Economies around the world: how will they fare in 2021?
Global economic growth expectations
The Covid-19-induced fall-off in global economic activity during 2020 was severe. World GDP is projected to have declined by -4.3%. Although this was slightly less negative than the mid-2020 estimate of -5.2%, the pandemic caused more than two million deaths worldwide and millions of people were plunged into poverty.
The pandemic is expected to negatively impact the global economy further over the next few years, due to an extended phase of under-investment and under-employment. At the same time, it will probably exacerbate the risks associated with a decade-long wave of global debt accumulation. Global debt levels have reached historic highs, making the global economy again vulnerable to financial market stress.
In 2021, the global economy is expected to expand by around 4%, assuming that the current vaccine rollout becomes much more widespread throughout the year.
At the start of 2021, the World Bank highlighted that global growth could accelerate to nearly 5% in 2021 if there is a more successful control of the pandemic and a faster vaccination process. However, in a downside scenario in which Covid-19 infections continue to rise and the rollout of a vaccine is delayed, global expansion would be limited to only 1.6%.
Limiting the spread of the virus, providing relief for vulnerable populations, and overcoming vaccine-related challenges are key immediate priorities for most economies.
US Economy expected to be boosted by Biden’s $1.9 trillion stimulus package
- 2020 will be the worst US economic performance since World War II
- Economic data is showing recovery, although US retail sales fell in November and December as virus fears meant US consumers stayed home through Black Friday and the holiday season.
- More positively, in early January 2021, President Joe Biden announced a massive $1.9 trillion additional stimulus package, which should re-stimulate household activity
- The package will exacerbate the extremely high level of US government debt
- Under these circumstances the distribution of the vaccine has become increasingly urgent and critical.
Gauging the full extent of the economic damage inflicted by Covid-19 will take time. Fortunately a wide range of US economic data is recovering, although more tentatively in recent months, given the massive resurgence in Covid-19 infections.
Declining US retail sales in November and December 2020 suggest that consumer spending failed to respond, as would be expected, to the traditional “Black Friday” and “Cyber Monday” shopping sprees, as well as the holiday season more broadly.
US household savings remain relatively elevated, suggesting that consumers simply stayed away from the shops despite having cash to spend. Clearly, concerns regarding the rapid spread of Covid-19 outweighed the desire to go shopping. Online shopping also declined in December, although off a high base, suggesting a general lack of confidence within the broader US household sector.
More positively, in early January 2021 President Joe Biden announced a massive $1.9 trillion further stimulus package that he hopes will be approved and implemented over the next few weeks. This package, which includes further direct payments to households and extended unemployment insurance, should re-stimulate household activity, although its effectiveness in the short term will probably depend on the rate of increase in Covid-19 infections as well as the effectiveness of the vaccine roll-out.
The most recent data suggests that, by the middle of January 2021, just over 12 million people in the US had received their first vaccine injection, although this should ramp up dramatically in the coming months. Consumer spending on goods and services represents more than 70% of the US economy.
The current loss of momentum in the economy has increased the urgency for the Biden administration to approve the government’s next stimulus package – despite the fact that it will further exacerbate the already extremely high level of United States government debt. Under these circumstances the distribution of the vaccine has become increasingly urgent and critical.
Euro area economic activity expected to recover slowly in 2021
- GDP growth in third quarter softens overall decline for the year
- Double-dip recession expected, with a more complex trajectory for recovery
- Any improvement in economic activity will depend largely on the effectiveness of the vaccine roll-out in Europe and around the world
- The euro area ended the year in deflation. Inflation should slowly increase in 2021 but it is unlikely to breach the ECB’s target as uncertainty remains high and labour markets fragile.
- Monetary authorities in the euro area remain accommodative.
The easing of lockdown measures in the euro area in the third quarter resulted in a substantial improvement across the region, after its plunge into a historic recession in the second quarter of 2020. The improvement was boosted mainly by the countries that experienced the harshest lockdowns in the second quarter, namely France (+18.7% quarter-on-quarter), Spain (+16.7%) and Italy (+15.9%).
Despite this rebound, recovery in the euro area remains fragmented and slow. A fresh surge in Covid-19 cases in the region in late 2020 resulted in the re-introduction of lockdown measures which affected the initial recovery, with mobility trends deteriorating and economic activity slowing. Unfortunately, data is expected to get worse before getting better, with some of the disruptions seen at the beginning of 2020 expected to resurface at the beginning of 2021.
