The global economic outlook is positive, with economies performing well across the US, Europe and Asia, including Australia. It is unusual for synchronised growth like this to happen around the world.
Economic and monetary policy stimulus is likely to continue to drive global GDP into the future. The question is: how sustainable is the current situation?
Shane Oliver, AMP Capital's chief economist, notes the US economy has shown signs of strength for some time, though it hasn't shown up in headline GDP numbers.
“Demand in the US economy has been very strong from consumers and there has been a higher level of business investment," says Oliver. “However, there is a drag on growth coming from a rundown of stockpiles and lower trade numbers because as America grows, it imports more than it exports."
In the US, GDP is tracking at 2.5 per cent, which is lower than the average figure of 3.22 per cent – but Oliver says despite this, business and consumer confidence levels are near all-time highs.
“Overall, growth in the US has resulted in a very tight labour market, low unemployment and signs wages may be starting to pick up," he explains.
Oliver attributes the strength in the US economy to the end of economic inertia following the financial crisis of 2007/2008.
“This has been supported by recent tax cuts and an increase in government spending this year. But overall the US economy is pretty strong, and that is why the US Federal Reserve has been moving to return monetary policy to more normal conditions. US interest rates are likely to rise three times this year, for a total move of four hikes in 2018," he adds.
However, Oliver says the economic stimulus the US is experiencing in the form of heightened public sector spending and tax cuts may be unnecessary, given the trajectory on which the economy is already tracking.
“The economy does not really need it; spending cannot be ramped up as much as it may have years ago," he says.
“That could lead to a situation where US inflation rises more than expected, and interest rates may have to go higher than anticipated to keep a lid on inflation. This could cause bond yields to spike higher, prompting problems in share markets. This was the cause of volatility in February in US share markets," he says.
All things considered, the US economy is healthy, which is contributing to strong growth elsewhere in the world, including Europe and Japan.
US recovery lifts other markets
Given their delayed economic recovery, other major economies such as the EU and Japan have more capacity than the US for growth.
For instance, in February, the Economic Sentiment Indicator for the European Union recorded a reading of 114.3 points, which is at historically high levels.
In Europe GDP growth is at 2.6 per cent. Oliver attributes the improvement in GDP figures to accommodative monetary policy, and declining fears about the potential breakup of the EU.
He says the banking system in Europe is returning to normal conditions. But inflation is well below the European Central Bank's target rate of two per cent or under. Inflation in Europe is sitting at around one per cent. The ECB is still applying monetary policy stimulus, pushing interest rates down to around zero or lower.
As a result, Europe's economic recovery is lagging behind the US. Says Oliver: “The ECB has not signalled any interest rate rises and there's no sign of the economy overheating. Europe is still in a growth acceleration phase."
Across in Asia, Japan's economy is recovering after five years in and out of recession.
“That pattern seems to have faded," says Oliver. “Japanese economic indicators are quite strong, as strong as they are in Europe, in terms of business and consumer confidence. Industrial production is also strong, and household spending is finally improving. The unemployment rate is low, which reflects a tight labour market."
Prospects are continuing bright, he adds. “Beyond that, there's capacity in the Japanese economy. The inflation rate is 1.4 per cent, which is well below the Bank of Japan's target, which is around 2 per cent."
Japanese monetary policy is still very accommodative, more so than in Europe. The country has a negative interest rate, so the economic recovery is lagging behind that of the US and Europe. However economic growth is healthy by Japanese standards.
Outlook for Australia
The global economy is expected to grow by around 3.1 per cent this year and next, which bodes well for the local economy.
Additionally, demand for Australian commodities and an improvement in national income is forecast to drive economic growth into the future.
“Overall, it's a pretty good backdrop for Australia. But like Europe and Japan, we still have more capacity in our economy than the US, which is why we are NOT raising interest rates just yet," Oliver says.
Australia's cash rate has remained at 1.5 per cent since August 2016 and the RBA has not yet signalled it has the appetite to raise interest rates.
“There is still a significant amount of underemployment. Our view is the Reserve Bank won't raise interest rates until sometime next year," says Oliver. “That's because we have underemployed resources keeping inflation below the target band of 2 per cent to 3 per cent."
There's scant evidence of any potential for an economic downturn in the near term, which is normally precluded by high inflation or over-investment in certain parts of the economy. Says Oliver: “We're not seeing this at present."
While certain geopolitical risks remain, and there are some concerns inflation is on the rise in the US and around the sustainability of China's economy, the global economic outlook appears positive, unforeseen events and risks notwithstanding.
- The US has led the world with its economic recovery, driven by the end of economic inertia and could now be heating up, due to tax cuts and higher government spending.
- Europe and Japan are seeing improved economic performance with plenty of capacity for future growth.
- Underemployed resources are likewise keeping Australia's inflation low and an interest rate rise is unlikely in the short term.