JEDDAH/LONDON — The last 25 years have been the era of globalization. Fuelled by the birth of the Internet and the emergence of multi-national technology giants, it is a phenomenon that has driven an unprecedented expansion in trade and financial flows. But the pendulum now appears to be swinging against it, with voices from both the political left and right rejecting it for being either too capitalist or too centralized, BMO Global Asset Management said in its annual Global Investment Forum report released early this week.

The retreat from global leadership by the US is arguably accelerating the process. As China also turns more introspective in its economic policies, globalization is starting to give way to regionalization. Any shift to regionalization will likely present increasing economic and political risks. While it is not expected that globalization will be reversed, it has stalled and the break-neck economic expansion of the last two decades is unlikely to be repeated, the report noted.

Further more, the report said fears of a US recession are on the increase. These fears have been fed by the inverted Treasury bond yield curve, a reliable predictor of recessions in the past. Trade tensions increase the risks: A full 25% tariff would reduce Chinese growth by 1% and US growth by 0.5%. Their direct impact may be limited but they have hit business confidence and investment. The US economy has certainly slowed but a recession is not seen in the near term. The Federal Reserve has already cut interest rates and has scope to go further. Consumers, secure in their jobs and receiving decent wage increases, are happy to keep spending. And with 2020 being an election year, President Trump will be keen to secure a vote-winning trade deal with China, thereby removing that drag on sentiment.

For the world economy ‘muddle through’ is the order of the day with manufacturing staging only a slow recovery.

Moreover, the report said there is no timelier and more pertinent topic of climate change than the need to decarbonize the global economy. The UK, France and Sweden are now amongst the countries that have set themselves the objective of net zero carbon emissions. Meanwhile, big corporate names like Amazon.com, Daimler and Duke Energy, one of the largest electricity companies in the US, trumpeted their own net zero carbon commitments. If the target of zero net carbon emissions is to be met and dangerous global temperature rises avoided, the population will need to make fundamental changes to the current way of living. The pathway to decarbonization is straightforward in some sectors. In energy generation, for example, renewables are taking an increasing share and are falling in price. Feeding an expanding global population in a carbon-neutral fashion is, however, more problematic. Negative emissions technology offers hope that the carbon budget can be balanced, but the pace of this type of innovation needs to be accelerated.

Besides, with interest rates at rock bottom and the impact of financial asset purchasing programs apparently waning, central banks are running out of monetary policy options for tackling the next global economic slowdown, the report said.

Fiscal policy is gaining increasing backing as the next solution, with proponents of ‘Modern Monetary Theory’ advocating the use of quantitative easing to finance government spending. With low and stable inflation giving them more flexibility, central banks are talking up the need for fiscal expansion, and speculation is rising that it could be used to fund green policies.

The report also noted that selling massive volumes of high-value cars across the world has been the foundation of Germany’s economic strength in recent decades. But as the structural switch to electric gets under way, this highly successful model is under threat. With other key sectors such as chemicals and plastics also facing challenges, Germany’s economic dominance will be tested. The impact could be so great that France, with its low reliance on auto exports and recent labor market reforms, could assume the leadership of the Eurozone economy.

These views are mapped to provide BMO Global Asset Management with its overarching asset allocation view that sentiment remains broadly positive on equities given the generally dovish rhetoric of the main central banks and reasonable performance of corporate earnings. However, the positioning is neutral on government bonds, where the benefit of supportive monetary policy and low inflation is being offset by stretched valuations and ultra-low yields. While rich valuations also weigh on the credit market, the emerging sovereign bond market looks better set on the back of supportive central bank policy and low global inflation. In currencies, the positioning is negative on the US dollar given the prospect of further easing by the Federal Reserve. The outlook is positive on the euro and the yen on relative valuation considerations.

Steven Bell, Chief Economist, BMO Global Asset Management, commented: “Our view is that although aggregate demand is starting to slow, we do not feel that we are nearing a recession. Profits are high, earnings are increasing, and consumers have increased their savings, which will provide further influx into the economy. We have identified key pockets of opportunity, as well as highlighted areas where we see risks, such as inflation. We believe the major opportunity for 2020 lies within investing in risk assets, which we expect to outperform in the coming year.”

“These views outline the core of our thinking that lays behind any investment decision.”

World trade will continue to face strong headwinds in 2019 and 2020 after growing more slowly than expected in 2018 due to rising trade tensions and increased economic uncertainty. WTO economists expect merchandise trade volume growth to fall to 2.6% in 2019 — down from 3.0% in 2018. Trade growth could then rebound to 3.0% in 2020; however, this is dependent on an easing of trade tensions.

WTO Director-General Roberto Azevêdo said: "With trade tensions running high, no one should be surprised by this outlook. Trade cannot play its full role in driving growth when we see such high levels of uncertainty. It is increasingly urgent that we resolve tensions and focus on charting a positive path forward for global trade which responds to the real challenges in today's economy – such as the technological revolution and the imperative of creating jobs and boosting development. WTO members are working to do this and are discussing ways to strengthen and safeguard the trading system. This is vital. If we forget the fundamental importance of the rules-based trading system we would risk weakening it, which would be an historic mistake with repercussions for jobs, growth and stability around the world."

Trade growth in 2018 was weighed down by several factors, including new tariffs and retaliatory measures affecting widely-traded goods, weaker global economic growth, volatility in financial markets and tighter monetary conditions in developed countries, among others. Consensus estimates have world GDP growth slowing from 2.9% in 2018 to 2.6% in both 2019 and 2020.

The above-average trade growth of 4.6% in 2017 suggested that trade could recover some of its earlier dynamism, but this has not materialized. Trade only grew slightly faster than output in 2018, and this relative weakness is expected to extend into at least 2019. This is partly explained by slower growth in the European Union, which has a larger share in world trade than in world GDP. — SG