We continue to expect a weak recovery – a view with which the IMF concurs. ‘The good news is that the forces pulling the economy down are decreasing in intensity,’ commented the IMF’s chief economist in the latest revision to its World Economic Outlook. ‘The bad news is that the forces pulling the economy up are still weak. The balance is slowly shifting, and this leads us to predict that, while the world economy is still in recession, the recovery is coming. But it is likely to be a weak recovery.’ That is pretty much in line with our own macro-economic forecast. The IMF expects world output to grow by 2.5% in 2010, led by emerging economies, while developed economies grow by only 0.6%
A fall-off in risk appetite has benefited defensive currencies. The recent correction of commodity prices and move away from riskier assets was reflected in currency markets. The winners were defensive currencies, such as the Swiss franc, the US dollar and, for this cycle, the yen, against which the Australian dollar gave back 7% in a single week.
Quantitative easing (QE) remains a major factor. By suppressing nominal and real, long-term and short-term interest rates, countries that are using QE are also depressing their currencies. A weaker currency is, of course, also supportive of the economy, so authorities are unlikely to take measures to support the currency until QE has stopped. The most overt version is the policy direct intervention to sell down the franc by the Swiss National Bank, but the European Central Bank's expansion of its balance sheet through a huge increase in its lending against securities to banks is also a form of QE. By contrast, the US and the UK have recently signalled that they will move away from QE, amid rising expectations for growth and inflation.
Headwinds will persist for developed Western economies... Financing problems are also likely to weigh on countries seeking to attract foreign investors to fund record government debt issuance. We would highlight the UK, where government debt is forecast to rise from 43% of GDP in 2007 to 90% by 2014. This increasingly contrasts with the position of Asian and emerging economies whose currencies are supported by trade surpluses and lower levels of government debt.
...so central banks should be in no rush to raise rates.
While economic recovery is now ongoing, our caution over the headwinds to growth means that we do not forecast any interest rate increases for the leading developed economies until 2010 - and not until the year after for Japan and the eurozone.
