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com, +1 212 713 4108, UBS FS Dominic Schnider, analyst, UBS AG Constantin Vayenas, analyst, UBS AG
Wealth Management Research
22 July 2010
This recovery crawls, it doesn't leap
s The global economy is slowly shifting gears. It is moving from a
s 13 July: Global financial markets: Monthly
government-supported recovery to one that is driven by the private sector.
s Despite uncertainties over the sovereign debt crisis in Europe and some
compass - double-dip fears are overdone
s 9 July: Eurozone economics: The future of the
anemic leading indicators recently, we expect the moderate recovery to continue. After some leading economic indicators disappointed, market participants started to worry that the global economy might be backsliding, descending into the second act of a "double-dip" recession. We do not share this view. The recovery in developed markets' economic activity over the last two or three quarters reflects a rebound in global trade, the end of the de-stocking cycle and, not least, the massive fiscal and monetary policy support. The incremental growth contribution from global trade and the inventory cycle will clearly fade over time. Meanwhile, the austerity measures announced in Europe and elsewhere will soon reverse fiscal policy's positive contribution. We believe these challenges to global growth will be counterbalanced by emerging markets growth, which is still quite strong, and by the very loose monetary policies in most developed economies. We expect these policies to persist for some time. Our base-case scenario of moderate recovery now hinges on private final demand – seen in consumer spending and business investment. These factors need to become the key drivers of economic growth now, in our view. We think that the latest improvements in labor market conditions and consumer and business sentiment will not simply vanish in the coming quarters. We therefore stick to our sub-par recovery case while admitting that a "double-dip" remains a risk that will be closely monitored by market participants.
euro in jeopardy
June: Eurozone economics: Short-lived recovery?
s 7 June: Fault lines: Double-dip recession or
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UBS WMR US employment is growing again Change in non-farm payrolls and unemployment rate Source: ThomsonReuters EcoWin. private sector demand has been reignited. it rarely breaks down in the early stages of an expansion. will likely show a solid pickup in economic activity in the region. sparked by monetary and fiscal policy. As a result. we do not expect this tapering-off to be a big burden on growth in 2011. UBS WMR Global economy . The second and third quarters. starting in mid-2011. Combined with likely tax increases. the growth in inflation-adjusted wages and salaries has accelerated in the past few months. Portugal and Ireland to implement painful austerity programs. to be published on 23 July. the sovereign debt crisis has forced peripheral countries such as Greece. However. we think that the positive feedback loop between consumption. Historically. UBS WMR EMU leading indicator signals pickup in growth EMU composite leading indicator and real GDP growth Source: ThomsonReuters EcoWin. As long as monetary policy does not shift too rapidly from expansive to restrictive. US household savings rate has peaked Net wealth to income ratio and savings rate Source: ThomsonReuters EcoWin. it pushed businesses to start hiring again this year. while we expect government spending growth to moderate further. employment and labor income will prove to be strong enough to avoid a double-dip recession. the US economy will be able to withstand such an erosion without triggering a double-dip recession. will restore confidence in the sector and unlock interbank lending markets in peripheral economies. indicating that the correction in savings behavior has likely run its course. as well as from lower interest rates and falling inflation. spurring further hiring in the positive feedback loop. in our view. Private consumption has been positive for eight months in a row. In our view. The US consumer has benefited from a rebound in net wealth. implying growing support for US consumer spending. The savings rate has been stable at around 3. As consumption recovered.5% since last July. Against this backdrop. Rising consumption kicks off a virtuous circle. Productivity of existing workforces was already very high and the additional demand could only be satisfied by adding new workers. once such a positive feedback loop has been triggered. We expect the Fed to raise rates only gradually. Furthermore. we think a double-dip recession is rather unlikely. which has supported real purchasing power. fiscal policy could shave off about 1% of real GDP growth in 2011.2 . with GDP growth at only 0.2% in 4Q09 and 1Q10.UBS Wealth Management Research 22 July 2010 Global economy US private sector’s virtuous cycle to carry the economy In the US. We expect improving labor market conditions in Germany to render the recovery there as more self-sustaining and less dependent on government support. Spain's banking sector remains a risk and it is still unclear whether the European bank stress tests. however. Europe: Fiscal austerity versus ultra-loose monetary policy The Eurozone has been the laggard in the recovery story.
