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The Duality of the Economic Outlook in 2019

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WASHINGTON - February 11, 2019

After the synchronous global economic income in 2017, there was an asynchronous growth in 2018, when most countries, with the exception of the United States, began to experience a slowdown. Concerns about the US’s inflation, the policy trajectory of the Federal Reserve, ongoing trade wars, Italian fiscal and debt problems, a slowdown in China, and the fragility of emerging markets all led to a sharp decline in global stock markets by the end of the year.

In early 2019, the good news is that the threat of a full-scale global recession is low. The bad news is that humanity is entering a year of synchronous global slowdown; economic growth will decline to (and in some cases even lower) potential in most world regions.

Yes, of course, the year began with a rally in the risky assets market (the US and global securities), which replaced the bloodbath of the last quarter of 2018, when many markets were gripped by anxiety because of the Fed's interest rate hikes and because of growth rates in China and the US. But then the Fed's policy has changed, once again becoming softer; the US maintained a steady GDP growth rate, and the easing of macroeconomic policy in China promises to partially constrain the slowdown in the country economy.

How long this relatively positive situation will last will depend on many factors.

The Fed is the first thing to pay attention to:

The markets are currently reassessing the assets in accordance with the announcement of the Fed's pause on the year in monetary decisions, but the labor market in the United States has a high demand. If wage growth overclocks and leads to at least a moderate increase in inflation above the 2 percent level, then fears of two more rate hikes this year will reemerge, which may come as a shock to markets and lead to tighter financing conditions. This, in turn, will revive concern about the growth prospects of the American economy.

Second, as China's growth slowdown continues the government's current set of moderate monetary, credit and fiscal incentives may not be adequate, given the lack of confidence in the private sector and the high levels of overcapacity and debt.

If concerns about the Chinese slowdown resume, it will have a very negative impact on the markets. On the other hand, the stabilization of growth in China will inevitably return confidence to the markets.

The Duality of the Economic Outlook in 2019

A related factor is foreign trade.

The escalation of the Sino-American conflict could slow the growth of the world economy, while the extension of the current truce through the signing of a trade agreement would give markets confidence, even if the geopolitical and technological rivalry between the two countries increased over time.

Fourth, the growth rate of the Eurozone economy is slowing, and it remains to be seen whether this will lead to a decline in potential growth or something worse.

The outcome will depend on variables at both the national level, such as political developments in France, Italy and Germany and at the broader regional and global levels.

It's obvious that the “hard” Brexit will negatively affect the confidence of business and investors in the UK and the European Union. If President Trump will start a new trade war with the European automobile industry, this would seriously undermine growth in the entire EU, not just Germany. Finally, many will depend on the results of the eurosceptic parties in the May elections to the European Parliament. This, in turn, will increase uncertainty over the follower of European Central Bank President Mario Draghi and the future of monetary policy in the Eurozone.

Fifth, domestic political dysfunction in America could increase ambiguity at the global level.

The recent Federal agencies shutdown suggests that any upcoming budget negotiations and debt upper limit could turn into a party war of depletion. The expected release of Special Counsel Robert Mueller’s report may or may not lead to impeachment proceedings against Trump. And the fiscal stimulus created by the Republicans due to tax cuts will turn into a fiscal drag by the end of the year, which may weaken the growth rate of the economy.

Sixth, the value of assets in the US and other countries' stock markets is still overstated, even despite the recent correction.

With rising wage costs, earnings and profit margins in the US may decline in the coming months, which will be an unpleasant surprise. Given that high-indebted companies will face a likely increase in the cost of short-term and long-term loans, and the share price of many technology companies needs further adjustment, the threat of a new episode of ridding investors of risky assets and a new market correction cannot be ignored.

Seventh, oil prices could push down the upcoming oversupply caused by increased shale oil production in the US, a potential regime change in Venezuela (which will cause expectations of increased production over time), and OPEC countries inability to cooperate among themselves to limit production volumes.

Low oil prices are good for consumers, but they usually have a negative impact on US stocks and on the markets of oil-exporting countries. Thus, there will be increased concerns about possible corporate defaults in the energy sector and related industries (as was in early 2016).

Finally, the prospects for many developing countries will depend on the global uncertainties listed above.

Among the main risks are the slowdown in the US or China, the increase in inflation in the US and the following tightening of the Fed's policy, trade wars, the strengthening of the dollar, the fall in oil and commodity prices.

Although fog has gathered around the world economy, there is a bright spot. These phenomenon has forced the largest central banks to become softer, starting with the Fed and the People's Bank of China, followed quickly by the European Central Bank, the Bank of England, the Bank of Japan and others. However, the fact that most central banks have taken a very soft stance means that they have less room for additional monetary easing. And even if most regions of the world don't have fiscal policy restrictions, fiscal incentives are usually introduced only after the economic slowdown has already begun, usually with a long time lag.

There are probably enough positive factors that make this year relatively satisfactory (although it may not be very outstanding) for the world economy. But if some of the negative scenarios outlined above materialize, then a synchronous slowdown in growth in 2019 could lead to a halt in global economic growth and a sharp market decline in 2020.

Author: USA Really