Global Macroeconomic Outlook

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Global Economy

Vaccines lift economic outlooks

U.S. Is on Track for Economic Gains

We expect the U.S. economic recovery to continue through 2021. In addition to monetary and fiscal support, progress with coronavirus vaccine access and a continued downturn in cases remain important drivers of the rebound’s sustainability. Key economic indicators are strong, including manufacturing, home prices and consumer spending. We expect these measures, along with the labor market to improve as coronavirus cases decline and business conditions normalize.

Recovery Is Stalled in Europe

A surge in virus cases and the emergence of new COVID-19 strains prompted winter lockdowns in several European countries and the U.K., stifling growth in the regions. Manufacturing remains strong, but other economic indicators are struggling. Vaccine distributions and a gradual slowdown in rates of infection suggest growth should resume in spring and strengthen during summer.

Growth in China Remains Robust

Although the pace of China’s expansion has moderated, data show a robust recovery is underway, with gross domestic product (GDP) projected to grow 8% to 9% in 2021. China’s current account continues to improve despite recent currency appreciation, in part due to strong sales of personal protective equipment, as well as reduced overseas travel. Fiscal policy should also remain accommodative in 2021, with a deficit of -3.2% of GDP forecast compared to -3.6% in 2020.

Inflation

Inflation trends remain uneven

U.S. Inflationary Pressures Are Building

Current inflation continues to edge higher but remains well below the Federal Reserve’s (Fed’s) desired level. Nevertheless, we believe improving economic growth, rising commodity prices, soaring federal debt, a weaker U.S. dollar and onshoring trends among U.S. businesses eventually will drive inflation higher. Market-based inflation expectations recently surpassed historical averages, suggesting inflationary pressures are building.

Slow Growth Is Keeping Inflation Muted in Europe

Despite another round of coronavirus lockdowns, annualized inflation in Europe and the U.K. has stabilized near 1%. This represents a notable change for Europe, which wrestled with persistent deflation during the second half of 2020. However, we expect slow growth and the lingering effects of pandemic-related shutdowns to keep inflation well below central bank targets through the next several months.

Inflation Is Mixed in EM Countries

Inflation in emerging markets (EM) is quite dispersed despite the overall rising trend. Several countries (i.e., Malaysia, India, China, Colombia, South Africa) are seeing declining momentum in inflation since reaching pre-COVID levels and expect inflation to remain below central bank targets. Average inflation across all EM countries is still below historical levels and the peaks of recent years. Overall, there is still room for some local rates to do well despite the fact many countries have ended or are close to ending their easing cycles.

Monetary Policy

Central banks provide key support

Fed Remains Accommodative

The Fed will continue to provide important support to the U.S. economy via its bond-buying program and easy monetary policy. Although we believe unemployment will continue to slowly recover, we expect it to remain uncomfortably high for the Fed. This dynamic, coupled with the Fed’s desire to raise inflation expectations, should ensure monetary policy remains accommodative well into 2022. Additionally, as long as rising interest rates remain a byproduct of improving economic conditions, we don’t expect the Fed to intervene.

Policy Stays Unchanged in Europe, U.K.

European Central Bank (ECB) officials remain in “wait and see” mode, calculating that downside risks should moderate due to widespread vaccine distribution campaigns and improving growth outlooks. Similarly, the Bank of England is keeping its stimulus plans intact, but policymakers signaled they may cut rates further (into negative territory) if vaccine rollouts fail to improve the economic outlook. We expect central banks to use every policy tactic available to support their countries’ economies.

China Maintains Stimulus

Despite China’s relatively robust economic recovery, People’s Bank of China officials are unlikely to unwind the monetary stimulus launched in early 2020, including two interest rate cuts. Risks to China’s growth, including onshoring trends, muted global growth and weak domestic demand, should keep corporate and household interest rates unchanged in the near term.

Interest Rates

Rates trending higher

U.S. Rates Are Rising

We believe progress on vaccine distributions combined with aggressive fiscal and monetary support will continue to push Treasury yields higher and steepen the yield curve. Expectations for higher inflation also should push longer-maturity rates higher. We expect the 10-year Treasury yield to settle at approximately 1.75% over the next several months, while Fed policy should keep shorter-maturity yields anchored.

European Yields Are Higher but Still Negative

The positive economic effects stemming from the global distribution of COVID-19 vaccines are driving yields modestly higher. Most government bond yields in Europe are on the upswing but remain in negative territory. U.K. rates are notably higher and positive, while rates in Japan are hovering above the central bank’s 0% target. We expect rates in developed markets to remain relatively stable through 2021.

Select EM Rates Offer Shelter

Despite the sharp increase in bond yields globally, some local EM rates offer relative shelter. In our view, countries with low yields remain the most vulnerable to rising U.S. Treasury yields. Accordingly, we prefer countries where real rates (rates adjusted for inflation) are high or expected to increase. Our largest position is in South Africa, where budget discussions showed stronger-than-expected commitment to fiscal consolidation. We also favor China, which forms part of our structural replacement for U.S. Treasuries. China’s government bonds offer additional yield but are closely correlated with yield movements in the U.S.

Q2 2021 Investment Outlook Resources

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