2021 provided some clarity—economies proved resilient, markets resurgent—after the confusion of 2020. As the new year approaches, there are certainly risks to be managed—inflation, labor shortages, a persistent global pandemic.
Fundamentally, though, there is much to be optimistic about. Accordingly, J.P. Morgan’s Outlook 2022 is confidently predicting that a vibrant cycle lies ahead, with a strong foundation already in place.
Indeed, as a result of the stimulus response to the pandemic, household and corporate balance sheets have rarely been healthier, while shifts in how we work and consume are accelerating innovation. It is entirely possible that these dynamics may usher in a far more vibrant economic environment, one that dispels the sluggish growth and weak productivity that characterized much of the 2010s.
These changes could have important consequences for the markets.
Policymaker Priorities are Shifting
Of those changes, the shift in emphasis on the part of policymakers in various global jurisdictions may have some of the most far-reaching consequences. In the U.S., Congress and the White House have spent over US$4 trillion responding to the pandemic, and now politicians are debating spending another US$2 trillion over the next 10 years.
In Europe, too, fiscal stimulus will continue to be a powerful force—a marked contrast to the early 2010s, when fiscal austerity damaged already weak economies. The European Union has agreed to spend more than 2 trillion euros (US$2.3 trillion) through 2027 to rebuild after the pandemic. EU areas of focus include digital innovation, research, climate focused spending, and pandemic preparedness programs. To offset the cost: proposed financial transactions taxes, digital levies and corporate “financial contributions”. Nevertheless, we believe the spending will be a net positive for economies and markets.
On the monetary side, both the U.S. Federal Reserve (Fed) and European Central Bank (ECB) are committed to generating stronger inflation outcomes with fuller employment. The Fed’s new “Flexible Average Inflation Targeting” regime suggests its willingness to tolerate inflation overshoots to support labor market strength. We expect that the Fed will resist aggressive policy tightening—even in the face of the highest inflation readings in a decade. Similarly, the ECB has also unveiled a new strategy that should remove the assumption that the 2% target was a ceiling for inflation, not a symmetric target.
In contrast to both the U.S. and much of Europe, the picture across Asia is far more nuanced. Many of the region’s developing economies have fiscal space, while developed ones have implemented significant fiscal easing.
However, China, the largest growth driver in the region, has tightened policy in order to rebalance its economy away from real estate.
This, though, is only part of the campaign by Chinese policymakers to rebalance growth drivers and restructure the economy. Their efforts include renewed tightening in the property sector, rapidly shifting internet regulations, ambitious climate change goals and new social campaigns focused on inequality and family values.
Chinese policymakers pursuing long-term reforms and priorities have been willing to do so at the expense of short-term growth. Over the medium-term, markets will likely have to come to terms with the implications of slower structural growth in China. Growth may be more sustainable, but the transition presents near-term risks to the global economy and financial markets.
Can China Finesse a Very Tricky Transition?
For many years, Chinese growth was fueled by easy credit, especially in real estate. Now, growth is slowing significantly. Year-over-year GDP growth in China fell below 5% for the first time outside of the pandemic, after policymakers tightened monetary and fiscal policy to rein in excesses in property markets and to crack down on the digitally enabled consumer sector. In exchange for slower nominal growth, policymakers expect a more sustainable economy driven by middle-class consumption and high value-add manufacturing. The simultaneous pursuit of wide-ranging macro and industrial policies increases the difficulty around policy implementation and introduces downside risks to growth and markets.
Already, the economic and market fallout from this shift has been severe. Opportunities can be uncovered, but we need to consider the full spectrum of opportunities and risks. Remember, too, that while most central banks are either raising rates or debating when to raise rates, Chinese policymakers are probably closer to easing.
China will continue its push toward a modern, high-income economy with world-leading technology, but this path is not assured, and the process will be bumpy. In the long-run, though, the transition could lead to a more durable Chinese economy, one that is marked by higher-quality (if slower-paced) growth.
A New Era of Innovation is Driving Value Creation
Some key drivers that could support higher quality and more sustainable growth globally in the years ahead are secular mega-trends. The pandemic entrenched some of those mega-trends: digital transformation, healthcare innovation and a greater commitment to sustainability. The question for many will be how to adapt to them and access the opportunities they present.
Although the digital transformation process will continue to have a huge impact in many sectors, one in particular is set for unprecedented change. In the auto industry—in many ways the epicenter of disruption—the electrification of the global fleet will prove to be a powerful force. One data point is telling: Electric vehicles have at least four times the semiconductor content of traditional, internal combustion engine ones.
Beyond autos, digital transformation is increasingly common in a wide variety of sectors from finance (payments and the blockchain) to retail (augmented reality), to entertainment (preference algorithms), to healthcare (predictive medicine powered by artificial intelligence).
The metaverse could make most life digital, for better or worse.
In another significant development, cloud computing continues to accelerate. Before the pandemic, 20%–30% of work was done in the cloud. Executives thought it would take 10 years for that share to grow to 80%. Now, it could only take three.