The second wave of infections is likely to result in a double-dip recession for euro area GDP, leading to a slower, more complex trajectory of recovery. The region continues to face rising labour market uncertainty and reduced income support in 2021, which will affect consumption and general demand. In fact, any improvement in economic activity will depend largely on the effectiveness of the vaccine roll-out in Europe and around the world. Within Europe, the speed of the vaccine roll-out has been mixed, with the schemes in Germany and Italy now gaining pace while France’s roll-out is lagging. The number of new cases remains high, despite restrictions.
For 2019 as a whole, the euro area grew by 1.2%, but it is expected to contract by 7.4% in 2020. It is entirely possible that it will take many countries around the world, including those in the euro area, a year to fully roll-out the vaccine. That means the rebound in economic growth in 2021 is expected to be modest, with the region expected to expand by only 3.6%. Even with the rebound, the recovery will be asymmetric, and it will take some time for GDP to return to its pre‑Covid-19 levels.
While prices were already subdued in the euro area going into 2020, they were further weakened by the pandemic. The euro area ended the year in deflation, with December inflation coming in at -0.3% year-on-year. For the year as a whole, euro area inflation was 0.3%, down from 1.2% in 2019 and the weakest rate since 2016. Given the expected gradual improvement in economic activity, particularly in H2 2020, euro area inflation should slowly increase in 2021, but it is unlikely to breach the ECB’s target, as uncertainty remains high and labour markets fragile.
While this does allow the monetary authorities in the euro area to remain accommodative, the ECB has little scope to respond to the current weak economic environment, with interest rates already at zero and the ECB’s deposit rate at -0.5%. The ECB did, however, extend the duration and scale of several monetary policy instruments to respond to the resurgence of Covid-19. This included topping up the Pandemic Emergency Purchase Program (PEPP) by another €500 billion and extending it to March 2022. It also modified the targeted longer-term refinancing operations (TLTRO-III) terms, including by extending the period over which banks can secure favourable terms to June 2022 and increasing the borrowing limits.
Chinese economy has returned to its pre-Covid-19 growth path
- Chinese economic activity data shows that the economy has recovered to pre-pandemic growth rates amid strong government support and effective containment of infections
- The demand side of the economy continues to lag the supply side
- We expect China’s economic growth will rebound strongly in 2021, with multi-year highs in H1 2021 amid base effects
- Similar to the global outlook, the trajectory of China’s economic recovery will be reliant on the effective and efficient roll-out of the Covid-19 vaccine around the world
- Despite the return of inflation in 2021, government policy is expected to remain accommodative.
Chinese economic activity data shows that China’s economy has recovered to pre-pandemic growth rates amid strong government support and effective containment of infections.
China’s GDP growth more than halved to 2.9% in 2020 (6% in 2019) as a result of the pandemic. However, that the country’s economy was able to emerge from the Covid-19 outbreak larger than when it started is an impressive achievement. This improvement was driven by an effective containment of the virus early in the outbreak and strong fiscal and monetary stimulus measures that boosted infrastructure investment, manufacturing and eventually consumption.
High-frequency data continues to show a slight divergence between the supply side and demand side of the economy. The current pace of growth in industrial production is now well above the pace of growth evident pre-Covid-19. However, industrial production for the year as a whole grew by 2.8%, half of the rate of growth in 2019, showing the devastating impact that the Covid-19 outbreak had on China’s economy.
In contrast, Chinese retail sales figures show that the demand-side of the economy is still lagging the supply side, amid some resurgence of Covid-19 outbreaks in some parts of the country that resulted in new restrictions. For the year as a whole, Chinese retail sales shrank by -3.9%, led by a -16.6% fall in catering and restaurants.
We expect China’s economic growth will rebound strongly in 2021, with multi-year highs in H1 2021 amid base effects. China’s GDP is expected to grow by 8.4% in 2021, driven by household consumption, as there will be a release of excess savings and full job market recovery, which will be a shift away from its current drivers. China’s relatively strong economic recovery in H2 2020 was led primarily by traditional drivers, specifically manufacturing, infrastructure investment, and real estate investment. In 2021, consumption and the service sector, which have lagged the recovery, should expand faster than other components. Progress in shifting China’s economy towards consumption will be due primarily to base effects rather than any structural transformation initiatives by the government.
There are some downward risks to China’s growth outlook, including tighter restrictions should there be further resurgence in Covid-19 cases, and further disruptions to supply chains amid lockdowns in many advanced economies. Much like the global outlook, the trajectory of China’s economic recovery will be reliant on the effective and efficient roll-out of the Covid-19 vaccine around the world.
