Chinese economic growth has re-accelerated since the end of January, mainly driven by services and household consumption. The recovery in manufacturing activity is more moderate. In the real estate sector, the crisis is lessening. These improvements will continue in the short term. However, constraints on economic growth remain significant; they principally stem from the weakening global demand and geopolitical tensions as well as from financial difficulties for property developers, local governments and their financing vehicles. Beyond this, the question arises of a lasting loss of confidence in the Chinese private sector.
In 2022, economic growth slowed but was still buoyant. The outlook for 2023/2024 is favourable even though real GDP growth should slow by around 1 percentage point. In the short term, the main risks are linked to rising prices, which could force the Central Bank to tighten its monetary policy further. The occurrence of the El Niño phenomenon is also a potentially negative factor. Despite the slowdown in growth and the rise in interest rates (48% of loans are at a variable rate), banks and companies remain much stronger than at the end of 2019. In its latest stress tests, the Central Bank reaffirmed that, despite the deteriorating economic and financial environment, public banks would not need any capital injection to meet capital requirements.
Over the past twelve months, the economic situation in Pakistan has deteriorated dramatically. The government has been facing a balance-of-payments crisis and, as a result, has had to take extensive measures to try to contain the drop in its foreign exchange reserves and fulfil the IMF’s requirements in order to receive the funds needed to avoid defaulting on its external debt.Restrictions on imports, the sharp rise in policy rates, the depreciation of the rupee and the dramatic cut in budget spending have significantly hindered economic growth and triggered a very sharp rise in inflationary pressures. Since February 2023, the external position has improved very slightly. However, it is still very fragile and the default risk remains very high.
Korean economic growth lagged behind in Q4 2022, and the slowdown is expected to continue in 2023. Exports will suffer from slowing global demand, while domestic demand will be penalised by rising interest rates and persistent inflation. The risks of financial instability remain limited, but have increased in recent months. Household debt is high at almost 110% of GDP, and households are very exposed to rising interest rates. In fact, 76% of loans to households are being taken out at a variable rate. Potential credit risks though remain limited to the most vulnerable households.
Despite the war in Ukraine, Poland’s economic growth was relatively solid in 2022. However, it was erratic with a sharp GDP contraction in Q2 and Q4. For 2023, despite a negative carry-over effect, recession will probably be avoided due to continuous fiscal support. Inflationary pressures remain high in the short term due to wage pressures and the return of the VAT rate on energy to its initial rate. The temporary blocking of European funds since 2022 might, at first glance, raise concerns against a backdrop in which public and external accounts have worsened. However, the inflow of foreign direct investment is a notable shock absorber. In 2022, these flows more than offset the current account deficit.
The Executive's calls for monetary authorities to lower rates are fuelling debates on the appropriate inflation target, the permanence of the Central Bank’s independence and the right calibration for the policy mix. The opposition between both parties is weighing on inflation expectations due to uncertainty over the path of economic policy. To help create favourable conditions for monetary easing, the government has accelerated the presentation of its new fiscal framework. Following the downturn in activity in Q4 2022, the economy should temporarily return to growth in Q1 2023, driven by the strong performance of the agricultural sector. The deceleration - which began in the second half of 2022 - is however expected to resume its course for the remainder of the year
Economic growth should slow significantly in 2023. The relative resilience of private consumption will not be enough to offset the slowdown in external demand, particularly from the US. In addition, the investment outlook remains limited. In the medium term, the Mexican economy could benefit from the relocation of American companies, a trend recently accelerated by the disruption of value chains linked to the pandemic and trade tensions between China and the United States. To take full advantage of this, Mexico will need to restore investor confidence and meet its energy policy commitments.
Argentina’s economy is in turmoil. Since Q4 2022, it has been mired in a recession that is bound to extend at least through H1 2023. The farm sector has been plagued by misfortune: for the third consecutive year it has been hit by drought – whose intensity has been compounded by climate change – and an outbreak of avian influenza. Inflation has soared, forcing the central bank to tighten monetary policy. Despite fiscal efforts, the balance of payments and foreign reserves are coming under increasingly fierce pressures, even with IMF support. The government has rolled out a series of measures to avoid wasting foreign reserves and defaulting on its external debt with official creditors. It has also had to offer a proposal to reschedule domestic debt in the local currency.
