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Economics Weekly - Bleak year for global economy in prospect; Weekly economic data preview - BoE and ECB unlikely to echo the Fed’s less pessimistic tone on outlook

Economics Weekly - 4 May 2009


Bleak year for global economy in prospect


The world economy is currently experiencing its steepest downturn since the 1940s, with global trade expected to contract by 10% this year, see chart a. Global economic output could fall by 2%, with growth in the advanced economies dropping by at least twice this rate, around 4- 5%. This is the first time that there has been a synchronized downturn amongst the major economies since the 1930s. It is interesting that the emerging markets are weathering the downturn much better than the advanced economies and better than at any time in their history - but they are not immune, as shown by including data for China in all the main country charts below. Overall, however, the emerging markets as a bloc is likely to escape an outright fall in economic output this year, see chart b, due primarily to China and India.


Sharp contraction is evident in backward looking quarterly data...

Recent economic data put the severity of the fall off in growth in perspective, see chart c. For the US, economic growth fell by a 6.1% annualised pace in Q1 2009, after a fall of 6.3% in the fourth quarter of last year. This means that the US has seen the biggest cumulative fall in output since the 1950s, and the likelihood is that there will be a further fall in overall economic output in the second quarter as well. But output is not just collapsing in the US, it is a global event. In Japan, the second biggest economy in the world, annualised gdp fell by 12.1% in Q4 2008 and the prospect is for a similar decline in Q1 of this year. For the UK, economic growth fell by 1.6% in Q4 2008 and by a further 1.9% in Q1 this year. For Germany, economic growth contracted at an 8.4% annualised rate in Q4 2009 and an even bigger decline in on the cards for Q1 based on indicators for the first quarter.


...despite better than expected monthly data, which only suggest an easing of the recession not a recovery

Monthly data are currently suggesting that the fall in global economic output in Q2 may be less severe than in Q1 or Q4 last year but the decline will still be significant. In short, the recession is not yet over and so the trough of the downturn has not yet been reached. The signs are that global contraction will persist in most economies into the second half of 2009 and possibly into the first half of 2010. What has led the decline? Clearly, the collapse in global trade and export volumes, see chart d. In terms of sectors, thus far, manufacturing has led the slowdown, with latest monthly data showing annual industrial output down by 38.4% in Japan, by 20.6% in Germany, 12.8% in the US and 12.2% in the UK, see chart e. What are the reasons for this? One is that the initial adjustment to recession has been led by the company sector because weak global demand and the financial crisis has already severely hit international trade. For instance, US exports were down by 34% in Q1; in Japan exports are down by around 50%; in Germany by around 40%. Higher unemployment from company cut backs mean that consumer spending will likely fall sharply in due course, and take over as a key driver of the downturn, see chart f. A further leg to the downturn may well be reflected in even weaker consumer spending than seen so far as a result of second round effects from rising unemployment.


But there are reasons to be optimistic that recovery will occur in time, given the unprecedented policy loosening that has taken place around the world. Lower oil prices and weakening consumer price inflation will also boost real household incomes and global economic recovery is likely to be occurring by the first half of 2010, accelerating in the second half of that year and led by the emerging markets, see chart b.


UK economy still contracting sharply, but the pace should ease in the second quarter of 2009

For the UK, the recovery profile may be less pronounced but there is an additional positive growth impulse coming from a fall in the pound’s exchange rate of around 27% on a trade-weighted basis. This will boost UK growth once the world economy starts to recover. In particular, it will help export industries and firms in the import substitution arena, either in services or manufacturing. Agriculture, food drink and tobacco industries are resilient in downturns, as are high tech and health, education and telecoms industries. But a lower exchange rate cannot offset the sharp fall in world trade volumes that is underway or the global financial crisis, and so the UK economy will contract at least in line with the average of the advanced economies.


In this environment, interest rates will remain at record lows and the currency will likely stay weak and potentially volatile. The hard truth is that significant economic recovery is unlikely until next year and even then not perhaps on a sustained basis until the second half of the year. Recovery back to a faster pace of economic growth, say to the UK trend rate of the last 10 years of 2.9%, is now looking unlikely until 2012 or beyond. Although a bottoming out of the downturn is likely in Q2, if the monthly data continue to suggest only stabilisation at low levels of activity, any recovery in consumer spending seems some way off. Rising unemployment, a weak housing market, high debt levels and rising bankruptcies are likely to keep retail sales under pressure. Massive fiscal and monetary loosening will eventually have its intended effect, but the lags involved suggest that world and UK recovery is not yet underway.

