BLOG — Dec 20, 2021
Top-10 economic predictions for 2022: Multiple transitions
By Brian Lawson, Elisabeth WaelbroeckRocha, John Mothersole, Ken Wattret, Rajiv Biswas, Sara Johnson, and Todd C. Lee
The global economy made the transition from recovery to expansion in 2021 amid ongoing turbulence from the COVID-19 pandemic. An uneven economic expansion generated supply/demand imbalances, leading to major supply chain disruptions and rising inflation. In 2022, businesses will navigate multiple transitions in the global economy. These include the transition from pandemic to endemic COVID-19, the shift from fiscal policy stimulus to restraint, rising interest rates and tightening credit conditions, and a bumpy energy transition from hydrocarbons to renewables. Amid these transitions, global economic growth will likely slow in 2022, as some major economies approach or reach full employment. Geopolitical conflicts will continue to pose risks to the outlook.
1. New waves of COVID will not derail the recovery as it transitions from pandemic to endemic
The resurgence of COVID in fall 2021 was initially concentrated in countries with below-average vaccination rates. The subsequent spread in new cases and the emergence of the Omicron variant signal a transition from pandemic to endemic. As COVID-19 continues to spread around the globe, the new variant will trigger government responses that will again be primarily focused on avoiding stress in the health system and encouraging vaccination. While general lockdowns will be avoided, service activities will remain constrained until effective and affordable cures become available and make further restrictions unnecessary. The economy will not be derailed in 2022, but the pace of growth will slow.
2. Supply chain challenges will continue to disrupt key industries, but upward pressures on prices will abate. Wage gains will be strong but prove temporary, with inflation sequentially diminishing starting in the second half of the year
Shipping disruptions, supply stickiness, and energy price increases will continue to exert upward pressures on prices in the first half of 2022. Logistics bottlenecks will only be resolved later in the year, as demand for goods moderates and traffic normalizes, while increases in oil production by OPEC+ countries and the US and in natural gas production by Russia alleviate pressures from energy prices. The power shortages that hampered industrial production in mainland China this past fall should be resolved in 2022, but production limits on energy-intensive industries will stay in place as the economy embarks on the road to carbon neutrality. Wages will respond temporarily to labor market pressures in the US and Europe with little-lasting effect on inflation. Year-on-year inflation rates will thus slow by the end of 2022.
3. Central banks will continue monetary tightening at varying rates, with market conditions worsening for riskier asset classes but avoiding major "taper tantrums"
Within 2021, the Federal Reserve tapered its asset purchases with the ECB, previously having marginally scaled back its extraordinary monetary measures. Several economies either already have substantially raised rates (e.g., Brazil) or look close to doing so (e.g., the UK), and overall
policy direction is moving toward a global rate-tightening phase. High inflation, progress with economic recovery, and further progress in controlling the COVID-19 pandemic—even if this proves uneven—will encourage central banks to move toward tighter monetary policy in 2022.
4. The withdrawal of pandemic-related emergency support means fiscal tightening worldwide
Fiscal tightening is happening as central banks reduce their net asset purchases. Advanced economies are still running large deficits, but as these deficits narrow, the public sector will often become a restraint on economic growth. In the US, for example, government spending as a share of GDP is significantly falling in 2022, after two years of hefty increases due to pandemic-related emergency support measures. In Europe, fiscal support is also being progressively unwound. We estimate that the aggregate budget deficit for the eurozone will fall by around EUR300 billion in 2022. Even so, the eurozone deficit will still be well in excess of 3% of GDP next year and still much higher in many of the member states with public debt-to-GDP ratios of well above 100%. Fiscal consolidation will remain a challenge for many European countries well beyond 2022.
5. The pace of the global expansion will slow, with regional divergence to continue
The rate of expansion will moderate globally as economies approach potential. However, once supply-side disruptions ease—which will happen unevenly across regions—and barring negative surprises from new COVID-19 variants, growth will temporarily pick up, with the more industrial and trade-sensitive economies or regions to benefit most. Crosswinds from various factors, including the evolution of supply disruptions and COVID-19 trends, will nonetheless complicate growth patterns in some regions.
6. US growth will slow in 2022 to a still above-trend pace despite sharply waning fiscal stimulus, keeping labor markets tightening and interest rates on the rise
Growth will slow from a significantly above-trend pace to a modestly above-trend rate, as a result of waning effects of the prior stimulus, withdrawal of monetary accommodation, the satisfaction of pent-up demand, and a transition from pandemic to endemic. The composition of growth will shift from final sales towards inventory rebuilding, and from purchases of goods to purchases of services. Core Inflation will subside towards 2% as price pressures ease with the gradual dissipation of supply-chain disruptions. However, an initial upward realignment of wages in some areas will give way to a more fundamental and persistent pressure on wages and prices as labor markets broadly continue to tighten, limiting the decline in inflation. The Federal Reserve will complete its tapering of asset purchases in the spring and soon thereafter begin raising its policy rate. President Biden's "Build Back Better" Act is likely to be enacted, but with only a modest impact on the near-term economic outlook. The Omicron strain of the coronavirus presents downside risks to prospective growth.
7. Mainland China will avert a housing market crash and a financial crisis but will grow below potential
The government will be able to prevent a housing market crash by fine-tuning its tightening policies regarding the real estate market to stabilize housing demand. Chinese property developers' liquidity crunch will unlikely trigger a financial crisis, due to mainland China's domestically oriented financial intermediation, capital control, and state command of the banking sector. However, the economy will grow below its pre-pandemic 6% potential growth rate, owing to the government's firm stance on the zero-COVID policy, a continuation of the property sector deleveraging drive, and increasingly intrusive interference in the private sector.
8. A widespread emerging market debt crisis remains a low probability
Emerging market borrowing costs will rise but from historically low levels. With few exceptions, this will not unsettle markets. Many countries have extended their debt profiles and covered near-term repayment needs through liability management programs, reducing the risk of liquidity-driven defaults, while using favorable market conditions to prop up their reserves and benefiting from the recent IMF allocation of additional special drawing rights (SDRs). Commodity and energy-oriented emerging market countries will enjoy expanded export and fiscal earnings, given higher global natural resource price levels. Although some countries face ongoing elevated debt sustainability risks, notably Turkey, Tunisia, Argentina, Lebanon, Ethiopia, and Zambia, others enjoy greater resilience, making a widespread global emerging-market crisis—like in 1998—unlikely. Pockets of risk will start emerging in Latin America, where political changes and growing policy uncertainty will aggravate volatility.
9. Momentum behind ESG issuance will continue to grow, but policy support to accelerate the energy transition will be mixed
Given the greater political and public focus on climate change, we expect more investment managers to develop ESG-focused investment funds and to increase their scrutiny of the environmental nature of their holdings. More emphasis on ESG disclosure, both by investing entities and issuers, will add to existing momentum at sovereign and supranational levels. A further positive indicator has been an apparent recent increase in Greenium—the cost savings from using a green bond format—encouraging more borrowers to accept the upfront and ongoing cost of establishing and maintaining ESG frameworks. We expect some policy movement, however, implementation will face hurdles, so the policy changes will not have much material effects on the economy in 2022.
10. Geopolitical tensions will continue to escalate
As geopolitical tensions continue to escalate, this increases the risk that these uncertainties could create episodes of volatility in regional financial markets and currencies. The downside risk of a more significant confrontation or crisis that temporarily disrupts shipping and commercial aviation also increased, as has the risk of economic response measures. These tensions will translate into stepped-up military expenditures among the major powers in both regions.