Oil production feeds growth volatility in Saudi Arabia, as evidenced by the slowdown expected this year. Nevertheless, the non-oil economy is benefiting from the momentum of investment and household consumption against a backdrop of gradual transformation of the economy and the labour market. State intervention and a favourable exchange rate effect are keeping inflation at moderate levels. Against this favourable economic backdrop, bank lending to the private sector is very dynamic, creating some strain on bank liquidity. The budget surplus posted in 2022 is not likely to be repeated this year due to the expected downturn in oil production and prices. However, public finances are on a positive trajectory thanks to the increase in non-oil revenues.
The crisis is taking hold in Egypt, as evidenced by the deterioration in all macroeconomic indicators. Activity is slowing down against a backdrop of high inflation, caused in particular by the depreciation of the exchange rate. The balance of payments crisis has been endemic for a year, and the international support plan initiated by the IMF has not allowed any reduction in tensions regarding foreign currency liquidity. Despite the sharp rise in nominal rates on government securities, international investors remain cautious due to the very high level of inflation and expectations of currency depreciation. The external financing requirement will remain high for at least two years, with the privatisation programme only providing partial relief
The Algerian economy has enjoyed almost unprecedented favourable conditions for a decade. 2022 saw twin surpluses return thanks to soaring global hydrocarbon prices and a lower than expected fiscal support. Despite the fragile international environment, the outlook for 2023 is positive and macroeconomic risks are limited. Nevertheless, the persistently high inflation poses a risk that must be monitored. Above all, soaring public spending planned in the budget could contribute to further medium-term macroeconomic imbalances, without providing a major boost to economic activity, however.
After years of underinvestment in its power grid, South Africa is experiencing daily load shedding, the intensity of which has only increased in recent months. Economic activity is severely impacted. The restoration of electricity production capacities will be slow, which will have a significant impact on growth and the trade balance in 2023. Supply-side constraints will keep inflation high, while the unemployment rate is a concern. Under these conditions, the ruling party, the ANC, will be pushed to revise its budgetary consolidation trajectory downwards. Furthermore, the partial transfer of the debt of electricity company Eskom to the government will contribute to a sharp increase in public debt.
Evidence of falling housing prices remains patchy. After a sustained rise throughout 2021, residential housing prices in the main European countries continued to resist the tightening of credit conditions in the fourth quarter 2022, with the notable exception of Sweden and Germany. A generalisation of real estate price declines in 2023 is a significant possibility.
According to the latest indicators, the US labour market continues to progressively slow down. The pace of both job creation and wage growth remains high. The unemployment rate has fallen slightly, whilst the participation rate has increased. Hiring difficulties remain acute, according to the falling but still very high ratio of unfilled job vacancy per unemployed person. The picture painted by confidence surveys is mixed. The gradual nature of the labour market’s slowdown allows the Fed to continue its monetary policy tightening. A further – and probably final – 25bp increase in Fed Funds rates is expected in May.
GDP growth, inflation, interest rates and change
The monetary tightening by the Federal Reserve and the ECB has led to a decline of the business climate in the manufacturing sector. The services sector has been resilient thus far. This may reflect the diversity of the subsectors within services, with some being highly correlated with the manufacturing sector and others far less so. Services also tend to be less sensitive to interest rates, which implies a more limited impact of central bank rate hikes. This resilience also influences the evolution of inflation. Services have a high labour intensity and wage developments are a key driver of services inflation, far more than in manufacturing. This complicates the task of central banks in bringing inflation under control.
