Fresh Green Shoots in Europe Offset the Temporary U.S. Lull
As expected, the global economy slowed during the first quarter but should gain momentum in the coming months. The U.S. economy almost came to a standstill during the first three months of the year as adverse winter weather limited activity. Consumer spending moderated and construction activity slowed, while lower oil prices discouraged businesses in that sector from capital investments. The stronger dollar and labor disputes at some of the seaports limited export gains, and led to a widening of the U.S. trade deficit. However, labor markets remain healthy and there are signs of wage gains. The softer economic trends could encourage the Federal Reserve to delay interest rate hikes, and thus keep borrowing costs low. Accordingly, U.S. economic growth is expected to rebound in the coming quarters.
The Chinese economy expanded 7 percent during the first quarter, meeting the government’s target, but the pace was slower than earlier years. The Chinese government and the central bank continue to roll out policy measures to support domestic demand and prevent further moderation. The Euro-zone remained the brightest spot as most major economies in the region saw healthy improvement in leading indicators. Helped by export gains and a recovery in domestic demand, the European Union expects aggregate growth for the Euro-zone to touch 1.5 percent for the current year.
Global equity markets saw strong gains during April, led by China and Europe. U.S. equity prices remained subdued, but the recovery in energy and commodity prices energized markets such as Brazil and Russia that had underperformed during earlier months. Global manufacturing activity moderated as output growth slowed in most large economies except the Euro-zone. Nevertheless, global services activity continued to expand at a healthy pace.
Emerging Market Equities Rebound on the Back of Recovery in Europe, Latin America
Emerging market equity prices saw a strong rebound in April, helped by recovery in Latin American and European markets that had underperformed last year. Healthier economic signs in the Euro-zone lifted emerging markets in Eastern Europe as their economies could benefit from more robust export demand. The continuing recovery in oil prices and select commodities helped lift equity prices in the major resource exporting countries such as Russia and Brazil. In Asia, Chinese equity prices continued to surge on expectations that economic growth has stabilized and policymakers would continue to expand fiscal and monetary stimulus measures. Korea also saw gains as the economy expanded at a healthy pace and on expectations of further interest rate cuts by the central bank. On the other hand, select markets such as India that had outperformed over the past year came under selling pressure.
Manufacturing activity weakened across most large emerging economies during the month of April. In Asia, output in China stagnated during the month, while Korea, Indonesia and Taiwan reported declines. Factory output in India continued to expand, but at a slower pace when compared to the previous month. Brazil and Russia continued to see further declines in output and new orders. Brazil also reported a fall in services activity during the month as the country’s central bank raised interest rates again, despite the economic weakness. However, services activity saw further gains in China and India.
Emerging Market Near-Term Outlook
Economic growth in China moderated to an annual pace of 7 percent during the first quarter, as expected, matching the target set by the government at the beginning of this year. While the pace of growth is appreciably slower than previous years, the Chinese economy is now much larger and hence unlikely to sustain the earlier high growth rates. The government is also trying to soften the impact to the economy from the property market slowdown, marked by a 9 percent fall in housing sales during the first quarter. Retail sales continue to expand at a healthy rate of close to 10 percent, while industrial output growth has slowed due to the problems of excess capacity and modest export demand. Exports unexpectedly declined in March, but are likely to revive in the coming months as U.S. and European demand improves. However, further U.S. Dollar gains could limit export growth as the Chinese currency is pegged to the dollar. Job additions have been healthy and close to the Chinese government’s target, while the unemployment rate remains unchanged when compared to last year.
The rebound in prices of oil and select other industrial commodities has come as a welcome respite for some of the struggling emerging economies, such as Brazil and Russia. The Brent crude oil benchmark has recovered nearly 25 percent from its January lows, while iron ore prices have also seen similar gains. Prices of copper in April were at their highest level for this year, buoyed by expectations of stronger global demand. If these price gains are sustained, the export growth rates for the major resource exporting countries are likely to receive a boost. On the other hand, energy and commodity importing countries such as China and India could realize smaller gains than anticipated earlier. Still, even after the recent rebound, prices of oil and industrial commodities are likely to remain well below the average for last year.
Monetary Stimulus and Healthier Trends in Europe Spur International Equities
International equity prices advanced during April on signs of healthier economic trends in the Euro-zone as well as hopes of continued monetary stimulus in Europe and Japan. Weaker than expected U.S. GDP growth for the first quarter has increased expectations about further delays in the rate hikes by the U.S. Federal Reserve. In addition, the recovery in oil prices helped some of the markets that had underperformed during the second half of last year. Among the developed economies, select markets in Northern Europe, Hong Kong, Singapore and Canada were the biggest gainers for the month. Germany, which had seen strong advances during the first quarter of this year, lagged in April. Emerging markets outperformed during the month, helped by further gains in China and the rebound in Latin America and Europe. Laggards among the emerging markets included India and Indonesia.
Global manufacturing output growth moderated during April as activity slowed in the U.S., China and the U.K. Select Asian economies such as Japan and South Korea saw a decline in factory output during the month. Manufacturing growth in the Euro-zone was stable and close to the rate for the previous month, led by Germany, Spain and Italy. New order flows also slowed during the month, primarily due to a decline in export orders for most major economies. In contrast, global services activity continued to expand at a robust pace in April. Most leading economies, including the U.S., China and Germany, reported services growth rates that were close to the levels seen in March.
