Global and U.S. Economic Outlook for 2024-2025

The outlook for the global economy has improved due to the steady growth and the reduction of the likelihood of an adverse surprise. Rising disinflation is expected to ease financial conditions, which could lead to further growth-boosting policy measures. However, this could also lead to more costly adjustments later on. The rising productivity gains from the implementation of structural reforms could be supported by cross-border spillovers. However, geopolitical risks could cause commodity prices to spike. Moreover, supply disruptions caused by the ongoing hostilities in the Red Sea could keep the monetary situation tight. Rising property sector problems in developing countries, such as China, could cause a setback in the global economy. Moreover, the implementation of tax increases and spending cuts could cause growth to disappoint. The near-term challenge for policymakers is to manage the gradual descent of inflation toward its target. They must also adjust their monetary policy settings in response to the dissipative effects of wage and price pressures. In many cases, economies have been able to absorb the effects of the fiscal tightening, which resulted in lower inflation. To deal with the future shocks, a renewed focus has been placed on fiscal consolidation, which can raise revenue for new programs, and reduce the public debt. A comprehensive structural reform program that is focused on increasing productivity and debt sustainability is needed to support the global economy. This can be done through more efficient multilateral collaboration.

Zooming In: From Global Economic Trends to the U.S. Economic Outlook:

The US is a vital pillar of the global economy, and its role in shaping the course of the world's economy is evidenced by the latest projections from the World Economic Outlook. The outlook highlights the importance of maintaining a resilient global economy at a time when it faces various policy changes and fiscal retractions. US' economic performance is seen as a vital component of the global economy, and as we continue to focus on the nation, it's important to note how different indicators, such as consumer confidence and business activity, can reflect global trends while also providing unique opportunities and challenges. US' economy has improved slightly, even though concerns about debt and inflation remain. This indicates that the global economy is still cautious. As a result, it's important to look deeper into the country's economic situation and how its domestic and international policies affect its recovery.

The US started 2024 on a positive note, with various indicators of the economy, such as consumer sentiment, business activity, and inflation, moving in a positive direction. However, various factors, such as rising interest rates and rising consumer debt, are expected to affect the country's growth. The Conference Board recently upgraded its forecast for the country's economy. Although recession is no longer anticipated, it still expects the country's overall growth to slow to around 1% in the second and third quarters of 2024. Thereafter, the interest rate and inflation normalization will allow the country's GDP growth to reach its potential of around 2% in 2025. Despite the high interest rates and inflation, US consumers were still able to spend at a robust pace in 2023. However, due to the lack of disposable income growth and the dwindling savings, we believe that this trend is unlikely to continue. The rising cost of living and the increasing number of buy-now, pay later plans are expected to affect consumer spending in the next few quarters. As a result, It is believed that the growth of overall consumer spending will gradually slow down in 2024.

In the second quarter of 2023, the growth of business investment slowed significantly due to the rising interest rates. This trend is expected to continue in the next few years if the Federal Reserve continues to maintain its stance of keeping interest rates at a historically high level. Despite the positive signs, residential investment is still expected to remain weak until interest rates begin to decrease. The growth of government spending was positive in 2023 as the infrastructure investment bill passed in 2021 and 2022 stimulated the non-defense sector. However, it's expected to decrease in 2024 and 2025. The political uncertainty caused by the debt, deficits, and expenditures of the government is also expected to affect the spending trend.

The labor market has been relatively resilient throughout the past year, and it is expected to continue to stay that way in the coming quarters. The tightness is mainly due to the aging Baby Boomers' departure from the workforce, which is expected to keep businesses reluctant to lay off workers. This resilient performance is expected to help prevent the US from sliding into a recession. It is also expected to boost the country's growth next year. On the other hand, inflation is expected to continue improving as the prices of services and dwellings continue to moderate. Service demand is expected to decrease as the consumer spending trend starts to wane. However, wage pressures are expected to remain elevated. Therefore, inflation will reach the Fed's target of 2 percent in the third quarter of 2024. This will cause the central bank to start reducing its monetary policy by 25 basis points in June. The Fed is expected to reduce its key interest rate by a quarter of a percentage point in June as it waits for more evidence to determine if inflation is moving closer to its 2% objective. It is also likely that policymakers will make fewer rate cuts this year if the projections are changed at the March 19-20 meeting.

In his testimony, Jerome Powell, the Chair of the Federal Reserve, stated that policy easing could be appropriate at some point in the year. However, the resilient labor market and persistent inflation could prevent the central bank from implementing a rate cut at its next meeting. After initially betting on a March rate cut, financial market participants have shifted their positions to May. June's first rate reduction is also priced in. Economists have been consistently expecting the Fed to reduce its key interest rate by around the middle of 2024. This is different from the market's pricing.

