2023 could bring continued recessions and a silver lining for financial markets

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About the Author: Nathan leaves is Global Chief Economist at Citi Research.

The coming year will be celebrated in China as the Year of the Rabbit, which is generally considered to bring peace, prosperity and good luck. However, the outlook for the global economy at present shows little evidence of these encouraging themes. The pandemic remains in play, the Russian-Ukrainian war continues, Europe suffers a devastating gas shock and the outbreak inflation prompted aggressive central bank rate hikes.

In short, the outlook looks unusually bleak.

In accordance with these observations, our

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According to forecasts, the global economy will be plagued by “gradual” recessions at the country level throughout the coming year.

Europe. The gas shock is likely to push the Eurozone and the UK into recession before the end of 2022. The Eurozone is expected to exit by mid-year, but the UK recession is expected to continue as the economy struggles with a lingering post -Brexit structural adjustments and the drag on monetary policy tightening.

United States. In the second half of 2023, the cumulative effects of Fed policy hardening of politics are likely to trigger a recession in the United States. Still, with the U.S. economy showing resilience to date, we expect recession will be moderate and growth will rebound in early 2024. In addition, the financial and balance sheet overhangs that have aggravated past downturns appear to be absent.

Emerging Markets. While the United States and Europe will suffer recessions next year, we are also seeing slowdowns in many emerging market economies, including South Korea, Brazil, Chile, Mexico and Russia. Notably, however, China appears to be a counterbalance to these recessionary pressures. We expect that the recent measures taken by the government to ease Covid restrictions will help unlock pent-up consumer spending and fuel stronger Chinese growth. Even so, the strength of the household sector response is debatable – the Chinese consumer has been cautious so far. And given the prospect of rising case numbers and increased burdens on the healthcare system, it remains to be seen whether the easing of Covid measures can be sustained.

Global Growth. Overall, global growth over the coming year is expected to slow to just under 2%, well below the near-trend performance (3%) of 2022. Excluding China, global growth is expected to unfold at a rate of less than 1%, approaching some definitions of the global recession. Inflation next year is expected to decline gradually but remain high on average. We interpret this pattern of weak economic growth coupled with persistently high inflation as bearing the imprint of supply shocks, in particular the pandemic and the disruptions of the Russian-Ukrainian war.

An important corollary is that the possibility of a global soft landing – a scenario in which major economies avoid recession altogether – appears to be receding. In Europe, a milder winter than usual would reduce, but not eliminate, the recessionary pressures of the gas shock. And in the United States, a recession of some magnitude will likely be needed to cool the red laboratory market. Even so, the Covid reopening has led to a rebound in global spending on services, which has supported European growth this year and could be an important buffer for Asia against global headwinds next year.

But our pessimism must be softened with appropriate humility. One thing we’ve learned is that forecasts for the coming year are usually wrong, and often wrong in extraordinary and unforeseen ways. In 2020, it was the beginning of the pandemic; in 2021, it drove up global inflation; and in 2022, it was the Russian-Ukrainian war, the omicron variant, and the persistence of inflation.

Glimmers of hope. With this in mind, and out of respect for the Year of the Rabbit, we should conclude with some glimmers of hope. First, by 2024, growth should rebound to just below its trend of 3%, and inflation should fall back to more historically normal values. Recessions predicted in 2023 will loosen labor markets and ease wage pressures, which should allow central banks to start easing policy.

Second, a dark year for the economy doesn’t have to mean a dark year for the financial markets. If the global economy is on a healing trajectory by early 2024, forward-looking investor sentiment should bottom out sometime next year. The most likely time for a reversal would be late spring, once central banks have broadly completed their rate hikes.

Third, the global economy has suffered severe shocks in recent years, but growth and spending have continued to pick up. Although current conditions look quite challenging, the resilience of the global economy (and individual economies) may still surprise us. Indeed, the luck and prosperity promised by the Year of the Rabbit could still prevail.

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