we expect nothing to change: emerging Asia will lead the tightening cycle from a global perspective and not lag behind it. year-on-year growth could hover around 8%. UBS WMR Asia: Decelerating growth China has just released second-quarter GDP figures showing that growth moderated to 10. we expect to see significant divergence in the economic performance of different Eurozone member countries. Overall. if required. Part of the slowdown is the consequence of negative base effects compared to the strong growth readings at the end of 2009. We think this should support their currencies. Measures to cool the pace of credit expansion as well as the housing market should curb incremental investments. which already has a strong footing in global export markets.3 . Real GDP growth across regions in % y/y Source: ThomsonReuters EcoWin.UBS Wealth Management Research 22 July 2010 Global economy Against this backdrop. Germany. a weaker EUR and continued loose monetary policy. well ahead of the ECB. Hence. They will likely suffer a sustained period of near-stagnation and high unemployment. Large countries with a strong focus on domestic consumption should be less affected by this soft patch.3% year-on–year. In the pecking order. we think Asia is still well positioned. In the second half of 2010. while sub-trend growth is likely to be short-lived. UBS WMR Global economy . Smaller non-EMU economies such as Switzerland. the low overall leverage ratio of most countries in the region allows policymakers to stimulate the economy. The deceleration in growth in other Asian economies will also be watched closely. it will be difficult for investors to determine what proportion of the slippage is simply related to base effects and what reflects deteriorating fundamentals. the peripheral Eurozone economies will have a hard time achieving decent growth. We think Indonesia and India should do relatively well. we could see some previously unexpected difficulties. Given these circumstances.9% a quarter earlier. inventories stand at their highest levels since October 2008. According to the latest Purchasing Managers Index report. Real interest rates in most countries are in negative territory. Is this a cause for worry? Perhaps not in itself. The UK benefits from a weaker GBP and ultra-loose monetary policy but structural problems and the government's ambitious fiscal austerity program are substantial burdens for the economy. Improving labor market conditions and higher household incomes should temper the slowdown in sectors not focused on exports. thereby fueling real estate markets. As a consequence of slowdowns in the US and Europe. we expect the ECB to keep rates low until at least mid-2011 and then to start on a gradual tightening path. down from 11. but we think there is a strong likelihood that China's growth will decelerate faster than we initially estimated. On the other hand. in our view. In combination with weaker external demand from the US and Europe. Year-on-year. the focus lies now increasingly on domestic consumption. Norway and Sweden are growing briskly and their central banks have tightened or will soon tighten policy gradually. On the manufacturing side. should profit from solid global demand. This also applies to China. growth could be considerably below trend in 4Q10. the pace of interest rate normalization is likely to slow in the region. In addition. Consumer sentiment diverges Consumer sentiment index in selected EMU countries Source: ThomsonReuters EcoWin.
UBS WMR Global economy . to some extent. Asia led the recovery Real GDP growth (% y/y) 11 9 7 5 3 1 -1 -3 -5 -7 -9 2004 2005 2006 Latam 2007 2008 Asia ex Japan 2009 EMEA 2010 Source: ThomsonReuters EcoWin. Prior to the crisis. or whose banks depended on funding from wholesale capital markets. were hit hardest by the crisis. we expect the region to recover more slowly.4 . twice as fast as Mexico.UBS Wealth Management Research 22 July 2010 Global economy Different picture in Eastern Europe and Latin America Those emerging economies that were most exposed to the United States or to the European Union. Mainly. rather than the wait for an export-led recovery. those that had been able to finance themselves domestically or had export contracts with fast-growing Asia were more able to withstand this turmoil. We note that it is also the region most vulnerable to setbacks in EU growth and to disruptions in capital markets. which has a strong domestic story. Nevertheless. we believe that the growth numbers are sufficiently strong so that only another severe external shock would warrant a second glance at a recession scenario. for Central and Eastern Europe as a whole. for making a prediction on how Latin America and Central and Eastern Europe will perform in the second half of 2010 and in 2011. This provides a guideline. This explains why we expect Brazil. this region saw the mushrooming of branches of banks headquartered in Western Europe. This is also where real estate values – the collateral for loans – have taken a hard knock. The situation is slightly different in Central and Eastern Europe. By contrast. These numbers are cushioned enough for these economies to still steer clear of a double-dip recession. the strength of domestic demand should be a more reliable engine of growth in the current environment. Accordingly. to grow 8% this year.
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