The Fed seeks to gain more confidence in inflation before beginning to normalize its stance. According to Michael Gapen, the chief economist of Bank of America, the Fed can start a gradual reduction in its monetary policy by June if inflation continues to improve. Although a more forward-looking Fed may place more emphasis on low inflation expectations, this central bank is still data-dependent and will not deviate from its current policy until it feels that inflation is moving closer to its 2% target. In January, inflation fell to 2.4% from its high of around 7% in June 2022. Policymakers noted that they are still waiting for more evidence that inflation is moving closer to 2%. The preferred gauge of the Fed, the personal consumption expenditures price index, is expected to average 2.0% in the next couple of years. Core inflation, which excludes food and energy, is expected to remain above target until 2026. The US' economy is expected to grow at an average annual rate of 2.1% this year. This is above the Fed's target of 2%, which indicates that it would not be rushed to reduce rates. While, according to the Bureau of Labor Statistics, the US added 277,000 jobs in February. The report was well above the expectations of economists. The unemployment rate has also remained below 4% for the longest period in over 50 years.

Consumer market in the US economy:

After experiencing a robust expansion in 2023, the demand for goods and services is starting to ease. In 3Q23, real gross domestic product grew at a 3.0% annual rate, which was mainly due to the recovery in government and consumer spending. Other areas such as business investment and inventory restocking are also expected to slow down. As the labor market continues to improve, and banks begin to tighten lending standards, consumer spending is expected to grow at a slower pace. Although some households are experiencing increased financial stress, these conditions are not as dire as they had been before the Great Financial Collapse.

Rising interest rates and the slow revenue growth of businesses are expected to cause capital expenditures to be more challenging. Moreover, the longer the high interest rates remain, the greater the risk that small businesses will go bankrupt. Nonetheless, the forecast for capital expenditures is not entirely negative, as the surge in artificial intelligence research and the government's support for the semiconductor industry can help offset the weakness stemming from the construction of office and retail establishments. In 2024, international trade is expected to contract due to a sluggish expansion and a high dollar. The growth of government spending is expected to slow down as the federal government's budget is constrained by the political gridlock in Washington. Also, state and local spending is expected to be trimmed due to the slower economic expansion. Despite these factors, it is believed that the demand for goods and services will still support a 2% annual growth rate in 2024.

Since December 2021, the US unemployment rate has been around 3.4% to 4%. If it continues to stay this low, then the growth of the labor force will have to come from the increase in the number of people working. According to the Census estimates, the population of individuals aged 18-64 will increase by just 0.1% in 2024, which is a long-standing trend related to the baby boom generation's aging. The tight labor markets are expected to support the growth of the labor force and encourage more immigration. In addition, the productivity growth has been strong, which has increased by 1.1% in the past year. This can help the country achieve a 2% real GDP growth rate in 2024.

There are encouraging signs for the labor market, such as continued gains in the number of individuals working and immigration. On the other hand, the rising output per worker can help boost the country's real gross domestic product and prevent overheating. If the US' economy continues to grow at a 2% pace and the unemployment rate remains at 4%, then inflation is expected to continue its steady decline. This can be achieved by breaking CPI inflation down into four components: food, shelter, energy, and everything else. During the pandemic, food prices spiked due to the government's supply-chain disruptions and fiscal stimulus. Now, the effects of pandemic have also started to fade, and real food spending has started to decline. Although restaurant spending has started to bounce back, we believe that food inflation will continue to decline due to the absence of another supply shock.

Moreover, after years of slumping and surging, oil prices have started to move back to a more typical range of around USD 80 to 90 per barrel. The tragic events in the Mideast have not yet affected the market. However, going forward, the combination of the sluggish global economy and the rising output from the US and other non-OPEC nations will more than offset the continued decline in the Russian and OPEC production. This will allow oil prices to trade sideways or down in 2019. The price difference between crude oil and gasoline has started to narrow in recent months. This will allow for further decreases in the year ahead. In addition, the high inventories of natural gas are expected to keep the prices stable.

In 2024, the energy component of CPI is expected to decline by around a year. About 35% of the basket is composed of shelter. The government's method for estimating inflation in various areas causes the readings to lag behind the changes in the market prices. This is not ideal, but it can help economists predict the trends in shelter inflation. For instance, by analyzing the data on new leases, they can get a better idea of the trends in the shelter inflation. The other components of inflation have also started to ease. Some of these include the supply constraints caused by the recent car shortage, the increase in airline travel due to the pandemic, and the impact of higher wages. Nonetheless, all of these factors are expected to moderate in the coming years.

