Thursday 22 March 2018

Daily Market Update: IMF sees weaker global growth on Brexit

Christine Lagarde, managing director of the International Monetary Fund, Photo: Bloomberg
Christine Lagarde, managing director of the International Monetary Fund, Photo: Bloomberg

Simon Barry

The IMF’s latest overview of the global economy released yesterday was the Fund’s first formal update following last month’s referendum.

Unsurprisingly, its latest projections incorporate downward revisions to the global outlook relative to its last update in April reflecting the crystallisation of Brexit as a risk to the previous forecast.  The UK itself is front and centre in the downgrade, with growth now seen at 1.7% and 1.3% this year and next, down from 1.9% and 2.2% previously.  More broadly, the baseline global growth forecast has been revised down modestly relative to its April projection (by 0.1 percentage points for 2016 and 2017, as compared to a 0.1 percentage point upward revision for 2017 which the Fund had envisaged prior to the referendum outcome). Brexit-related revisions are concentrated in advanced European economies, with euro zone growth now seen 0.2 percentage points weaker next year, at 1.4%.  The forecast anticipates a relatively muted impact elsewhere, including in the United States and China.

The IMF acknowledges the huge uncertainty around the situation at present, and while it waits along with the rest of the world for further clarity on the exit process, its current baseline reflects “the benign assumption of a gradual reduction in uncertainty going forward, with arrangements between the European Union and the United Kingdom avoiding a large increase in economic barriers, no major financial market disruption, and limited political fallout from the referendum”. In support of its baseline assumptions, the Fund has taken encouragement from the recent stabilisation in financial markets following the initial bout of pronounced weakness in the immediate aftermath of the vote.  However, the IMF is clear that more negative outcomes are a distinct possibility.  Indeed, the latest consensus forecast for UK growth for next year, at 0.7%, is already quite a bit weaker than the IMF’s newly-unveiled projection.  And so yesterday’s update also outlines two alternative scenarios for the world economy, referred to as “downside” and “severe” which reflect alternative assumptions about the extent of uncertainty, financial stress and adverse confidence effects etc. 

The IMF scenarios will be familiar to those who dialled into our recent Brexit conference call in which we discussed the implications of a “limited” and an “adverse” scenario based on work the IMF had done prior to the referendum.  Essentially, the IMF has adopted the “limited” scenario as its new baseline forecast, while the “adverse” scenario we looked at on our call corresponds to what the IMF referred to as the “severe” scenario in yesterday’s update.  Yesterday’s update was focussed on the major economies, and so there was no detail on any forecast changes for Ireland.  However, as we discussed on our call, our estimate of the potential impact of these scenarios on Ireland’s growth rate for next year is in a 0.4-1.0% range.  Please get in touch if you would like the slides from our call which cover more detail on this.

The ZEW (a measure of financial analyst sentiment) surprised significantly to the downside in Germany for July, the first reading that post-dates the UK referendum result. Particularly notable was the decline in the expectations component (which is the more closely watched part), which fell from +19.2 to -6.0 – its lowest level since November 2012 – while the current situation index slipped more modestly from 54.5 to 49.8. Friday’s flash PMI results will be much more relevant as they relate to the views and experiences of real economy business managers. However, the fall does underline the downside risks posed to the Euro Area by Brexit related shocks.

Meanwhile in the UK, CPI inflation beat expectations in both headline and core (ex. energy, food, alcohol, & tobacco) to post at 0.5% y/y and 1.4% y/y respectively in June. The biggest contribution to the uptick came from airfares, a sign perhaps that the currency’s weakening prior to the referendum may already have been pushing cost pressures higher. It is important to note that this print pre-dates the referendum result and that we expect that the further large-scale decline in sterling since will result in rising import costs and potentially elevated price growth acceleration in the months ahead.

In the US, housing starts came in slightly above expectations in June at 1.2m annualised, an increase of 4.8%. Looking through the month-to-month volatility, starts are up 8.9% in the year to June, supported by healthy consumer fundamentals, particularly employment growth and income gains. Building permits also recorded a solid rise in June, gaining 1.5% to 1.15m annualised. The main theme on the currency markets has been positive US news aiding a stronger dollar which saw GBP/USD fall ca. 1.1% since yesterday morning to $1.308 and EUR/USD slip ca. 0.8% to $1.099. EUR/GBP saw a modest gain to £0.839.

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