Latest International economic and market outlook.
As has been the case for some time, the US economy is performing well, with growth accelerating to an annualised pace of 4.1% in Q2. But there are few signs that inflationary pressure is feeding through to the labour market. While nominal wages have risen, they have failed to do more than simply keep pace with consumer price inflation, meaning real wages are essentially unchanged over the past year. The picture is consistent with a large reserve of underemployment holding down labour costs, suggesting that the economy has still not generated enough jobs for a wage-price spiral to take off. Another indicator that should give the Fed pause for thought is a flattening yield curve, traditionally a harbinger of economic slowdown. Indeed, the spread between 2- and 10-year Treasury yields is now at its lowest since 2007. Thus, we continue to expect only gradual, data-dependent rate rises.
The EU and US have declared a ceasefire in their trade war, agreeing to work together on eliminating transatlantic trade barriers for many industrial goods and on reforming the World Trade Organisation. This puts further tariffs – including Mr Trump’s threatened 20% levy on auto imports – on hold while talks proceed. Existing US tariffs on steel and aluminium will remain in place, but the two sides said they had agreed to work together on finding a resolution to the metals tariffs as well as retaliatory EU duties on products such as Harley-Davidson motorcycles and bourbon. Mr Trump has previously announced that the trade war against China would be put “on hold” amid promises by Beijing to buy more US goods, only to reverse that agreement within days after he faced criticism at home that he was going soft on China. Thus, the agreement with the EU is fragile and remains vulnerable to the whims of President Trump, but it is clearly a positive step. Meanwhile, economic momentum in Europe remains solid, with the economic surprise index having now rebounded significantly from its recent doldrums.
Leading indicators signal that Japanese economic activity will remain relatively subdued, largely reflecting mounting global economic uncertainties. Indeed, Japanese manufacturing activity slowed to an 11-month low in July. Meanwhile, the Tankan survey for manufacturers showed a less positive assessment of the country’s economic outlook as trade barriers increase globally and geopolitical risks threaten to strengthen the yen. On the upside, the 2020 Tokyo Olympics is boosting capital expenditure, providing stimulus to the economy, while the new trade deal with the European Union should also provide a boost.
China’s economy grew at its slowest pace since 2016 in the second quarter, and the deceleration is expected to continue for the rest of the year. That appears to be prompting policymakers to pivot away from a previous emphasis on restraining debt, instead favouring a shift towards stimulus. Indeed, Beijing has recently announced a mix of tax cuts and infrastructure spending as it ramps up efforts to stimulate demand. It has also injected $74bn into the banking system through its Medium-term Lending Facility, the biggest ever single-day cash injection using that tool. These measures provide mounting evidence that policymakers are concerned about how the trade war with the US will exacerbate a domestic slowdown and follow earlier actions to loosen monetary policy. The central bank has already cut the required reserve ratio for some banks three times this year in a bid to boost the money supply. Despite this shift towards stimulating the economy, policymakers seem to grasp that they must keep control over credit growth, which expanded at a record low pace for a fourth consecutive month in June.
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