Global Focus: Transition – The rewards are worth the risks

Standard Chartered has today published its quarterly Global Focus. The report highlights that a number of the world’s economies are in a phase of much-needed transition as they move to achieve more balanced and sustainable growth. Transition will bring elevated risks and volatility, as well as higher growth rates. It takes various forms in different parts of the world, and is both necessary and desirable to achieve more balanced and sustainable growth. Greater uncertainty now is a cost worth paying.

All eyes will be on the US and China, the world’s largest economies. In the US, the Federal Reserve is moving to normalise monetary policy. This will inevitably mean tighter monetary conditions, not just in the US but globally, given the multiplier effect that US quantitative easing had on global liquidity.

China is also experiencing a significant transition. The world’s second-largest economy is determined to rebalance and rely more on domestic consumption and services to drive economic activity, rather than remain heavily dependent on investment. This will inevitably mean that credit conditions will have to tighten, raising the risks of rising non-performing loans and possible defaults on trust products and bonds. However, China should be able to cope with such risks, and they are highly unlikely to lead to systemic risks or to significantly impact China’s economy.

The end of quantitative easing (QE) this year and the expected rise in interest rates in 2015 should tighten global liquidity. We have estimated in the past that for every USD 10bn of QE by the Fed, global liquidity rose by approximately USD 24.4bn.

Although markets have been fully prepared for the end of QE, volatility could increase further. Perhaps the main advantage of QE was that it anchored long-term interest rates. With the Fed engaging in QE, expectations of interest-rate hikes were pushed back well into the future. In the absence of QE, forward guidance cannot provide the same commitment to keeping policy rates lower, especially if inflation begins to rise slowly.

Our theme of transition suggests that although we expect higher growth, risks should remain elevated. But it is also important to highlight the significant adjustments several emerging economies have made since last year. Although some vulnerability will remain, emerging-market economies should be in a better position to cope this year than in 2013.

The euro area, India and the Middle East are undergoing significant transitions. In Europe, a pick-up in growth should not distract from the need for more pro-growth policies, particularly in the north. In India, after the investment hiatus of recent years, hopes rest on an investment pick-up following the election. The ongoing political transition in the Middle East is widening the gap between the resource-rich countries of the Gulf Co-operation Council (GCC) and the rest.

GCC economies are booming, particularly Saudi Arabia, the UAE and Qatar, and not because of the oil and gas sectors. The challenge now is not so much to generate growth, but rather to manage the boom and avoid overheating. The boom in the GCC is widening the wealth gap between the ‘haves’ in the GCC and the ‘have-nots’ in the rest of the Middle East. It is therefore no surprise to see significant aid flows (which could become investment flows) from the resource-rich GCC to countries like Jordan and Egypt. Such flows have helped these economies, and they are likely to continue.

In this year of transition, developments in the US and in China should have significant global implications. Emerging markets are now in a better position than ever to cope with the changing global environment. And China has the resources and the know-how to ensure that its economy achieves a soft landing.

Marios Maratheftis, Head of Macro Research at Standard Chartered, said: “The transition phases taking place globally have several implications. First, we expect global growth to be higher this year as the US and Europe pick up while Asia stays strong. Second, monetary conditions will tighten somewhat, which could lead to greater volatility. Third, while there is worry about the impact of the US scaling back its quantitative easing programme on emerging markets, we must remember that these markets are now in a better position than they have ever been to cope with the changing global environment. Finally, given the delicate balances during this transition, policy makers will play a vital role, which means the risk of a policy mistake will be the key risk to watch.”

For further information please contact:

Shaun Gamble
Senior Media Relations Manager
Tel: +44 (0)20 7885 5934
Email: Shaun.Gamble@sc.com