Global double dip recession unlikely but recovery will be long and slow

Developed economies are still in a subdued recovery and the process of debt reduction and repair of balance sheets, including public sector finances, will be longwinded and will constrain growth for many years, according to a new report.

The fiscal austerity plans in Europe and the UK, the effectiveness of past Quantitative Easing (QE) in the US and elsewhere means there is a small possibility of an early rate hike in the UK, says the latest quarterly economic analysis from the Association of Independent Financial Advisers (AIFA).

The risk of policy error is high, the analysis reveals. ‘The concerted onslaught on the EU economies that took place in the early Spring abated somewhat over the Summer, allowing the Euro to regain its dignity if not too much strength. The market mood lurched from paranoia about a double dip to almost euphoria over better economic data on various fronts.
The only real consensus seems to be that no one really knows just where economies and markets are going,’ it says.

‘Despite growth remaining very anaemic, we believe that both fiscal and monetary stimulus will be effective enough to avoid widespread deflation. Although dis-inflationary pressures will persist, these policies should avoid, for now, a deep new recession. However, there remain downside risks on this front, with concerns in a number of areas,’ it adds.

Given the panic over the European Union earlier in the year, the surprise has been the strength of the recovery, especially in Germany. The IfW has recently revised up its 2010 GDP forecast from 2.1%, made last June, to 3.4%.

‘However, the German finance minister sounded a more cautious note. Data from the US has been more mixed with the Federal Reserve reporting signs of slowing throughout the US economy and the housing market once again giving cause for concern,’ it warns.

It points out that the US Fed stands ready to act to provide some stimulus if the economic slowdown intensifies and will apply more Quantative Easing (QE) via the further purchase of US Treasury Bills. ‘In the developed world generally monetary policy will continue to be very loose across most major markets with the Bank of England also possibly reinstating QE. The European Central Bank ECB is also undertaking its own form of QE by buying in government paper from the more troubled peripheral economies,’ it says.

Perhaps one of the greater risks to the recovery could stem from the EU where there is still a risk of some form of default from Greece amongst others. ‘However it would seem that the real nub of the problem is not that issue, but the problems this would cause for many banks which hold large amounts of riskier sovereign paper. Notwithstanding the stress test results in July, markets are still very wary of the health of European banks,’ it adds.

The report also says that markets are worried by some signs of slowing in the Chinese economy as the authorities respond with policy tightening to head off the early signs of rising inflation, as well as a property boom. Problems, many of which have arisen from natural disasters, are also afflicting several major emerging economies.

‘Despite these troubles, many emerging markets seem to be already priced for perfection and trade on little or no discount to developed markets. Investors may be already discounting the excess growth potential in these markets as they flood them with cash,’ it adds.

‘Despite the obvious difficulties being encountered in a number of Eurozone countries the risk of a double dip recession still appears less likely. A gradual subdued world recovery led by emerging markets remains the likeliest scenario. The more positive than expected growth and unemployment figures seen in the UK and Germany are helpful. Whilst emerging markets should see greater growth, direct investment may not be the route. Rather, investing through quality stocks in those markets looks preferable,’ said Robert Sinclair, director of AIFA.