It is still the case that some 25% of the world economy is seeing slowing economic growth and this is mainly happening in Japan and in Europe. In both regions, the aging population is certainly playing a role in the economy and the young are carrying the burden of the welfare of the elderly more so than anywhere else in the world. So much so that some commentators have started calling these economies ‘passenger economies’. With that they mean that these economies can only really grow if they get help from either the US or China.
In order for the equity markets to continue to rally, investors want to see all of the world participate in the upswing, not just the ones which have participated to date. This means the next leg of the stock market rally has to come from China and the US continuing to do well but also at some point the economies of Europe and Japan have to join in otherwise investors will not see synchronised global growth and the rally will likely falter.
Another thing that would help global growth would be a falling US dollar, since this would ease financial conditions globally and help both the US and non US equity markets.
The focus has shifted from trade and Brexit, since good outcomes have been largely discounted already on both fronts and bad outcomes would lead to markets falling. Now, the key driver of markets is on whether the 25% of the global economy which is still in the doldrums is picking up or not. With that in mind investors can take comfort from two things:
First, economic analysis from Goldman Sachs shows that Chinese growth, which investors know is picking up, typically affects Euro area growth with a lag of some three months. Goldman’s analysis implies that the China pickup should boost Euro area growth notably this year, even though the boost will likely be smaller and slower than in 2016. This supports the view that Euro area growth will remain sluggish in the second quarter of this year but then pick up to around 1.5% in the second half of the year. Japan, the other passenger economy, should benefit too.
Second, the rise of populism is not solely a negative for markets and investors. In France, following the “yellow vest” movement and the public debate, President Macron has announced income tax cuts which should be helpful to French economic growth and should have a positive impact on markets.
Expectations that global industrial production will continue to pick up remain valid but investors will want to see the preverbal ‘proof in the pudding’ for the rally to continue.