The Global Economy Could Be Tougher Next Year, Many Risks Are Already Here – Bloomberg

It has been a dismal year for the global economy, but things could always get worse.

History suggests that a rapid rate increase by the Fed could trigger a recession in the US economy in 2023. Few would be surprised if the same thing happened in Europe with skyrocketing natural gas prices. The double whammy of the “Zero Corona” policy to thoroughly prevent the new coronavirus and the real estate crisis may drive China’s economy into a state close to stagnation.

All this happens at once in a situation of extreme decline. Bloomberg Economics (BE) predicts that around $5 trillion (about 700 trillion yen) could be blown away from global production. At the beginning of the year, the outlook was more positive.

The Global Recovery Is About to Slow Down — Or Wait

Source: Bloomberg Economics

The fact that such a bleak forecast is by no means unrealistic suggests that a major problem has arisen for the global economy. 22 has provided much evidence of that.

Low interest rates, overheating Chinese demand and low geopolitical friction that led to decades of fairly steady growth and stable prices are all gone, and inflation is now at its lowest in decades, and financial markets are suffering heavy losses.

There are also surprises that could prevent that from happening next year. With the labor market showing signs of strength, the Fed could make a successful soft landing. A warmer climate could also avoid a European recession. China may choose to leave the lockdown early.

Even if those expectations are delusional, investors expecting rates to peak and growth to trough can start betting on a recovery. Still, it’s hard to be optimistic after years of beating epidemics and war.

These are the biggest economic risks in the coming year.

interest rates rise

The US Federal Reserve’s benchmark interest rate is expected to reach 5% in early 2023 from zero earlier this year. The most aggressive monetary tightening in decades is already hurting the US and the global economy, and more pain is expected.

BE predicts a recession in the US in the second half of 2023 (July-December) as rising borrowing costs hurt interest rate-sensitive industries such as real estate and autos. More than 2 million people in the United States are likely to lose their jobs.

How High Will the Fed Go?

Pandemic-disrupted labor market may push US rates to 6%

Source: Federal Reserve, Bloomberg Economics

Reignited debt risk

As long as growth is higher than interest rates, public debt is cheap. The debt to gross domestic product (GDP) ratio of the Group of Seven (G7) has risen to 128% this year from 81% in 2007.

Public Debt Trajectory of G-7 Countries

Interest rate rises this year point to bigger debt burdens

Source: Bloomberg Economics

With economies slowing and interest rates rising, some major economies could face unsustainable debt trajectories without painful fiscal adjustments.

In some emerging markets, the dilemma is even more acute. Sri Lanka has failed after Lebanon and Zambia. But the problem appears to be contained, at least for now.

Emerging Market Failures: More Trickles Than Waves?

A Bloomberg Economics model suggests that EM default risks are much lower now than they were in the 1980s and 1990s

Source: Bloomberg Economics

Vulnerable housing market

Tight monetary policy means “testing times” for housing markets around the world. Countries such as Canada and New Zealand, which have the most troubled housing markets based on indicators such as the home price to income ratio, could be at the forefront.

The US is not at the top of the risk rankings, but it is not far from the risk either. BE estimates that house prices across the country would need to fall by 15% to bring mortgage payments in line with household incomes.

15% Price Drop Needed to Rebalance US Housing Market

Source: CoreLogic, US Census Bureau, Bloomberg Economics

The influence of the China problem

For China, the basic scenario is that the normalization of economic activity after zero corona will offset the pressure from the long real estate crisis, and the balance will be slightly positive growth. BE expects growth of 5.7% in 2023.

But the risks are definitely tilted to the downside. It remains unclear when and how the government will end its zero-corona policy.

China’s Empty Houses

Source: Bloomberg Economics, Office for National Statistics

European energy crisis

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