For 2024, a base case scenario projects a 2.1% expansion, zero recessions, 2% inflation, and 4% unemployment. Nonetheless, it is noted that this forecast is vulnerable to various risks, including the outcome of the presidential election, the impact of geopolitical developments, and the rising interest rates. The various factors that could cause a recession in the US in 2024 include the trade war, the political uncertainty, and the slow growth of the country's economy. Despite these, 2024 will still be a year of hope. The global economy is expected to grow at a steady rate of 2.8%.

?      In China, the end of the zero COVID policy did not cause a disruptive effect. However, it was still felt that the low confidence among people still remained. In 2024, the question is whether this divergence will continue.

?      In the US and Japan, consumer spending has been resilient. However, in the UK, China, and the eurozone, people are still cautious. Their spending is still 6%, 11%, and 20% below their pre-pandemic levels. This is encouraging because the excess pandemic savings are still available.

?      In Europe, inflation is expected to fall further, which will boost real incomes. On the other hand, in China, people are still cautious due to the weak housing market. However, policymakers are now in a pro-growth mode, which should help boost economic growth to 5% this year.

?      In addition, the growth of emerging markets and Japan will likely decrease from their current pace due to the use of savings. This will allow the global economy to grow less than its long-run average. However, the elections in 2024 may have an impact on the growth of these countries, especially India and Taiwan, due to the political tensions between China and these two nations.

The global central banks have started to act more uniform since 2022, when they started to hike rates to combat the rising inflation. As the year ends, the US, UK, and eurozone will start to reverse some of their pandemic-related increases. Japan, on the other hand, is still at its peak. Wage growth in both Japan and Europe is key to these differences. As a result, European central banks have less room to cut rates as they wait for the US Federal Reserve to begin reducing its monetary stimulus. On the other hand, the Bank of Japan has to start exiting its negative interest rate policy.

The potential return of recession fears in the US may cause investors to lose confidence in the market. A stronger global currency helps the central banks fight against inflation. This will also provide a boost to international returns for US dollar-based investors. With the Fed expected to end its rate hikes in the near term, investors may start to question if the central bank is still committed to maintaining a steady pace of increases. Economic activity has shown signs of a decline, and while it does not imply that the US is headed for a recession, it suggests that the Fed can continue to raise rates for a long time. Since the Fed is expected to end its rate-hike cycle, investors are also wondering how long-term interest rates will remain stable. After spiking during the third quarter, the 10-year Treasury yield started to settle at 3.9% at the end of the month. It’s not unreasonable to expect interest rates to move higher from here due to the implementation of quantitative tightening and the weakening demand for US Treasury debt. However, history shows that the timing of the last rate hike usually coincides with the peak of the 10-year Treasury yield.

In case the US avoids a recession in the upcoming year, the Fed is expected to start reducing its monetary stimulus and avoid hasty cuts in rates. As a result, the spread between the 10-year Treasury and the 30-year bond will continue to decline. In addition, investors should start preparing for better days from a capital appreciation and income perspective. In 2023, the US equity markets performed well, with the S & P 500 gaining 10.4%. But, investors should temper their expectations for the following year due to various factors. For instance, the high valuations, low volatility, and slower economic growth are some of the factors that investors should consider. However, headwinds to the consumer, disinflation, and economic growth are expected to restrict revenue growth.

If the US goes into recession, the earnings growth of companies may contract, which could affect the stock market. Also, the low volatility could be hard to maintain. The Chicago Board Options Exchange's Volatility Index, or VIX, was at 16 this year, which is higher than the average of the last 15 years. On the other hand, the interest rate volatility spiked to unprecedented levels as the Fed started raising rates. If the US economy continues to deteriorate, the interest rate risk could cause the volatility in the stock market to move to the other side of the market. This year, the top 10 stocks in the S & P index were 38% more expensive than the average compared to the past 25 years. The overall market is still around 17% overvalued, but since the Great Financial Crash, valuations have been relatively high. The forward P/E ratio of the S & P index is currently 30 percent higher than its historical average, implying that stocks are overvalued. Although earnings growth is expected to continue rising, valuations may need to adjust over time due to a rising interest rate environment. As such, we continue to favor large-cap stocks with strong fundamentals. Despite the significant valuation correction, small-cap stocks are still heavily leveraged to the domestic economy. This could cause margin pressures since 38% of outstanding debt for these types of companies is floating rate. Rising interest rates could cause more immediate pressure. It's not about the growth versus the value debate in large-cap stocks, as we've witnessed divergence across various industries and sectors. Instead, investors should focus on the quality of the companies and their ability to deliver solid returns.

