When Covid-19 struck, the global economy suffered its steepest decline on record with businesses having to close due to lockdowns. In response to the crisis, governments and central banks stepped in to help mitigate the effects by providing fiscal stimulus and monetary relief to help support their economies, assist businesses and boost growth.
With the rollout of vaccines and the easing of restrictions, economies around the world roared back into life, showing unprecedented growth. However, many countries are now experiencing their steepest rise in inflation in three decades, even as global growth is slowing. With things getting back to ‘normal’, many governments are looking to reduce this fiscal and monetary support.
The UK government ended its furlough scheme in September 2021 and is looking to rein in its Covid spending. The Treasury is thought to have pushed back against proposals for more Covid restrictions partly because of the cost of reintroducing financial support for businesses. Meanwhile, the Bank of England became the first major central bank to raise interest rates and tighten monetary policy after the Covid-19 pandemic-focused support of the last two years.
The US government has committed nearly $6 trillion since early 2020 to fight Covid-19 and cushion the economic blow from the pandemic. However, this year it looks like the US economy will have to live without much in the way of help from the Federal Reserve (the US central bank) or the government – especially after the derailing of President Joe Biden’s $1.75 trillion spending plan. The Federal Reserve has said it would not hesitate to act to contain inflation and many are expecting a few interest rate hikes in 2022.
Government debt soared during the pandemic as the government sought to support the economy. Moving forwards, the government aims to both reduce its spending and generate additional revenues, for example by raising taxes.
Source: Pantheon Macroeconomics using data from OBR, Oct. 2021
Meanwhile, policymakers in China have recently been prioritising the balance of the economy over the pace of its growth. However, growth has now slowed to ‘just’ 4% - a level not seen for many years. Over the past decade China’s authorities have consistently shown their willingness to loosen monetary and fiscal policy to prop up the economy.
Amid early signs that inflation may be fading, many are expecting China to roll out fiscal and monetary support to stimulate a re-acceleration of the economy.
Hear the thoughts of Azad Zangana, Senior European Economist and Strategist at Schroders. Schroders is one of our investment management partners and currently manage the Omnis Japanese Equity Fund.
With the world returning to normality, governments are now looking to be more fiscally responsible by winding down pandemic support. Central banks controlling monetary policy around the world have also shifted their focus from stimulating the economy to combating soaring consumer prices that arrived during the recovery.
Cutting down on spending will mean there is less money circulating within the economy, which should help ease inflationary pressures. Lower inflation would also mean there is less pressure on central banks to hike interest rates.
As governments step back their support, this should provide a supportive environment for government bonds, albeit one that faces a challenge from the simultaneous withdrawal of central banks’ bond purchase schemes.
There is also the possibility that as governments reduce their support, it creates a near-term headwind for economic growth. Ordinarily, this would be a challenging environment for equity markets, but we expect a boost in consumer spending to outweigh any negative impacts.
