elected?
The US Presidential elections in November later this year will be a notable event for 2020, with the incumbent, Donald Trump, attempting to be re-elected as the President after a tumultuous four years at the helm. The election campaigning is also expected to garner significant attention in the run-up to the election day in November. The impeachment trial of Donald Trump, following allegations that the President abused his powers and obstructed the Congress for personal benefits, added a level of uncertainty to the Presidential elections.
However, Trump’s acquittal by the Senate only accentuated his chances of re-election, with around 47% approval rating, compared to 45% before the impeachment trial. While the current approval rating is far from a dominant advantage, we expect it to continue to increase just enough to make him a favourite for another term at the White House.
Moreover, the health of the US economy, including steady economic expansion and the multi-decade low unemployment rate, could be seen as a testimony to Donald Trump’s economic policies, which could strengthen his bid for being re-elected. Historically, no incumbent US President has lost a re-election bid with the economy performing well, while at the same time, no US President has succeeded in a re-election bid with an approval rating below 50%. In our opinion, investors from around the world will keep a close eye on the US
Presidential elections to ascertain the potential policy stance likely to be adopted by the world’s largest economy over the coming years.
Brexit: Post-Brexit Trade Ties between the UK and the EU
After more than three years of uncertainty that clouded the region’s economic outlook, Britain finally exited the EU on January 31st, 2020, following the approval of the British Prime Minister, Boris Johnson’s Brexit bill in the UK and the European Parliament. The departure of the UK from the EU only marked the start of the first stage of Brexit as now, the UK and the EU have started with the negotiations regarding their future relationship. The talks around post-Brexit ties between the UK and the bloc would be keenly followed by markets and investors. Britain and the EU will have to agree on several aspects related to trade in goods and services, fishing, aviation, medicines and security, which according to the experts is too unrealistic to complete in less than a year. British officials have suggested they need not seal the whole deal in one go and can move forward by agreeing to deals one sector at a time.
Additionally, Boris Johnson has emphasized that the UK would not extend the transition period deadline beyond December 31, 2020. If the UK and the EU fail to strike a deal, and the UK refuses to extend the transition period deadline, Britain would most likely crash out of the EU without a deal in hand, severely impacting its economy. The trade talks between UK and EU official have started in the first week of March, and both sides seem to both sides have significant differences about their future relationship. While negotiations are likely to be complicated, we are hopeful that a deal or a partial deal would be agreed upon by the end of this year. In our opinion, an orderly Brexit, together with an agreement on their future relationship, would help in boosting sentiments of UK and EU firms, which would in turn support the regional economy.
Climate Change is Amongst the Top Risks for Global Economy
The diminishing of risks related to Brexit and the US-China trade war has been a positive development for the global economy. However, climate change continues to be a major headwind to global economic growth, given its potential to have wide ranging economic impact.
In a recent report, the IMF warned that the global economy has increasingly become vulnerable to the impact of climate change, which is making the economic outlook uncertain. Meanwhile, McKinsey has indicated that economic activity worth trillions of dollars is at risk due to the effects of climate change. According to the World Economic Forum (WEF), the economic impact of climate-related disasters in 2018 alone cost the US about $160 billion6
, and the numbers are only expected to rise as natural hazards become more complex and unpredictable. Against this backdrop, we believe that it is imperative for the governments and global institutions to step up their efforts to reduce carbon emissions, build green infrastructure and promote sustainable and eco-friendly development, in an effort to reduce economic losses resulting from climate change.
In this regard, many countries have set climate targets to mitigate climate risks, including setting targets to reach net zero emissions and promoting transition to renewable sources of energy. However, the level of efforts required to curb climate change have continued to fall short repeatedly despite measures being taken by both governments and companies. Against this backdrop, experts believe that global co-operation, in terms of government policy as well as financial regulations is necessary to tackle the effects of climate change.
According to the Global Commission on Adaptation, investing around $1.8 trillion6 globally to support efforts to build resilience towards climate risk
could unlock benefits worth $7.1 trillion in the coming 10 years, in the form of new opportunities to create new products and business ideas. In our view, mass adoption of eco-friendly practices and sustainable development, including reduction of global dependence on crude oil and combustible fuels, needs to be promoted as the impact of climate change is becoming more and more severe with each passing year.
Oil Market: Coronavirus and the Collapsed OPEC+ Deal
Oil prices remained volatile in 2019, largely due to geopolitical concerns in the Middle East, including US sanctions on Iran and Venezuela that crippled their crude oil exports, the attack on Saudi Aramco’s facilities, along with uncertainty related to the US-China trade dispute.