The improving long-term outlook for the global economy and positive interest rates are expected to lead to multiple expansion. However, the earnings growth rates are expected to be slower than this year. For instance, in Europe and Japan, the earnings growth is expected to be at a low single digit. The increasing focus on shareholder returns through share repurchases should also support the growth of earnings in emerging markets. In addition, the improving long-term outlook for China and positive interest rates are likely to lead to more policy support, which will boost the earnings estimates of companies. International stocks are expected to continue providing a steady boost to investors' income, with the yield on their dividends at 3%, which is almost double that of the US. Style leadership may vary depending on the region, as value continues to perform well in Japan and Europe.

As investors prepare for the 2024 year, they should remember to expect the unexpected. The US economy is still in focus, and it is likely to be confounded by its resilient performance. However, even though tighter lending standards and lower savings and job gains are expected to result in belt tightening, a recession may not be possible. Hence, investors should adopt a disciplined approach to asset allocation when the year 2024 commences. The US economy will likely be in the spotlight once more, and investors will be surprised by how resilient it has been. Even though tighter lending criteria and job losses are bound to occur, a recession is not probable. The improving economic outlook can be attributed to the belief that the US has already exited its peak period, with the Fed possibly concluding its rate hikes. Lower borrowing costs for Americans will provide some relief from their debts. Meanwhile, the global economic laggards, such as China and Europe, are expected to accelerate throughout 2024 as they lose steam.

The political situation in both the US and abroad could cause volatility to affect the outlook for the 2024 year. This is why it is important that investors adopt a diversified asset allocation strategy that reflects the uncertainty of the world. If the rates go down in 2024, investors should start to favor intermediate-term bonds. They should also be confident that these types of bonds will provide a steady boost to their returns. They should also consider adding to their quality positions due to the tighter spreads and the protection against unexpected economic risks.

Due to the over-optimistic earnings estimates and the slowing economy, large-cap stocks in the US are expected to perform poorly. This is why it's important for investors to consider allocating their funds to quality names instead of sectors. In addition to the US, the improving economic outlook and the positive interest rates are also expected to benefit other global markets. The falling dollar is also expected to provide a boost to the local currency's performance. This can be beneficial for alternative assets such as infrastructure and real estate. The interest in non-US stocks has increased, even though the geopolitical situation in the world is still unclear. Despite the uncertainty, investor allocations in these assets have been trending higher. Meanwhile, cash remains overweight, which could negatively affect returns in 2024. Moreover, investors are positioning their portfolios poorly compared to the opportunities that will arise this year. But due to the constantly changing investing environment, it is difficult for investors to predict the winners and losers from periods of uncertainty. Instead, they should expect the unexpected and actively manage their positions.

Conclusion:

The world's growth outlook is expected to remain subdued due to various factors, such as the withdrawal of fiscal support and the implementation of structural reforms. Upholding the various obstacles that it faces, the US economy is still expected to grow at a robust rate. The resilient performance of the country's businesses and consumers is supported by the rising interest rates and the improving long-term economic outlook.

The US' evolving consumer behavior and the labor market's resilience are some of the factors that highlight the delicate balance between maintaining growth and containing inflation. As the country's growth begins to transition to a potential rate normalization, the need for more strategic policy changes becomes more apparent. These changes will have to be made without stifling the country's economic growth. It will be very challenging to manage inflation without affecting the growth rate due to supply chain disruptions, geopolitical risks, and domestic fiscal issues. Even after the possible softening of the labor market, the outlook for the US economy is still positive due to the expected return of inflation to target. This is because the Federal Reserve is carefully managing the effects of its monetary policy on the country's economy. Hence, various factors, such as geopolitical risks, supply chain disruptions, and rising property issues, can affect both the U.S. and global economic forecasts. These circumstances necessitate a flexible and vigilant policy framework to deal with unforeseen situations and safeguard the country's progress. Although the global and US economies are expected to continue growing, the path ahead is likely to be challenging. With that in mind, policymakers must be able to navigate through the complex economic terrain and ensure that the country's growth is sustainable and inclusive. The path of the global and U.S. economies will be influenced by the balance between implementing structural changes and addressing immediate concerns. Because of this, businesses, consumers, and policymakers should remain adaptable to the changes brought about by the current economic situation.

Pic Courtsey-Pankaj Jha

(The views expressed are those of the author and do not represent views of CESCUBE.)