In the coming years, we expect the digital transformation of the economy to continue apace: Automation both in goods-producing and service industries will likely increase, possibly catalyzed by shortages in the labor market. Artificial intelligence and machine learning will continue to enable new technologies such as voice assistants and autonomous driving. Companies are investing in innovation at a record pace, and the fruits of these investments can help to underwrite an ever more digital global economy.
Throughout the course of the pandemic, healthcare innovation has delivered powerful vaccines with astonishing speed. Within the sector, researchers are now looking to see whether the mRNA technology behind many of these powerful vaccines could be used to treat other diseases.
With healthcare innovation set to continue to accelerate, it is anticipated that the industry is likely to become more personalized, more focused on preventative care and more digitalized. Wearables, telemedicine and gene editing are among the other most notable areas in terms of long-term growth opportunities.
2021’s COP26 meeting was one of the most notable developments in climate change policy in recent years. Stronger policy support from the U.S., Europe and China, as well as more frequent and destructive natural disasters, are calling attention to the need for sustainable development.
According to a number of estimates, US$4–6 trillion per year is needed this decade to support efforts to decarbonize the global economy. Furthermore, in order to reach U.S. President Biden’s goal of decarbonizing the energy grid by 2035, the U.S. will need to invest up to US$90 billion per year in new wind and solar generation capacity.
Significant innovation is present in the clean technologies sector, most notably carbon capture, battery storage, renewable energy sources and energy efficiency. The circular economy and agricultural technology are areas that merit attention, while carbon offset markets could also present opportunities.
When assessing the opportunities presented by our three megatrends, it’s critical to diversify across regions, styles and sectors. We also can focus on the megatrends’ enablers: cybersecurity, artificial intelligence, cloud computing and semiconductors. A new era of automation not only holds promise for well-positioned individuals and companies, but could also lead to higher productivity growth across the economy, underpinning a more vibrant cycle in the years ahead.
Monitor the Cross-Currents
Against this largely positive backdrop and the many newly emerging opportunities, expectations should perhaps be a little tempered by the scale of some of the challenges that lie ahead. In addition to the ongoing pandemic-derived uncertainty, other issues commonly cited as causes for concern are the changing priorities of Chinese policy-makers and rising inflation.
On the inflation front, this is expected to be a short-term phenomenon, with much of the pressure receding as the labor market normalizes and wages recover towards pre-pandemic levels. Similarly, it is thought that the shortfall in the availability of certain products (notably semiconductors), which has been pushing prices up, would diminish as global supply chains more or less resume normal operations in 2022.
Certainly, this normalization process has proven to be more persistent than many expected. The market, expecting a response to inflation dynamics, has brought forward policy normalization and lift-off expectations with regard to the Fed’s monetary policy. Much of what happens on this front will likely be influenced by how the pandemic develops in the coming year, especially in light of the uncertainties caused by the spread of Covid-19’s Omicron variant.
Coming to terms with the virus while the path of the pandemic has proven very difficult to predict, investors now take the uncertainty in stride. The bad news is that Covid-19 seems likely to become an endemic disease; humans will have to continue to adapt to it. The good news is that vaccinations, immunity gained from prior infection and new treatments all reduce the risks associated with the spread of the disease.
Currently, over 42% of the developed world’s population has completed the original Covid-19 vaccination program, and booster shots are now being distributed. Most estimates suggest that over 65% of the world has some form of protection against the virus, either from inoculation or prior exposure.
However, more Covid-19 outbreaks are likely, possibly due to new variants. To understand how markets may react, we can look at the U.S. experience with the Delta wave: An unexpected rise in cases battered the stocks of companies tied to mobility (such as airlines) and oil prices. The logic: The more Covid-19 spreads, the less travel is likely to take place, so demand for oil falls.
A more complicated consideration is the extent to which certain countries pursue “zero Covid-19” policies. The longer they do, the more potential disruptions there could be to manufacturing output and global supply chains. During the third quarter, companies such as Nike and Toyota cited supply issues due to lockdowns in places such as Vietnam. At one point, up to 50% of all garment and footwear manufacturers in the country were closed. Port shut downs in China in response to local outbreaks further snarled global shipping.
More broadly, economic growth forecasts for third-quarter annualized U.S. GDP plummeted from 6% to just 2% throughout the quarter amid disruptions to global supply chains that were exacerbated by the rise in virus cases. Business conditions in East Asia (especially China, Australia and Vietnam) further deteriorated.
Recently, increased vaccine penetration has led to a marked improvement in manufacturing operations, and there are tentative signs that global supply chain issues are starting to ease. Going forward, we expect the virus will continue to have a diminishing impact on economies and markets, even if certain sectors remain vulnerable to an increase in Covid-19 cases.
The Future is Bright
With strong foundations in place, the global economy should emerge from the pandemic era stronger than it was before. A vibrant economic cycle is already underway. Considering the unique dynamics and interplay of economies and markets, better days are ahead of us in 2022.
This article is based on J. P. Morgan’s Outlook 2022: Preparing for a Vibrant Cycle. A full copy of this comprehensive, annual forecast can be accessed here.
All source and source dates quoted from this article can be referred to the J. P. Morgan’s Outlook 2022: Preparing for a Vibrant Cycle.