Macro Insights Weekly: Revising down China forecasts

Commentary: After US growth forecast revisions, it’s China’s turn; what does it imply?

Last week, we revised down our US real GDP growth forecasts for 2022 (1.5%) and 2023 (0.3%). This week, it’s time for downward adjustments to our China forecasts. There, real GDP growth looks likely to slow to 3% this year, with a modest recovery to 4% in 2023. Detailed write-up from our China economists can be found in the following section.

China’s slowdown, along with brewing recession-like conditions in the US and EU, is a potent mix. As the G3 slows, so will the global economy. We reckon that global GDP growth would likely ease to 2.5% in 2023. This compares to 3% in 2022 and 6.2% in 2021.

A combination of rising cost of capital and weakening demand is bad news for company earnings, which by extension points to further downside for global equities despite the already-sharp selloff this year. Equally worrisome is the overall tightening of financial market conditions, especially in Europe. This could cause credit market distress and elevate perceptions of bankruptcy risks, as already seen in the past week’s widening of spreads some large European companies.

We think three channels of distress could potentially affect global financial stability:

Rising yields cause refinancing difficulties for several highly leveraged multinational conglomerates. Their bond and equity holders, spread across global financial market institutions, suffer large losses, affecting their bottom-line substantially, especially if some those positions themselves are leveraged.
Ongoing currency market volatility worsens, creating waves of competitive depreciation pressure across geographies in developing and emerging markets, which then transpires into further tightening of hard currency liquidity, calling into question the external debt sustainability of a widening group of sovereigns and firms.
Negative wealth effect from historic asset market selloffs causes cascading margin calls on private investors, leading to forced selling and a destructive and negative feedback loop ensues.

In these three scenarios, we can expect central banks to step in, deflationary risks to come back into discussion, and fixed income markets to begin pricing in the end of the tightening cycle. But there is one major caveat; the US Fed would need a lot before relenting, as its focus is primarily internal factors like wages and rents. Any discussion of the end of the ongoing policy tightening cycle is therefore premature.

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