International Equities Near-Term Outlook
Most leading economic indicators for the Euro-zone indicate that the region’s economy is likely to strengthen in the coming quarters. The manufacturing and services sectors for most countries in the region have shown consistent gains for the last several months. Labor markets have tightened in the stronger economies such as Germany while the unemployment rate has declined in recovering economies such as Spain. This has led to gains in consumer spending, as confirmed by the healthy expansion in retail sales. Bank credit, which had seen steady declines for nearly three years, has also started expanding. The fiscal health of most countries continues to heal, though the continued failure of France to meet its deficit targets has raised concerns. The European Union now expects the common currency Euro-zone to expand 1.5 percent this year, against an earlier estimate of 1.3 percent, and by 1.9 percent in 2016.
While the Japanese economy continues to recover, the outlook has turned more uncertain in recent months. Domestic consumer spending has not recovered as quickly as expected, and could limit the pace of growth this year. Retail sales declined in March when compared to the previous month, underlying the need for additional fiscal measures. Meanwhile, Japanese exports continued to expand at a healthy rate during the first quarter. Further export gains are likely as the Japanese yen remains relatively subdued and U.S. demand revives in the coming months. The Bank of Japan now expects the economy to expand 2 percent for the year ending March 2016, while inflation is forecast to be 0.8 percent.
Better than expected domestic demand is helping the Canadian economy to offset some of the slowdown in growth from lower oil prices. The trade deficit widened in March as the decline in the value of oil shipments negated gains in exports of manufactured goods. Though the Canadian economy likely stagnated during the first quarter of the year, the Bank of Canada expects growth to recover during the second half of the year.
GLOBAL INDUSTRY SPOTLIGHT FOR THE MONTH: AUTOMOBILES
The robust recovery in European demand and sustained momentum in U.S. sales volume continue to support the positive outlook for the global automobile industry. Though relatively cheaper fuel prices have reduced the incentive for consumers to replace their less fuel-efficient vehicles, stronger labor markets and wage growth have lifted demand for new cars. The SUV segment continues to see the strongest gains as more efficient engines, cheaper fuel, and enhanced utility make them attractive for most consumers. The demand outlook for automobiles in the emerging countries is more uncertain. Volume growth in China has moderated after several years of rapid expansion, while India is seeing early signs of a cyclical demand recovery. South East Asian countries have seen slower volume growth at the beginning of this year, while the market continues to shrink in Brazil and Russia.
Until last year, volume growth for the global automobile industry was driven by the two largest markets, China and the U.S. While Chinese demand continued to expand even during the 2008 global financial crisis, sales volumes in the U.S. quickly rebounded after the recession. In China, the consumers were mostly first time buyers entering the middle class as their income levels rose. On the other hand, U.S. demand was driven mostly by replacement demand from consumers who delayed buying new vehicles during the recession. These consumers were not discouraged by the high fuel costs, as the newer vehicles have seen a significant improvement in fuel efficiency.
After last year’s oil price fall, it was expected that U.S. consumers would not find enough fuel cost savings by switching to new vehicles and this would lead to slower volume growth. Sales data over the last several months have helped allay these concerns, as volume growth in the U.S. remains healthy. For the month of April, sales volumes were nearly 5 percent higher when compared to last year. If the current pace is sustained, annual sales could be close to the 17 million units high set in 2007 and a remarkable recovery from the 2009 low of 10.4 million units. The improving labor market conditions appear to be encouraging consumers to buy newer vehicles. Volume trends also indicate a marked preference for SUV’s as they have become far more fuel efficient, and also offer more utility.
After several years of declining sales, the automobile market in Europe has seen a robust recovery in recent months. New passenger car registrations in the European Union increased by 8.6 percent during the first quarter, when compared to last year, according to the European Automobile Manufacturers Association. The U.K., Germany, Spain and Italy have all seen healthy demand growth in recent months. If the current momentum is sustained, aggregate registrations in the Europe Union are likely to exceed the 12.6 million units achieved for 2014.
In China, passenger vehicle sales expanded by 9 percent during the first quarter, according to the China Association of Automobile Manufacturers. While the pace of growth in China continues to be better than any other large market, the country’s domestic demand growth has moderated when compared to earlier years. Part of this is due to the scale of the Chinese market, which is currently the world’s largest with annual sales of over 20 million units. Also, with tighter emission controls and other regulations to fight pollution, some Chinese cities have made passenger car ownership costlier.
Among the other emerging countries, India is seeing a moderate recovery in demand. If the country’s economy gains strength and interest rates decline, as expected, automobile sales growth is likely to gather speed in the coming months. Demand remains lackluster in South East Asia, led by Indonesia and Thailand where sales volumes declined during the first two months of this year. Volume recovery in these countries would depend on faster economic growth and further declines in borrowing costs. Meanwhile, automobile sales in Russia slipped substantially during the first quarter and the outlook remains uncertain. In Latin America, demand remains weak in Brazil while Mexico continues to attract more global automobile manufacturers seeking a low-cost location close to the U.S. market.
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