FROM THE ECONOMIST INTELLIGENCE UNIT
(Forecast closing date: March 16th 2012)
The outlook for the global economy is brightening. The financial crisis in Europe is easing for now, thanks to the recent completion of Greece’s debt restructuring and continued efforts by the European Central Bank (ECB) to keep credit flowing. In the US, job creation and other indicators are improving. While the Economist Intelligence Unit’s forecast for global growth is little changed from last month, the rising risk of an oil shock tied to tensions over Iran’s nuclear programme has replaced the euro crisis as our main global economic concern.
We expect global GDP growth of 3.2% at purchasing-power parity (PPP) in 2012. This marks a fractional upgrade from our forecast of 3.1% last month, but it still means that the world economy is on course to slow for a second successive year. Operating conditions remain difficult, as many economies struggle to shrug off the effects of the 2008-09 global recession and the debt crisis in the euro zone. As an illustration of the challenges that remain, we expect OECD countries collectively to grow by little more than 1% at PPP this year—hardly a stellar performance by any standard. We do, however, expect global economic growth to accelerate in 2013, as the euro zone emerges from recession and emerging markets such as China see stronger momentum.
For now, the main story is the easing of financial strains in Europe—a prospect that was hardly imaginable just a few months ago, when the euro looked perilously close to collapse. Since then, Greece has completed a difficult debt-restructuring deal that has averted the immediate risk of disorderly default and exit from the euro. Just as importantly, the ECB has injected more than €1trn of liquidity into the financial system, making it easier for banks in the euro zone to get funding and causing government bond yields in countries such as Italy to fall to much more sustainable levels. While stresses in the euro zone’s “periphery” economies have by no means disappeared, the situation is looking more manageable.
Yet even as one risk to the global economy recedes, another is emerging. The recent rise in the price of crude oil, tied in part to geopolitical tensions over Iran’s nuclear programme, has raised fears of an oil shock. If Israel were to launch a military attack on Iran’s nuclear facilities, as it has threatened to do, crude oil prices could rise by 30-50% in a matter of weeks if not days. This would bring the global economic recovery to a halt and threaten another recession.
The US economy continues to enjoy surprisingly strong momentum, and we have marginally revised up our GDP growth forecast to 1.9% in 2012. Although the after-effects of the housing bust and 2008-09 financial crisis linger, recent data have offered encouragement. The economy grew by 3% at an annual rate in the fourth quarter of 2011, its fastest pace in six quarters. Unemployment, though still at 8.3%, has fallen from post-crisis highs, and the economy is creating more jobs. Consumers have shown an increased appetite for spending and borrowing. We remain cautious about the potential for a renewed slowdown in mid-year, especially given rising oil prices—the cost of petrol at the pump has increased by almost 19% since late December. Nonetheless, GDP data could yet surprise on the upside if recent momentum is sustained.
In the euro zone, meanwhile, the apocalyptic atmosphere of late 2011 has given way to a cautious sense that the crisis is moving from an acute to a chronic phase. The ECB’s injection of liquidity into the banking system, in two tranches of around €500bn each since December, has been a major factor in reducing stresses. So too has the conclusion, after fraught negotiation, of Greece’s sovereign debt restructuring, the largest in history. But stabilisation in the euro zone does not mean a return to economic health. We still expect euro zone GDP to contract by 0.7% this year. Austerity will exacerbate recession. The region will return to growth in 2013, but the recovery will be anaemic.
Japan’s recovery from the March 2011 earthquake, tsunami and nuclear disaster has been uneven. After strong growth earlier in the year, the economy contracted in the fourth quarter of 2011, as severe flooding in Thailand disrupted manufacturing supply chains. A strong yen has made life doubly difficult for Japanese exporters, although the recent weakening of the currency should offer some respite. We forecast real GDP growth of 1.5% in 2012 and 1.8% in 2013.
