A global economic outlook

It is quite challenging at the current juncture to provide a fully accurate and detailed view of our economic outlook. Even the near future may seem uncertain, because of the interplay of macroeconomic imbalances, “innovative” political events and frequently volatile financial markets.

In this article I will outline my view of the global economic outlook in these somewhat “disruptive” circumstances, in three related steps. I will begin with the macroeconomic situation in the world, then pass to the economic outlook in Europe, and finally describe the implications of all these macroeconomic insights in terms of financial strategies.

All three segments deserve an in-depth look in the current, somewhat stormy, context. Please allow me to briefly outline these issues.

First, the world. The IMF published its new “World Economic Outlook” in the beginning of October. Global growth for 2019 was revised downwards compared to the similar IMF projections in July, by 0.2 percentage point for the world as a whole and even by 0.4 point for emerging market and developing economies. Furthermore, this prominent institution made it clear that several risks are currently looming on the horizon. Let me mention the most salient vulnerabilities – but they are not necessarily the only ones: protectionism, monetary policy, surging debts and, last but not least, financial volatility.

As for protectionism: the last months have already illustrated the fact that hindrances or even mere threats to the free exchange of capital, goods and services could be potentially very damaging to economic growth, thus for employment and social cohesion. Damaging not only for the countries targeted by the so-called “protectionist measures”, but also for the very countries that decided to embark on such strategies – by the way the economic prospects of the United States also underwent a negative revision by the IMF.

Modern economies are indeed based on complex and integrated value chains. For instance, a good “nominally” produced in China may bring together several sub-components produced in a wide range of other countries. Any attempt to introduce old-fashioned taxes or tariffs against the final product will therefore distort or even destroy the entire value chain and penalise all the implicated stakeholders. The measure will strike well beyond its initial target. Hence, the will to “protect” a local market can and will generate global challenges.

The IMF identifies another looming danger, related to the so-called emerging economies, with the impact of the gradual normalisation of monetary policies and the consequence of more “home-backed” economic and political problems. I do not have to develop at length. Let me just mention for instance Argentina, Brazil, South Africa or Turkey.

Another cloud on the horizon would also affect more advanced economies, namely the challenge posed by surging debts. Global, private and public debt has increased by 60% since 2007. In the United States, public debt alone will probably reach 108% of GDP in 2018 in spite of favourable macroeconomic conditions – this is close to the level observed in Italy, namely 131% of GDP.

All these developments and risks will, of course, exacerbate the volatility of financial markets – most notably stock exchanges. This was already clear over the last few weeks. I would not speak of a dramatic “black October”, but the mood was resolutely bearish. For instance, the Standard&Poor’s 500 index, quite representative of US equities, declined by 7% in October, and the Euro Stoxx 50 lost about 6%. Financial market volatility could also surge due to the uncertainties surrounding the gradual normalisation of monetary policies and also to fiscal policies in Italy.

What will be the economic situation of Europe in these circumstances? According to the IMF, economic growth in the euro area would reach 1.9% in 2019. In its autumn 2018 economic forecast, the European Commission expects that real GDP growth in the euro area would go from a 10-year high of 2.4% in 2017 to 2.1% in 2018, and would moderate further to 1.9% in 2019 – in line with the IMF – and 1.7% in 2020.

Both the IMF and the European Commission revised their projections down compared to the previous ones. And please remember the “looming risks”.

The general political situation and its impact on confidence is one of these risks. Do not forget the “animal spirit” frequently mentioned by Lord Keynes, which could strongly impact household consumption and private investments. These two components of demand indeed depend to a large extent on the respective representations of the future, which could in turn be shaped by political factors and public finances.

The Brexit, the situation in Italy or the risk of political standstill in Germany are good illustrations of the risks at stake. Particularly if we also account for the knock-on effect of these developments on the European integration process, so crucial for the resilience of the European economy to the next economic crisis – in the euro area in particular.

Finally, the consequences of all these macroeconomic developments for financial markets and strategies should be analysed. According to economic studies made by Statec and Fondation Idea, a decline of stock exchange indices of about 6 to 7%, namely the magnitude observed in October as I explained earlier, would contribute to decreasing economic growth by about 0.2 point of GDP in Luxembourg. This is for instance more than one tenth of the growth rate we recorded in 2017… One could not express in a clearer way the very close and mutually reinforcing relationship between macroeconomic and financial variables.

Of course, Luxembourg acts as a magnifying glass of the various evolutions I mentioned earlier (financial volatility, but also the disruption of value chains, surging debts and threats to the cohesion of the euro area). According to the ICC (Internal Chamber of Commerce) index, Luxembourg is indeed the third most open economy in the world and the very first one in Europe. The autumn 2018 economic forecast published by the European Commission on 8 November clearly shows that Luxembourg would not be insulated from foreign uncertainties, as in 2018, 2019 and 2020 economic growth would reach respectively 3.1, 3.0 and 2.7%. This is quite low by Luxembourg standards, below the official estimates and also to employment growth – which implies (once more) adverse productivity developments.

Thus the need for the Grand Duchy to anticipate the aforementioned challenges and to “put our own house in order” in a preventive way in order to become more resilient to future shocks. This implies a leaner administration and the “digital State” (State 4.0), SMEs put at the centre of the economy, a stronger sovereign fund, a roadmap to establish and sustain tax competitiveness, more intergenerational fairness, wages set with a view to productivity gains, more accessible housing, and energy supply at competitive prices.

The Grand Duchy should also support and promote external trade based on the principles of multilateralism, forge long-lasting connections and reach new growth markets. It should continue to work on the nation-branding strategy, encourage cooperation between public actors to develop a modern international strategy and fully develop modern meeting, incentives, conferences, and exhibition infrastructure.

To summarise, it is crucial for Luxembourg to have a reliable compass, especially in a quite stormy economic and political environment – be it in the world or in Europe.