In its ‘2023 Global Outlook’ report, the investment giant outlined that the global economy has entered a period of high volatility and that previous investment strategies will no longer work. As recession looms, the central bank’s policy of raising interest rates to fight inflation is causing more harm than good to the economy.
The world’s largest asset manager has confirmed what financial analysts have been warning us about – a global recession looms at large. In its ‘2023 Global Outlook’ report, BlackRock writes that the global economy has exited the era of ‘Great Moderation’ – a four-decade period of stable economic activity and inflation – and entered into a new era of high economic and market volatility that is here to stay.
The investment giant says the main reason for this economic downturn is the production constraints caused by the COVID-19 pandemic. The shift in consumer spending from services to goods demanded increased production during an economic shutdown, which led to labour shortages and supply-chain issues. This meant the economy could not produce as much as it used to without creating high inflation, making central banks across the world hike interest rates on their currencies to keep the economy from falling into a recession.
Although some of the production constraints will ease as global economies open up and production and spending slowly return to pre-pandemic levels, there are three key indicators that the company says will continue to hold the economy in a cycle of high inflation, which are: ageing population causing more worker shortages in major economies; geopolitical tensions risking globalisation and affecting supply chains; and the transition to net-zero carbon emission which is causing a mismatch in energy supply and demand.
According to BlackRock, the central banks’ strategy of rising interest rates and engineering recessions is not the way to resolve production constraints, which are the real cause of inflation and economic volatility. The investment firm says that the central banks are only able to influence demand in an economy, which leaves them with either of the two options; bring inflation down to the targeted 2% by crushing consumer demand to a level that the economy can produce, or continue to live with the rising inflation.
“For now, they’re all in on the first option. So recession is foretold. Signs of a slowdown are emerging. But as the damage becomes real, we believe they’ll stop their hikes even though inflation won’t be on track to get all the way down to 2%,” wrote BlackRock.
The U.S Federal Reserve’s current rate hiking cycle is the fastest since the 1980s. This has heavily impacted the housing sector. Home sales are declining sharply this year compared to past hike cycles in the 1970s, 80s and early 2000s during the U.S housing boom. The housing crisis is a major indicator of recession.
Repeated cycles of rising inflation have caused bond yields to soar, and equities and fixed income to crash, which is in sharp contrast to the Great Moderation era. A hallmark of the financial markets was that bond prices would go up when stocks are sold off. BlackRock says that this relationship has broken in the current period of high market volatility. The asset manager has warned investors against using the old strategy of “buying the dip”, saying that it won’t work like it did in the past recession cycles. BlackRock does not expect the markets to return to conditions that will create a joint bull run for stocks and bonds any time soon, the likes of which have occurred in the past.
Megabanks Morgan Stanley and Deutsche Bank have already warned that U.S stocks could plunge by more than 20% next year due to the ongoing economic downturn and liquidity crisis that is fueled by the Federal Reserve’s interest-rate hikes. Next week, the Bank of England (BOE) is set to raise interest rates by half a percentage point to 3.5% as it fights the UK’s highest inflation rate in 40 years at 11.1%.