Beating back inflation, but at what cost?
Joe Davis, Vanguard’s global chief economist, gives a high-level overview of where the economy and markets are likely headed in 2023. Inflation is abating, thanks in part to central banks’ aggressive actions, but it may come at a cost, with recession likely in most developed markets. But it may not be all bad news for the financial markets.
.
Vanguard economic and market outlook for 2023: Beating back inflation
Our outlook's theme for 2023 is "Beating Back Inflation." Ultimately, for 2023, we see inflation coming clearly down; but disinflation will come at a cost. It will come at a cost of recession across several major markets.
Some of this scenario was priced by the financial markets. Nevertheless, we may see some volatility in the months ahead. Now we've all been contending with almost generational high inflation, which, of course, has been a reflection of both tight supply—commodity markets and otherwise—as well as very strong labour demand.
Now, we see inflation peaking as we speak, which is a clear positive for consumers and households. But as I mentioned, this further disinflation will come at a cost of some demand destruction. For no other reason, central banks have to continue to weaken some of the labour demand which is leading to higher wage growth and is one of the reasons why now we're starting to see a broadening in inflation pressures.
When would a recession occur?
As we all know, no recession is pleasant, and our recession baseline is not guaranteed. And they are certainly tough to forecast in advance, but that is our forecast, for no other reason than a soft landing, in our judgment, is unlikely since a further slowdown in the labour market is needed and wage growth, quite frankly, has to come down if we are going to achieve price stability in the long run.
When would this recession potentially occur? By our best estimate, it's roughly in the middle of 2023. Now that timing will vary by market and economy. The biggest reason why we have that as the start in the United States is by that time the federal funds rate, the rate that the Federal Reserve targets, will at that point start to become above the rate of core inflation. And it's those conditions that really define restrictive territory of monetary policy, and in every recession since World War II, that Fed funds rate has exceeded the rate of inflation. That's good to bring inflation down, but it tends to come at a cost of a weaker labour market.
Our outlook for fixed income
In the bond market, bond yields could rise somewhat further. But given our outlook for central banks and how high they may take interest rates, the inversion of yield curves around the world, it's more likely than not that we will see a peaking in government bond interest rates over the course of 2023.
More positively, we will also see potentially a greater diversification benefit between stocks and bonds that certainly tends not to be the case when inflation is rising, but it certainly tends to be the case when inflation is falling.
Our outlook for equities
We know in the United States, some of that froth that we were concerned about, that has been eliminated or is being eliminated. Areas such as technology and overvalued growth stocks, we've seen a significant underperformance from them over the course of 2022.
Now currently the U.S. equity market, it’s near fair value range. It means that losses could continue. But the further any losses in the near term, more likely our long-term return projections would improve.
A reason for optimism
History clearly shows one thing, and that is that financial markets turn up before the economy does. And I like to say that with a bit of good fortune, by this time next year, the economic outlook should be a better one. And if I'm right, the financial markets will lead the way.
By Vanguard Australia
vanguard.com.au
Hot Issues
- ATO encourages trustees to use voluntary disclosure service
- Beware of terminal illness payout time frame
- Capital losses can help reduce NALI
- Investment and economic outlook, August 2024
- What the Reserve Bank’s rates stance means for property borrowers
- How investing regularly can propel your returns
- Super sector in ASIC’s sights
- Most Popular Operating Systems 1999 - 2022
- Our investment and economic outlook, July 2024
- Striking a balance in the new financial year
- The five reasons why the $A is likely to rise further - if recession is avoided
- What super fund members should know when comparing returns
- Insurance inside super has tax advantages
- It’s never too early to start talking about aged care with clients
- Capacity doubts now more common
- Most Gold Medals in Summer Olympic Games (1896-2024)
- SMSF assets reach record levels amid share market rally
- Many Australians have a fear of running out
- How to get into the retirement comfort zone
- NALE bill passed by parliament
- Compliance focus impacts wind-ups
- LRBA interest rates increase for 2025
- Income-free areas set to increase from 1 July
- Most Spoken Languages in the World
- Middle-to-higher incomes boosting SMSF growth
- Investment and economic outlook, May 2024
- Transitioning into retirement: What you should know
- Plan now to take advantage of stage 3 tax cuts
- Deeming freeze a win for Age Pensioners
Article archive
- April - June 2024
- January - March 2024
- October - December 2023
- July - September 2023
- April - June 2023
- January - March 2023
- October - December 2022
- July - September 2022
- April - June 2022
- January - March 2022
- October - December 2021
- July - September 2021
- April - June 2021
- January - March 2021
- October - December 2020
- July - September 2020
- April - June 2020
- January - March 2020
- October - December 2019
- July - September 2019
- April - June 2019
- January - March 2019
- October - December 2018
- July - September 2018
- April - June 2018
- January - March 2018
- October - December 2017
- July - September 2017
- April - June 2017
- January - March 2017
- October - December 2016
- July - September 2016
- April - June 2016
- January - March 2016
- October - December 2015
- July - September 2015
- April - June 2015
- January - March 2015
- October - December 2014
January - March 2023 archive
- China’s economic rebound lowers the odds of a global recession
- No plans to extend NALI compliance relief, says ATO
- Why most investors want human advice
- Comparison: How Long It Takes To Decompose?
- Contribution caps to stay the same for 2023–24 year
- Three simple steps for financial wellness
- Draft super objective to ‘protect super from interference’
- Beating back inflation, but at what cost?
- Why superannuation fund fees matter
- 100 Most Influential people in the world.
- TBC set for double indexation from 1 July
- ATO issues fresh warning on illegal early access schemes
- When to be proactive about your portfolio
- Digital advice firm optimistic QAR will ‘reset financial advice’
- 2022 by the numbers
- ATO raises alarm on asset protection scheme for SMSFs
- Downsizer age reduction now in force
- SMSFs cautioned on ‘strict conditions’ with SMSF lending
- Countries with the highest GDP per capita between 1800-2040
- Transitioning into retirement: What you should know
- Auditor flags surprising traps with e-signatures and SMSFs
- A review of the last two decades in investing