The recent difficulties faced by some US regional banks have reignited the debate about a potential conflict between pursuing price stability and financial stability at the same time
According to the Atlanta Fed GDPNow Estimate, US growth will remain high in Q1 2023 (annualised quarterly growth rate of 3.2%). News on the labour market front also remains good. Everything would be fine if inflation were not also continuing at a sustained pace, resulting in continuation of the Fed’s rate hikes, the effects of which recently challenged certain banking models. Prior to this, we were expecting the tightening of credit access conditions to lead the economy into recession. Further tightening would weigh even more heavily on activity and ultimately, on inflation. Does this mean to the extent that the Fed will reach its terminal rate faster? This is possible, but the outlook remains very uncertain. Our forecasts for 7 March point to Fed Funds reaching 5
China’s economic activity started to rebound in late January, driven primarily by services and household consumption. Meanwhile, the crisis in the property and construction sectors has subsided. In the manufacturing sector, the growth recovery has remained moderate, hindered by the fall in automobile production and weakening exports. Economic momentum will remain strong in the short term. However, a number of significant downside risks to growth persist.
With alarming inflation across the country, the new governor of the Bank of Japan (BoJ), Kazuo Ueda, will have a baptism of fire when he takes up his role. Even though price increases are expected to slow down during Q1 2023 thanks to government energy subsidies, core inflation has continued to rise this winter. Price dynamics are posing a major challenge and may force the BoJ into making changes to its interest rate control policy, despite bond yields falling off as a result of the recent US bank failures. The Japanese economy stagnated in Q4 2022, buoyed by foreign trade and private consumption during Q4 2022, but slowed by public and private investment. We expect growth to continue in 2023 (1.2%) at a similar pace to 2022 (1.1%), before a more sluggish growth takes hold in 2024 (0.8%)
Even though euro area inflation likely peaked last October, the disinflation process is expected to be slow, with inflation not expected to fall back to its 2% target level before 2025. The most recent macroeconomic projections from the European Central Bank (ECB) all point to this direction of travel. The second wave of inflation is significant, with the HICP excluding energy climbing by 7.9% y/y in March, while further food-price increases are expected for the months ahead. Despite this, economic activity within the Monetary Union is holding up better than expected against the double shock of inflation and interest rate hikes. While a recession is currently being ruled out for 2023, growth is still incredibly fragile
Germany is the Western European country where GDP growth was the most negative in Q4 2022 (-0.4% q/q). Furthermore, economic indicators, although improving, remained relatively downgraded weak at the beginning of 2023. A further contraction in GDP in Q1 2023 therefore remains our central scenario. However, more favourable signals (peak inflation exceededslight disinflation, reopening of China, reduced supply shortages in the automotive sector) could lead to a return to growth from Q2. This has already been reflected in household confidence, although the weakness of growth in the euro area, since Q4 2022, could limit the intensity of this recovery.
The energy crisis was less severe than initially feared during the autumn and winter. This prevented negative growth during Q4 2022 (+0.1% q/q) and provided grounds for relative optimism, as reflected in the rise in the INSEE business climate indicator from December to February. While the growth carry-over naturally led us to revise our growth forecast for 2023 upwards, growth is still low and reflects the sustained downturn in demand, particularly in household investment. In addition, while inflation is expected to decrease, it is still being buoyed by food prices, which, in turn, is adversely affecting household consumption.
In Q4 2022, GDP slightly declined on a quarterly basis. Domestic demand and the change in inventories subtracted 0.4 p.p. and 1.1 p.p., respectively from the overall growth, while net exports added almost 1.5 p.p. The Q4 GDP contraction mainly reflected the moderate weakening of the services sectors that had experienced a strong rebound in the previous six quarters. Despite its Q4 decline, services value added is 1.7% higher than in Q4 2019, explaining about half of the total recovery of the Italian economy. Overall, the 2023 outlook remains positive, with GDP expected to grow close to 1.0%.
The Spanish economy held up better than expected in 2022 (+5.5%), but a slowdown in activity is expected this year. Industrial production is declining, hindered by the energy sector and intermediate goods and services. Investment and private consumption fell significantly in Q4 2022 and will remain under pressure in 2023 from rising interest rates and high inflation. Excluding energy, the rise in consumer prices accelerated further to 8.2% in February. The reduction in the public deficit – greater than expected in 2022 – is making it easier to continue budgetary support in 2023