In December 2020, Chinese inflation rebounded to positive territory, increasing to 0.2% year-on-year, amid a rise in food prices. However, China’s headline inflation remains below the People’s Bank of China’s (PBoC) implicit target of 3% for the eighth consecutive month amid falling pork prices and weak domestic demand. Core inflation also came in at a multi-year low of 0.4% year-on-year, making it the 28th consecutive month that it has been below 2%, indicating that household demand remains weak and there is still some way to go before it fully recovers. Some reflation is expected in 2021 amid higher consumption spending and services demand.
Despite the return of inflation in 2021, government policy is expected to remain accommodative (with a possibility of modest tightening towards the end of 2021, if the economy strengthens at a faster-than-expected pace), to continue to provide support, particularly to consumers and ensure that the recovery remains on track. The focus for authorities should continue to be on the transmission of existing support measures rather than adding to them.
South African economy has lost momentum in recent months and urgently needs an effective vaccine roll-out
- SA’s economic growth significantly down in 2020 (7.5%). Growth of 2% in 2021 appears encouraging, but it is well below the level of output required to generate a meaningful increase in employment
- The policy response from the South African Reserve Bank during 2020 has been entirely sensible, given global and local economic developments, managing to get inflation expectations anchored around the mid-point of the inflation target
- Ultimately, the success of the government’s growth and employment agenda in 2021 and beyond will be determined not by the quality of the policy document but by its ability to make progress in implementing real reforms that encourage the business sector
- Unsurprisingly, the implementation of sound economic policies builds confidence, but the opposite is also true. If SA can make progress in lifting economic growth and reinstating its fiscal credibility, international credit ratings should start to stabilise and then slowly rise.
The bounce back in economic activity during the third quarter of 2020 largely related to the lifting of severe Covid-19 lock-down measures. The cuts in interest rates by the Reserve Bank, as well as the increased and extended social payments, clearly provided further support.
A breakdown of the third quarter surge in South African economic growth shows that the improvement was extremely broad-based, with every sector recording positive growth. In particular, mining activity expanded by 288%, while manufacturing was up 210%, retail 137% and construction 71%. Despite these very impressive percentages, only the agricultural sector has a level of output that is above the pre-Covid-19 level of activity. Economic activity in all the other sectors of the economy remains below the level that prevailed a year ago. In fact, at the start of Q4 2020, the South African economy was still -5.8% below the level of activity that prevailed at the end of 2019 and -6.3% below the peak level of output achieved in Q2 2019.
Although the South African economy improved far more than expected in Q3 2020, the current resurgence in infections and selected lockdown measures have, unfortunately, dampened the recovery in the first part of 2021. For 2020, South African GDP is expected to have contracted by around -7.5%, while for 2021, GDP growth is forecast at around 2%, down from an estimate of 3% a few months ago. In 2019 the South African economy grew by a mere 0.2%, down from 0.8% in 2018 and 1.4% in 2017. Within this context, growth of 2% in 2021 appears encouraging, but it is well below the level of output required to generate a meaningful increase in employment.
To try to improve SA’s growth performance over the next few years, one of the key challenges the economy faces is that the traditional policy measures a country would typically use to revitalise economic growth under current circumstances are restricted – especially fiscal and monetary policy. In particular, government cannot afford to cut taxes extensively to boost household consumption and corporate investment, given extreme fiscal constraints. The government does not have the scope to meaningfully further increase its own spending, including social payments, given that the current debt trajectory has worsened considerably.
This means that government needs to move ahead rapidly in trying to initiate a wide range of private/public partnerships as a means to stimulate growth and employment. This includes continuing to make it easier to do business. Fortunately, government has a clear intention to implement a range drastic changes to its budget to control expenditure, while finding a way to implement a series of growth-friendly policy initiatives, including on infrastructure.
Ultimately, the success of the government’s growth and employment agenda in 2021 and beyond will be determined, not by the quality of the policy document, but by its ability to make progress in implementing real reforms that encourage the business sector. Closing the gap between SA’s current trend growth rate and a modest target of 3% on a sustained basis will require a significantly larger implementation effort than is currently evident, including the co-ordination of economic policy across key government departments and actively partnering with the private sector.
South African inflation and interest rates on a steady course
In prevailing economic conditions, it is unsurprising that SA’s rate of consumer inflation remains well contained, slowing to only 3.2% year-on-year in November 2020. Core consumer inflation has been below the mid-point (4.5%) of the inflation target for the past 31 months, averaging a mere 4% in that period. This subdued level of inflation, coupled with the severe negative impact of the Covid-19 lockdown on economic activity, clearly supports the Reserve Bank maintaining its current accommodative monetary policy for a considerable period.
