Economic Outlook, Week 4

• Vanguard research suggests that the peak drag on consumption due to European Central Bank (ECB) monetary policy will occur in the first two quarters of 2024.
• Consumption accounts for 50%–55% of economic activity in the region.
• The research assumes that the ECB will maintain its current 4% deposit facility rate throughout the forecast period.
• A lowering of the ECB’s deposit facility rate could ease the drag on consumption, but this is not expected until at least the second half of 2024.
• Vanguard's senior economist, Shaan Raithatha, anticipates that the ECB will likely maintain high interest rates into 2024 to continue the fight against inflation, potentially impacting growth and employment.
• Vanguard provides annualized nominal return and volatility forecasts for various classes of equity securities based on their Capital Markets Model as of June 30, 2023.
• These projections are probabilistic and subject to change based on market conditions.
  
• Region-by-region outlook:
• United States:
  • Q3 GDP growth may be twice the original expectation of 1.5%, driven by strong consumption.
  • Inflation may support the Fed's 2% target in 2024.
  • Labor market is gradually softening.
• China:
  • People’s Bank of China (PBOC) cut reserve requirement ratio to boost sentiment.
  • More cuts expected, but limited room for immediate monetary support due to rising U.S. Treasury yields.
  • Some improvement in GDP growth due to policy support.
• Euro Area:
  • ECB raised deposit facility rate to 4%, suggesting the rate-hiking cycle is over.
  • Headline inflation slowed, indicating rate hikes may be done.
  • Expected contraction in euro area economy, potentially leading to a recession.
• United Kingdom:
  • Bank of England (BOE) paused rate hikes due to progress in inflation fight.
  • One or two more hikes possible, with policy rate peaking at 5.5%–5.75%.
  • Expected recession in late 2023.
• Emerging Markets:
  • EM central banks pausing or cutting rates due to slowing inflation and growth.
  • Commodities remain a risk factor.
  • U.S. dollar's strength impacts import/export prices, inflation, and growth rates.
• Canada:
  • GDP contracted in Q2, but leading indicators suggest a smaller contraction in Q3.
  • Bank of Canada (BOC) may hold overnight rate steady at 5.0%.
  • Inflation expected to moderate, but risks from higher shelter costs remain.
• Australia:
  • Reserve Bank of Australia (RBA) kept cash rate at 4.1%, balancing concerns about high inflation with economic uncertainty.
  • Expectations of one or two more rate hikes, reaching 4.35%–4.6%.
  • Headline inflation expected to fall by year-end, reaching RBA's target in late 2024 or 2025.
  • Vanguard predicts Canada's economy will return to growth in the third quarter, potentially prompting hawkish communications from the Bank of Canada.