Towards the end of last of last year, oil prices recovered to some extent, as expectations of a partial trade deal being signed between the US and China gathered steam. However, fears of economic impact of the rapidly spreading Coronavirus and OPEC’s failure to strike a deal with its allies regarding production cuts led to a collapse in crude oil prices.
Oil Prices Witnessed Recovery Towards the End of Last Year but dwindled Starting 2020 over Coronavirus concerns ($/barrel)
The Organization of the Petroleum Exporting Countries (OPEC) downgraded its global oil demand growth forecast for 2020, owing to the impact of Coronavirus outbreak and recommended additional oil output cuts by 1.5 million7 barrels per day (bpd) to the OPEC and its allies until Q2 2020, to support oil prices amid the Coronavirus outbreak. However, the collapse of OPEC+’s oil output cut agreement means oil producers will increase their production starting April 2020 to target market share instead of a balanced global oil market. In view of these events, the US Energy Information Administration expects the oil demand rise by less than 0.4 million8 bpd this year, compared to its February 2020 estimates of 1 million bpd.
Global Oil Supply Expected to be Very High Compared Consumption in the First Half of 2020 (million bpd)
The oil prices have plunged almost 44% since the start of the year and near-term outlook for the oil market is clouded by Coronavirus outbreak and the collapse of OPEC+ output cut deal. However, we believe that if the virus-spread is contained in the first half of the year, the oil demand should recover and support oil prices. At this stage, the outlook for oil depends on the progress made to combat the Coronavirus outbreak and the efforts taken by governments to support global economic growth.
De-Dollarization: An Attempt to Reduce the Dominance of US
The onset of geopolitical conflicts worldwide in the last few years point towards the coercive measures or economic sanctions used by the US, thanks to the Dollar hegemony, against nations that it deems threatening to its national interests. The wide-ranging effects of such sanctions have prompted many countries to seriously consider reducing their dependence on the US dollar, or De-Dollarization. It is noteworthy that the process of De-Dollarization has gained momentum in the aftermath of the US-China trade war and the dispute
between the US and Iran, causing China to be at the forefront, alongside the EU and Russia, in pushing for De-Dollarization.
In 2019, Russia and China agreed to begin conducting trade in their national currencies, while the EU created a system to circumvent the use of Dollar in order to trade with Iran. According to Russia, the De-Dollarization process has made sufficient progress within the framework of the Eurasian Economic Union, with 72%9 of settlements being done in national currencies. Further, China’s purchase of gold since the beginning of its trade war with the US could be the result of its attempt at De-Dollarization, as gold offers an alternative to
the US Dollar.
However, even as the process to reduce dependence on the US Dollar has begun, it’s a long shot to displace its clear leadership status. According to the IMF, the share of US Dollar in global currency reserves remains steady at over 61%10, far above that of the Euro and Yen. As of now, the US Dollar continues to enjoy the confidence of markets, governments, and central banks and is vital to the global exchange of trade and portfolio flows.
AI could Witness Major Developments This Year
Apart from the broader macroeconomic expectations that we have discussed above, a key trend that we believe would have a major impact this year is the increasing integration of Artificial Intelligence (AI) technologies in business practices. AI possess the potential to bring about unprecedented changes in the way the world functions and therefore, can make a significant impact on the global economy.
According to PwC, AI could add over 14% or around $15.7 trillion11 to the global economy in 2030, making it a vital commercial opportunity to be tapped into in the current fast changing economic environment. Although AI has managed to prove its utility in limited areas as of now, factors such as perpetual advancements in data storage, computer processing power & connectivity, and the contribution of AI to economy, are likely to propel the adoption of AI going forward.
An October 2019 survey12 by IBM highlighted that around 3 in 4 businesses surveyed are exploring AI, with international companies planning to invest heavily in all aspects of AI over the coming 12 months. In our opinion, the expected growing adoption of AI powered technologies in the near term would also call for the implementation of rules to ensure the usage of AI in a responsible manner.
At the same time, the risks related to the unethical usage of AI could pose threats to businesses and economies around the world, making it mandatory to step up regulations surrounding the usage of AI. In this regard, the EU is contemplating new legally binding requirements for AI developers to ensure that AI technologies are developed and used in an ethical way.
Meanwhile, the US has released a set of principles for federal agencies to adhere to, while drafting AI regulations to regulate the private sector’s use of AI technology. It is imperative that several other organizations/agencies and countries across the world would also follow suit and create their AI strategies and regulations to govern the usage of AI. Against this backdrop, we believe that 2020 could prove to be a defining year during which some important developments related to AI could be witnessed.
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