The bank kept the repurchase rate (repo rate) unchanged at 3.5% during its final MPC meeting of 2020. The decision was not unanimous. Two members of the committee voted for a cut of 25 bps, while three members wanted rates to remain on hold. The Reserve Bank last adjusted interest rates on 23 July 2020, when it cut the repo rate by 25 bps. Since the beginning of 2020, the repo rate has been reduced by a total of 300 bps. Overall, as mentioned above, the Reserve Bank appears very comfortable with the outlook for inflation, although it remains mindful of the country’s need to attract and retain foreign investment while acknowledging the limited impact of lower interest rates on SA’s growth dynamics.
The South African Reserve Bank has been consistent in stressing that monetary policy cannot, on its own, improve the potential growth rate of the economy or reduce fiscal risks. These should be addressed by implementing prudent macroeconomic policies and structural reforms that lower costs generally, and increase investment opportunities, potential growth and job creation. It is also interesting that the bank highlighted that SA’s high public sector financing needs have been met by local private sector savings and borrowing from international financial institutions, rather than foreign private sector portfolio investment.
The policy response from the South African Reserve Bank during 2020 has been entirely sensible given global and local economic developments. It has managed to get inflation expectations anchored around the mid-point of the inflation target. While this achievement was assisted by a range of unfortunate economic outcomes, especially in terms of economic growth and employment, it should lead to a more stable interest rate environment in the months ahead. The Reserve Bank has been very clear in highlighting the benefits of inflation becoming anchored at the mid-point of the inflation target, including the ability to “look through” short-term moves in inflation without the need to adjust interest rates.
SA’s credit rating was downgraded by both Moody’s and Fitch
In its October Medium Term Budget Policy Statement (MTBPS), National Treasury increased its projected budget deficit for 2020/21 from an estimated -6.8% of GDP at the time of the February 2020 National Budget to -15.7% of GDP. Correspondingly, the increased borrowing requirement is likely to push government debt up from 63.3% of GDP in 2019/20 to a massive 81.8% of GDP in 2020/21, increasing further to 92.9% of GDP by 2023/24 before peaking at 95.3% of GDP in 2025/2026. In comparison, the February 2020 Budget had projected government debt to GDP to be at 65.6% in 2020/21, rising to 71.6% by 2022/23.
According to National Treasury, these deficit and debt targets are only possible if government starts to implement significant fiscal reforms, especially in relation to salary costs, while ensuring that economic growth revives. This suggests that the risks to government finances are, unfortunately, firmly to the downside.
Given the developments in the MTBPS and the expected economic impact of Covid-19, Moody’s and Fitch downgraded SA’s international credit rating by one notch on 20 November 2020. In particular, Moody’s downgraded the credit rating from Ba1 to Ba2 and maintained a negative outlook for the rating, while Fitch downgraded the credit rating from BB to BB-, also with a negative outlook. In contrast, S&P kept SA’s credit rating unchanged at BB-, but with a stable outlook. This means that S&P and Fitch have SA on the same credit rating, while Moody’s is effectively one notch higher – but all SA’s international credit ratings are now below investment grade.
The key driver behind the latest rating downgrade is the further expected weakening in SA’s fiscal strength over the medium term. While SA is not the only country to have been severely affected by the crisis, its capacity to mitigate the shock over the medium term is lower than that of many sovereigns, given its significant fiscal, economic and social constraints and rising borrowing costs.
It is clear that the latest credit rating downgrades largely reflect the negative impact of Covid-19 on economic growth as well as government finances. It is to be hoped that this is not used as an excuse, and that government endeavours to re-establish sound fiscal management within the public sector as soon as possible. It is hard to argue against the key concerns highlighted by all of the credit rating agencies.
As always, the positives associated with SA remain the country’s exchange rate flexibility, credible monetary policy, well-capitalised and regulated financial sector, deep capital markets, and moderate external debt. But clearly that is not enough. In essence, there is no substitute for sustained high economic growth accompanied by job creation.
Unfortunately, while the government has identified a number of key policy initiatives that could help to re-invigorate the South African economy (such as infrastructural development) there is still not enough evidence of implementation. Unsurprisingly, the implementation of sound economic policies builds confidence, but the opposite is also true. If SA can make progress in lifting economic growth and reinstating its fiscal credibility, international credit ratings should start to stabilise and then slowly rise.