The developing world stands to benefit from a slight pick-up in US growth and the stabilisation of the situation in the euro zone. But for now, emerging markets remain in the midst of a painful adjustment to reduced import demand from their customers in the West. Exports have been fading in key Asian economies, with regional bellwethers South Korea and Taiwan both recording sharp declines in early 2012. China is also feeling the effects of economic weakness in Europe and the US, but we expect the world’s second-largest economy to avoid a hard landing and remain an engine of regional growth in 2012. More worrying signs are emanating from India, which is relatively sheltered from global headwinds but faces a year of political paralysis and slower economic growth. Overall, GDP growth in Asia and Australasia (ex Japan) will decline from 6.5% in 2011 to 6.1% this year.
The troubles in the euro zone have dimmed eastern Europe’s economic prospects. The recovery has lost momentum in recent months, and growth will weaken further as the region’s most important market and source of investment sinks into recession. Growth in the “transition economies” of eastern Europe will slow from 3.8% in 2011 to 2.3% in 2012. Several countries—including Hungary, Slovenia and Croatia—are likely to tip into recession.
Latin American economic growth slowed markedly in 2011 and will weaken further, to 3.6%, in 2012. On the positive side, Chinese demand will continue to boost commodity exporters, while low OECD interest rates will benefit the region’s larger and more globally integrated countries. Growth will pick up again next year, thanks to the recovery in the developed world, generally sound macroeconomic policies and resilient domestic demand across the region.
Economic growth will accelerate in the Middle East and North Africa, bucking the trend elsewhere in the emerging world. The region—outside of Syria—is bouncing back from the upheaval of the Arab Spring, which caused sharp downturns in countries directly affected by the unrest. The regional recovery should gather pace in 2012, as high oil prices, expansionary fiscal policy, infrastructure development in Saudi Arabia and surging growth in Libya boost regional GDP by 4%. But there are serious risks to this broadly positive outlook, especially the escalating geopolitical tensions over Iran’s nuclear programme. In Sub-Saharan Africa, the weak global outlook is the main threat to economic prospects in 2012. We expect regional GDP growth to slow from 4.4% to 3.8% this year, although it will pick up again in 2013-16.
The US dollar has lost ground against the euro this year as sentiment towards Europe has improved. This has prompted investors to venture into riskier assets again—also boosting emerging-market currencies—and to retreat from safe havens such as the dollar. By late February the dollar had slipped to US$1.35:€1, from US$1.27:€1 in early January. However, the euro is unlikely to continue its rise, and by mid-March it had retreated to US$1.31:€1. We expect the dollar/euro exchange rate to average about this level in 2012 as a whole.
The Japanese yen has weakened against the US dollar in recent months, falling from a high of ¥75.7:US$1 in late October 2011 to ¥83.4:US$1 in mid-March. This partly reflects changes in market sentiment, but intervention by Japanese policymakers may also have had an impact. Either way, a weaker yen is welcome news for Japanese exporters. We expect the yen to average ¥83:US$1 this year, and to continue to weaken in 2013-16.
Oil prices have risen sharply in recent weeks, reflecting the loss of supply from South Sudan, Syria and Yemen, as well as supply concerns related to tensions between Iran and the West. The price of dated Brent, the European crude oil benchmark, exceeded US$128/barrel in early March, the highest since July 2008.
Tensions over Iran’s nuclear programme will continue to loom large over oil markets. Military action between Israel and Iran, should it occur, would cause an immediate spike in the oil price. If the US were to be drawn into the conflict—possibly because of an Iranian strike against a US military base in the Middle East—the price would rise even higher. Another risk is that Iran closes access to the Strait of Hormuz, through which 20% of the world’s oil travels, in retaliation for US and EU sanctions. However, such a move would do most economic damage to Iran, and for this reason we consider a blockade of the Strait unlikely. Iran may seek other ways to retaliate, including using its influence in Iraq to slow that country’s oil output.
Despite the huge uncertainties weighing on the global supply picture and the rapid rise in oil prices in recent weeks, we have maintained our forecast for oil prices in 2012 at an average of US$110/b for dated Brent Blend. This is based on our central scenario that assumes military conflict involving Iran can be avoided. However, we expect prices to average around US$115/b in the first half of the year, as uncertainty surrounding the impact on global oil supply of the EU embargo and sanctions on Iran leads to a high risk premium in the price.
The Economist Intelligence Unit