Bevan Graham
AXA Global Investors
19 July 2010
The worst of the global financial crisis appears to be behind us. Global economic growth has recovered strongly on the back of a strong inventory cycle, a recovery in global trade and the unprecedented levels of policy stimulus.
As was generally expected, economic growth in the key developed economies such as the United States, Europe and the United Kingdom remains relatively subdued. The key emerging markets including China, India and Brazil are experiencing stronger economic growth.
Equity markets have recovered in line with the recovery in economic activity, but more recently have become concerned about high sovereign debt levels in some countries and the sustainability of the economic recovery.
Developed economies are now entering the second, most challenging stage of the recovery. As the impact of the inventory cycle and policy stimulus begins to wane, the true underlying strength of the economic recovery will become evident. We expect economic growth will weaken in the second half of 2010.
The immediate priority is to get high budget deficits and rising public debt under control. This must however be balanced with the need to support economic growth. Household spending is also expected to remain weak as consumers focus on debt repayment.
These factors will be likely to keep growth in the key developed economies subdued. Economic growth is likely to remain strongest in the major emerging markets.
In time, we expect equity markets to recover from their most recent bout of weakness, reflecting the relatively strong medium-term economic growth outlook and a margin-led improvement in earnings.
Definitions:
Inventory cycle:
This is a process of adjustment where firms try to reduce inventory levels during tough business conditions which then reverse when business conditions improve. This over-compensation often ends up creating a burst of economic activity in the later stages of a recession, such as that seen over the past few quarters.
Policy stimulus:
Policy stimulus includes both fiscal and monetary policy. In the case of fiscal policy the government may increase spending, provide short term subsidies, or reduce taxes so that people have more money to spend. In monetary policy the central bank may lower interest rates, provide additional funding facilities, or even print more money to help stimulate the economy.
Sovereign debt:
When governments spend more than they collect in tax or build big projects, they need to fund this spending by borrowing money and these loans are referred to as sovereign debt. Typically, sovereign debt is regarded as risk-free because the government can always print more money (unless it is part of a currency union like the EU). However some governments can (and have in the past) refused to pay back their debt. But the downside of this means they are saddled with a higher interest rate, a poor reputation, and difficulty borrowing again.
Equity markets:
This is an organised and regulated market where people can buy and sell shares in companies. With Equity markets, people can buy shares in companies and may receive dividends and gains or losses as the price of their shares moves up and down. In New Zealand the equity market (also called the "share market" or "stock market") is the NZX, and in Australia there is the ASX.