Macro forecasts: charts and commentary

US

We expect annual growth in the United States to slow further in 2023, to around 0.6 per cent, as the full effect of the aggressive monetary tightening is felt.

We also anticipate the economy will enter a shallow recession around the middle of the year, as household spending growth flatlines and both residential and business investment subtract from growth. That is likely to result in a steady increase in the unemployment rate throughout 2023.

We expect inflation to fall through the year, which should provide some support to real disposable income, as wage growth is only expected to moderate slowly over the course of the year. We think core inflation will decline as well, ending the year around 3 per cent.

Our growth and inflation outlook are predicated on the Federal Reserve tightening policy further in 2023, with the peak in rates expected to be around 5 per cent by Q2. We do not expect any subsequent cuts in the policy rate before the end of 2023.

Figure 5. US

Euro zone

The euro zone economy has remained remarkably resilient so far this year in terms of numbers, but the outlook and underlying mood have both darkened significantly as the year has progressed.

The energy price shock is likely to usher in a recession beginning in Q4 this year and lasting until around the middle of 2023.

We believe that inflation has peaked, but it will remain high for some time yet, implying that its detrimental impact on real incomes will be felt throughout 2023, hurting sentiment and holding back spending. Energy support packages will offer some relief, but governments are aware that “excessive” fiscal stimulus would compel the ECB to be even more hawkish.

Recent rate hikes – and the prospect of more to come – will gain traction over the next year, slowing demand to keep pace with restricted supply and force inflation lower. This transition is necessary, but will inflict real economic pain on households and businesses in the form of higher interest costs and increased unemployment while it happens.

Figure 6. Euro zone

UK

Growth in excess of 4 per cent in 2022 may be mathematically correct, but it is misleading, reflecting the rebound to activity following post-pandemic reopening.

The likelihood of a significant annual decline in 2023 – still being revised successively deeper – is a much better reflection of the truth for the UK economy and the mood of the nation.

The energy price shock is having a major adverse impact on real incomes for households, restricting discretionary spending. They are also being hurt by higher interest rates (especially for mortgages) and are likely to face the additional pain of rising unemployment next year.

Some fiscal common sense has been restored, but Brexit is hurting UK exports. The Bank of England remains steadfastly hawkish in the face of stubbornly high inflation, striving to restrict demand and force inflation lower. If that falls next year, as we expect, then they can pause and eventually reverse. But that is a long way off. It will be a long, tough winter.

Figure 7. UK

China

Gradual reopening may cause a COVID wave that is met with renewed lockdowns to protect the elderly, but eventually a more or less complete abandonment of ZCP will lift 2023 GDP, and provide relief across sectors, though exports will weaken due to the global slowdown.

Lockdowns in Q2-22 and around October’s Party Congress damaged 2022 growth to sub-4 per cent, providing easy y/y comps, but trend growth is slowing toward 4.0 per cent.

Now that Xi’s third term has started, some political fear and paralysis should ebb, but the focus on social control, Common Prosperity, deleveraging and de-risking, and self-sufficiency will dominate economic concerns in Xi’s third term, weakening private investment and heightening trade and investment fragmentation: FDI and portfolio flows will stay weak despite progress on convertibility and index inclusion.

Weak demand that kept core CPI under 1 per cent may reverse upon reopening, keeping PBoC from easing policy to support growth. On net, CNY and CNH will be under downward pressure as G10 central banks deliver their final hikes, and the ‘dirty float’ will weaken against its trade-weighted basket, and probably adjust to around 7.50 per dollar.

Figure 8. China

Japan

Sluggish growth and a statistically weak Q3 masks a steady reopening dynamic, which should continue to receive a boost in 2023 from tourism as Japan drops restrictions. Local services should benefit, with Services PMI staying generally above 50 most of the year, after the Omicron worries faded.

Thanks to strong fiscal support, with a supplementary budget offsetting some of the energy price shocks and loose monetary policy, Japan may buck the global slowdown and again grow 1-2 per cent next year.

Despite price freezes and subsidies, a weaker yen has helped drive inflation to close to 4 per cent y/y, and core inflation is running at above the 2 per cent target of the BoJ.

Nevertheless, Kuroda is unwilling to give up negative rates and YCC until wages and more data confirm this dynamic is sustainable, even at the risk of falling somewhat behind the curve. This divergence has helped drive the yen weaker, though positioning and technical, and a Fed repricing, can also affect the dollar leg more broadly.

When the BoJ does adjust monetary policy, some yen strength will ensue, but the huge swing in the current account balance, erasing much of the surplus as import costs surged, is important medium term as well.

Figure 9. Japan

Canada

The Bank of Canada was perhaps the most hawkish G7 central bank in 2022, raising its policy rate to 4.25 per cent by the end of the year, well into restrictive territory.

Although they may increase rates again, the accompanying statement indicated that they believe that they are close to a peak. Higher rates are slowing the economy and weakening the bubbly and over-leveraged housing market.

A recession in 2023 is not inevitable but would not be a great surprise. Higher energy prices are a mixed blessing for Canada which is a major exporter of oil and natural gas (mainly to the US).

Headline inflation has probably peaked, but core rates are still uncomfortably high, and the labour market is tight. If growth slows as we expect and inflation also fades next year, it is not out of the question that policy could be loosened before the end of next year.

Figure 10. Canada