Global economic activity is slowing, but the nature of the slowdown across major economies is far from homogenous. We anticipate global GDP growth will slow to 2.6% in 2023 — the slowest pace since 2001 outside of the global financial crisis and pandemic — and only accelerate modestly to 2.8% in 2024. Below-trend growth is expected across most advanced economies, with localized recessions in Europe, stall-speed growth in the US and Japan, and moderate growth momentum across most emerging markets, with notable downside risks to growth in China, given the weakening of manufacturing and consumer spending activity.
Labor markets around the world remain generally resilient, and while labor demand and supply are gradually coming into balance, labor market tightness is a common feature. Labor demand in some sectors, like tech, manufacturing and retail, is softening, but service sectors and construction continue to see generally strong employment trends. Labor force participation is gradually rebounding, supported in part by resilient labor demand, reduced health concerns, stronger wage growth and positive immigration flows.
While global inflation is on a downward trajectory thanks to falling commodities prices, rebounding supply and easing final demand growth, core inflation (excluding food and energy) remains excessively elevated across most regions. The noteworthy exception is China, which is flirting with deflation. Elevated service sector inflation along with still-high wage growth (and in some regions, strong housing cost inflation) means that the disinflationary process will take some time and run into 2024.
In this context, the vibe from most advanced economies’ central banks is “higher for longer.” With central bankers viewing inflation risks as being tilted to the upside, they will generally favor overtightening to avoid additional inflation persistence. Over the past month, the Bank of Canada and the Reserve Bank of Australia resumed their tightening cycle, the European Central Bank (ECB) continued raising rates, the Bank of England surprised with larger-than-expected rate increases, and the Fed signaled a higher terminal policy rate. We anticipate most major central banks will continue tightening monetary policy further into restrictive territory, with the notable exception of the People’s Bank of China loosening policy.
Combined, this will undoubtedly put upward pressure on interest rates in the coming months and could exacerbate strains on the private sector with rising risks from “known unknowns” and “unknown unknowns.” One of those known unknowns could come from a rapid tightening of credit and financial conditions. We know monetary policy affects economic activity with a lag. And, with central bankers opting to take the risk of overtightening in the face of persistent inflation, a sudden tightening of financial and credit conditions could precipitate nonlinear private sector responses with pullbacks in consumer spending and business investment that would plunge the global economy into a recession. A resumption of banking sector stress, commercial real estate fragilities and other unknown unknowns could trigger severe funding pressures on businesses, drive further bank failures and put significant strain on the availability and cost of credit.
In the context of renewed global economic optimism, an upside risk to the outlook stems from a faster disinflationary cycle supported by a more rapid labor market rebalancing, easing wage pressures and less cost passthrough. In this scenario, central banks wouldn’t need to tighten monetary as much, thereby supporting stronger growth.
