Clearly, uncertainty has become a certainty. “And it’s not just uncertainty around countries’ economic growth and corporate earnings,” said Eric Robertsen, Global Head of Research at Standard Chartered on a recent client webcast. “The questions around medical reactions, the emergence of a vaccine – these continue to weigh heavily on the economic and financial market outlook.”
In such a maze, scenario analysis seems like the most appropriate way to look at the possible rate of recovery. Indeed, this has formed Standard Chartered’s approach to the 2020 outlook: outlining base, optimistic and pessimistic scenarios for economic and financial market recovery prospects for the next seven months. We’ve applied this methodology globally, and for 21 key markets in our footprint.
Yet optimism – even in an optimistic scenario – needs to be tempered. First, we should remember that 2020 had already started on the economic backfoot. “Pre-COVID-19, we were already concerned about the ‘three Ds’ of demographics, debt and deglobalisation,” said David Mann, Global Chief Economist at Standard Chartered, on the same client webinar. “The latter two are now sure to be exacerbated.”
Second, when the global economy does return to positive growth, it will likely only mark the start of a long road to recovery. During the webcast, Mann cited the possibility of a return to positive global growth in 2021 (in the optimistic scenario). Yet he cautioned against considering this a return to ‘normal’. “Such a number might look like an aggressive rebound. But this shouldn’t be considered encouraging – it will just appear as such in contrast to this year’s bleak figures.”
Ways out of the maze
The Bank’s scenario analyses for 2020 are based on several key assumptions. In particular, it is assumed that the world cannot fully reopen until a vaccine or appropriate treatment becomes widely available. “This now looks unlikely before 2021,” said Mann.
In the base scenario, the expectation would be a gradual recovery: a contraction in both the global economy and corporate earnings in 2020, with an uneven recovery in 2021. In this scenario, the US dollar would remain elevated due to risk aversion in spite of deteriorating fundamentals. In FX, the best opportunities would be found in distinguishing between the ‘haves’ and the ‘have nots’.
In an optimistic scenario, a recovery would occur sooner – in part due to a quicker loosening of virus counter-measures (rather than a vaccine or targeted treatment) in 2020. In such a world, economies would begin functioning at some degree of previous capacity. Emerging-market (EM) assets would be likely to outperform their developed market (DM) counterparts, and those currencies that underperformed in H1-2020 would catch up.
Finally, in a pessimistic scenario, a second wave of infections in key markets would further delay the resumption of economic activity. Renewed risk aversion would emerge, further capital flows would head into safe-haven assets, and DM real yields would fall further into negative territory.
Lost signalling power
Of course, the big question is – which scenario is most likely? The unprecedented nature of this crisis and the uncertainty it has brought makes forecasting that much more difficult.
Further, as Robertsen highlighted, in a ‘normal’ world, we can typically look to financial markets for signs of economic recovery before the economic data confirms it.
“Yet given the current unprecedented levels of policy intervention in financial markets, the signalling power of many assets has been diminished.”
Even so, there are still some indicators that could help signal which way things are likely to swing in the coming months. “We believe the US dollar will retain this signalling power, and we will be watching its performance relative to other currencies very closely,” Robertsen added.
Policy and supply chains
At a macro level, a few key factors will also likely determine the path to global recovery. Policy support is critical – the key question is just how far governments are willing to go.
To Mann, the sky is the limit here.
“For governments setting monetary and fiscal policy, it’s no longer a question of growth rate. The question is ‘do you even have an economy at all?’”
There’s little doubt, he added, that developed-market governments will continue to pursue ‘whatever-it-takes’ strategies. The worry in the longer term, however, will be how this is paid for. “At some point, such spending will need to be clawed back,” Mann added.
Such aggressive policy support is already helping, added Robertsen, with credit markets showing signs of positive response to the “unusually high” level of policy involvement. “However, this alone will not be enough to replace the heavy loss of earnings and growth rates we’ve seen in recent months,” he added.
Another critical signal will be the opening of transport and trade channels – likely with pockets within regions or trading blocs. While this would be a positive indicator of an economic recovery, it would be misguided to expect a ‘bounce-back’ of supply chains in any scenario.
“Concentration risk in global supply chains has been brought to the forefront as a result of this crisis,” Mann explained. Political pressures are also expected to weigh on supply-chain reconstruction. “Pre-COVID-19, we already anticipated major changes to global supply chains – which will now only be accelerated.” This could, however, be positive in the long term for certain economies. Asia, for example, could benefit from the local and regional concentration in supply chains that we expect to see, according to Mann.
Such concentration will also have a lasting impact on markets, added Robertsen. For example, signs of supply-chain centralisation last year in Asia had contrasting impacts on South Korea and Taiwan – and their respective asset markets and currencies.
The way we were
Whichever way things play out in 2020, a complete return to a ‘pre-COVID’ global economy cannot be realistically anticipated for years. Even in an optimistic scenario, the extent of the upside in economic growth would be eclipsed by the size of the contraction in the pessimistic scenario, said Mann.
Robertsen agreed, cautioning against overly positive expectations for market gains. “We believe some optimism has already been priced in, which tempers our expectations for a further rally in the case of our optimistic scenario.”
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