World economy faces strong headwinds

March 08, 2016 18:38
Capital may flow out of the United States again in the second half, seeking better returns. Photo: Bloomberg

Risky assets have recorded their worst performance at the beginning of the year. The concerns are about developed economies like the United States and Europe, a slowdown in China and the bearish commodities market.

Although many rebounded recently, it may because there was too much pessimism in the previous weeks, allowing market sentiment to improve.

However, we noticed there were no good signs as far as the economic fundamentals are concerned.

We expect risky assets in the US and Europe to recover in the short term along with a recovery in the oil price.

But it’s hard to tell how long the recovery will last. If US economic fundamentals significantly improve, the Fed’s next interest rate hike could cast shadow on global stock markets.

In China, the government has launched a series of stimulus measures, including cuts in the reserve requirement ratio (RRR) and a plan to increase the fiscal deficit ratio.

However, we don’t know how much of the liquidity released by the central bank would actually support the real economy. Neither do we know how much will go to the stock and property markets.

Meanwhile, in a proactive move, the government raised the fiscal deficit to GDP ratio to 3 percent, the international threshold set by the European Union.

While the fiscal policy would take time to take effect, how to induce the private sector to invest in the real economy remains a tough task.

The Chinese central bank will have limited space to further reduce the RRR. We expect the RRR will be as low as 14 percent, representing 3 percentage points less than the current 17 percent level.

It remains uncertain if the monetary stimulus will have an impact in terms of stimulating the real economy.

On the other hand, the renminbi exchange rate has stabilized thanks to government's hard work.

The key is to improve the people's confidence, thus slowing the pace of capital outflow.

As for the US, we believe the Fed may not be able to raise interest rates again this year if the economic figures don't improve substantially.

Capital may flow out from the US again in the second half, seeking better returns.

Emerging economies like Brazil are becoming increasingly attractive, given the low valuation of their currencies and stocks.

Some of my friends in fund houses are now searching for investment targets in Asia and Europe.

This article appeared in the Hong Kong Economic Journal on March 8.

Translation by Myssie You

[Chinese version 中文版]

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adjunct professor in the Department of Finance at HKUST Business School