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By Anujeet Sareen, CFA, Portfolio Manager, Brandywine Global
- In the second part of this series, we review the factors that could contribute to a decline in global growth.
- While the fed funds rate remains low relative to history, the pace at which the Federal Reserve raised rates, along with quantitative tightening, may have tightened conditions too quickly.
- Latent wage and inflation pressure in the US and other OECD economies may render future central bank easing ineffective.
- Financial and economic conditions in China, including flagging M1 growth, credit growth, and a dwindling current account surplus may offset a more sanguine outlook for the Chinese and global economies.
The bearish view of the economic cycle
Federal Reserve tightening
A good place to start evaluating the bearish case for global growth is to consider policy changes at the US Federal Reserve (Fed). As we know, the Fed raised interest rates by over 200 basis points (bps) over the last few years – by a variety of measures, that’s pretty substantial. We know interest rates have declined structurally over the past 40 years through multiple cycles; so, one way to think about how monetary tightening matters on a cyclical basis is to consider how much rates have risen relative to the past 10 years. On this basis, the Fed tightening cycle is cause for concern. Five out of the last six recessions were preceded by a similar increase in the real fed funds rate relative to its longer-term average. Admittedly, the level of interest rates, particularly in real terms, does not appear onerous. And yet the ongoing debate among Fed officials and economists on what truly is the “neutral” level of interest rates suggests there is considerable uncertainty on this issue. Meanwhile, history suggests changes in interest rates have a material effect on the economy.