Trevor Williams, Chief Economist, Corporate Markets



Weekly economic data preview -4 May 2009


BoE and ECB unlikely to echo the Fed’s less pessimistic tone on outlook


This week the Bank of England and the ECB meet, both on Thursday, to set interest rates and other monetary policy measures and to discuss their respective economies. Will their comments echo the US Fed’s less pessimistic outlook? Although recent economic survey data suggest that both economies may be starting to bottom out, they still point to economic contraction for now. In terms of the interest rate decisions, we expect the BoE to keep interest rates on hold at 0.5% and the ECB to cut rates by 0.25% to 1%, as it is still behind the UK and the US. The ECB may also introduce additional monetary easing measures- although outright purchases of government bonds are unlikely, the ECB could buy commercial bills. In addition, the US government plans to release the outcome of its regulatory stress testing of 19 top US banks and it also has a heavy schedule of issuing over $71bn of US treasury bonds. The Bank of Japan publishes the minutes of its 6/7 April meeting and the Australian central bank is likely to hold interest rates at the current level of 3%. UK & US financial markets are closed on Monday.


􀂄 UK economic data due this week include the UK services PMI index and producer prices for April. The PMI manufacturing index published last Friday surpassed market expectations at 42.9, the highest level in eight months. But although the trend is in the right direction, the figure is still indicative of output contraction. What is possible, however, is that the decline in manufacturing in Q2 may be less severe than the very sharp contraction of 6.2% reported in Q1. With this in mind, financial markets will be looking to see whether or not the recent improvement in the services PMI index is also maintained. Already we have four months of improvement from November’s low of 40.1. The market consensus forecast is for an increase in the index from 45.5 in March to 46.3 in April. Monthly producer input price inflation may have slowed from 1% in March to 0.7% in April - this represents an annual fall of 3.6% compared with one of just 0.4% in March. Producer output price growth may stay at 0.1% on a monthly basis as food prices are higher - 0.8% growth compared with 2% a month earlier, on an annual basis.


􀂄 The US has a heavy economic calendar including the ISM service survey index on Tuesday and the key jobs report for April on Friday. In line with the trend in the UK and the EU-16 manufacturing PMI surveys, the US ISM equivalent measure strengthened again in April. In turn, the market consensus forecast is for a rise in the service index from 40.8 in March to 42.0 in April. This will be the fifth consecutive increase from a low of 37.4 last November. Also published, consumer credit for March may decrease by $5bn, less than the $7.5bn fall in February and underpinned by the strengthening in the US consumer confidence index to 39.1 in April, off the low of 25.3 in February. But the key data for the week is the US jobs report and non-farm payrolls number - we expect another sharp drop in jobs of 610,000 in April slightly better than the 663,000 fall in March. In addition, the unemployment rate is likely to rise further from 8.5% in February to a 25-year high of 8.9% in March. We will be looking for convergence between improving consumer & business confidence and the unemployment rate in coming months, but for now the two indicators are sharply diverging with unemployment accelerating as a share of the workforce.


􀂄 The ECB meeting is crucially important this week as it may signal the end of its series of interest rate cuts if its view of the region’s economic health has improved on the back of recent survey results. All will depend on the depth of members’ concerns about the sharp rise in the unemployment rate and the risk of deflation as annual CPI inflation could fall below 0.5% in May and reach zero in the next few months. It is possible that the recent strength of the euro and its negative impact on exports and output may lead to the announcement of further monetary easing measures. In terms of data, EU-16 retail sales for March will help inform of conditions in the high street - we expect 0.2% growth in sales. The EU-16 consumer confidence index published last week showed a small improvement in April, but still a very weak number. German factory orders may have contracted by 1.5% in March (a fall of 3.5% in February), 36.5% on an annual basis.

Nichola James, Senior Economist


Economic Research,
Lloyds TSB Corporate
10 Gresham Street,
London EC2V 7AE
0207 626 - 1500


Any documentation, reports, correspondence or other material or information in whatever form be it electronic, textual or otherwise is based on sources believed to be reliable, however neither the Bank nor its directors, officers or employees warrant accuracy, completeness or otherwise, or accept responsibility for any error, omission or other inaccuracy, or for any consequences arising from any reliance upon such information. The facts and data contained are not, and should under no circumstances be treated as an offer or solicitation to offer, to buy or sell any product, nor are they intended to be a substitute for commercial judgement or professional or legal advice, and you should not act in reliance upon any of the facts and data contained, without first obtaining professional advice relevant to your circumstances. Expressions of opinion may be subject to change without notice. Although warrants and/or derivative instruments can be utilised for the management of investment risk, some of these products are unsuitable for many investors. The facts and data contained are therefore not intended for the use of private customers (as defined by the FSA Handbook) of Lloyds TSB Bank plc. Lloyds TSB Bank plc is authorised and regulated by the Financial Services Authority and is a signatory to the Banking Codes, and represents only the Scottish Widows and Lloyds TSB Marketing Group for life assurance, pension and investment business.





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