The global economy and the Israeli economy are expected to shrink in the first half of 2020 - significantly so, it appears - on the back of the adverse effects of the coronavirus. The stock markets, which fell sharply during the first quarter, already embody the sudden economic slowdown - either fully or partially. Paul Donovan, Chief Economist at UBS Global Wealth Management tells "Globes."
When is the global market expected to recover and are the central banks and governments working properly?
Donovan says, "Our economic outlook is divided into two phases. Phase one, which is the current phase, is a sharp downturn as governments deliberately try to lower GDP. The policy of health services leads to a de facto lowering of GDP in order to decrease the number of deaths from the coronavirus. In the second phase, which is the phase of economic recovery, governments will go back to trying to raise GDP."
"Clearly, these phases require very different policies. It is useless to try and stimulate the economy in phase one, because you can’t while lowering GDP. Policies in phase one are aimed at making sure the demand drop is as short as possible. In phase two, one can look for different stimuli."
According to Donovan, "in phase one, central bank policy in each country of region plays a minor role. Central banks need to make sure that the system has enough cash, so that banks in each country can grant loans to companies needing cash that government bond markets are working well enough to allow governments to raise money. The world's major central banks have generally managed to do all of this.
"In this phase, fiscal policy setters should aim at keeping businesses solvent and unemployment as low as possible. If the phase two bounce-back is to work, businesses and consumers need to be ready to support the economy. That cannot happen if businesses have failed or people are unemployed. Europe has offered some good schemes to keep people in employment. The US has put in place some support for saving jobs, but it is more limited."
Are there any further actions governments and central banks should be doing?
"One question is how quickly fiscal stimuli can be passed through to companies and consumers. Around a quarter of US small businesses are estimated to have enough cash to last for two weeks in a shutdown. Even a week's delay in getting aid through could be a serious problem for such businesses. Getting aid in place, rather than just announcing large numbers, is therefore a priority. The US is also lagging behind Europe a little here."
When do you expect the global economy to recover and which economies will emerge first from the crisis?
"This is almost impossible to answer. Unfortunately most economic data will either not be published, or will be of such bad quality as to be almost meaningless over the next few months. Most economic data is based on surveys. You have to be a very unusual person indeed to be filling in a survey in an economic lockdown. The pattern of the virus means that Asia has already emerged from phase one (lockdowns are ending or easing). Whether Europe or the US leads in emerging from the crisis will depend on whether the US manages to get the quick rise in unemployment under control."
Should government bond holders be concerned about governments’ huge deficits? "No. Fiscal stimuli amounts usually include loan guarantees. Therefore the actual amount of money that needs to be borrowed is significantly lower than the headline figure, since loan guarantees create government debt only if the borrower defaults.
"The total increase in central governments’ debts worldwide is still relatively low. Therefore, governments are not expected to have a problem financing debt repayment. Japan has a government debt:GDP ratio over 200%, and no problems in financing that debt. In 1945, the UK had government debt:GDP of 250%. It managed to finance it, and by 1970, the ratio was 50%. The current economic situation stems from a decrease in GDP. It is realistic to expect that governments will deal with the crisis by borrowing to offset the demand downturn."
Does UBS believe investors should now focus on investing in stocks, government bonds or corporate bonds?
"UBS’s Chief Investment Office is currently neutral on stocks, meaning - don’t hunker down and get out of the stock market completely, but also - don’t buy any more. They are overweight on high-rated corporate bonds. Stock prices rallied in recent years and they are currently fairly priced under our main economic outlook, which assumes gradual recovery during the second half of the year."
Donovan believes investors should not focus on any one market (Europe, the US or China, for example), but rather diversify their investments. Geographic diversification of assets has never been more important than it is in the current environment. Not only because there are different responses to the virus in medical terms, there are different responses to the virus in terms of economic policy. As a result, a well-diversified geographic portfolio is essential to managing risk."
Should we keep some gold in the portfolios? "
Gold is an asset which can help increase diversification in portfolios, and can be useful in that way."
Will the coronavirus crisis hurt Trump's chances of being reelected to the presidency in November? "
It is too soon to estimate what the impact of the virus will be on the US election. One should remember that the Democrats have yet to decide about a candidate and that the election date may be postponed by several months. The full economic and social implications of the situation are not yet obvious to American voters.
"Trump's approval rating has risen, but whether this reflects a ‘rallying around the flag’ in a time of crisis or genuine approval of his management of the crisis is too soon to say. Even before the crisis I believed that markets had too high a certainty about Trump being re-elected."
In conclusion, do you estimate the US dollar is likely to strengthen against key currencies such as the euro, the pound and the Japanese yen?
"Once the initial liquidity demands created by the crisis have faded, the dollar is more likely to weaken in the coming year. The US seems likely recover later than Europe, mostly due to the relatively late response of the Trump administration, to the progression of the virus, the timing of lockdowns, and the rise in US unemployment rates."
"The dollar starts from a position of being somewhat overvalued as well. Lower oil prices reduce demand for dollars, as does a lower level of global trade. Without a dramatic measure, this all argues for a lower dollar exchange rate."
Published by Globes, Israel business news - www.globes-online.com - on April 10, 2020
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