Rates, Russia, and Recession

Vladimir Putin

Luigi Marinus, portfolio manager at PPS Investments, said there are three factors driving the direction of global markets – Rates, Russia, and Recession.

Concerns about the Covid-19 pandemic have been declining, and Q3 2022 will be noted for most countries’ broad acceptance of the end of the pandemic.

However, China has maintained its zero-Covid policy, which continues to result in lockdowns in certain regions.

As the world tackled higher inflation and increasing short-term interest rates over the quarter, global markets have continued to sell off with the concern of a global recession being considered.

In South Africa, load-shedding remains a major hurdle to productivity, and the political machinations of the upcoming ANC elective conference weigh on the collective conscience.

South African consumers are feeling the pinch of sharp price increases in food and petrol costs amid the threat of a significant electricity price hike in 2023.

Rates, Russia and Recession

The three R’s – Rates, Russia and Recession – remain significant points of contention among market commentators and are driving the direction of global markets.

Rates not only refer to short-term interest rates but, by implication, to inflation and the effect the pace of inflation is having on the action of central bankers globally.

The Russian invasion of Ukraine is a geopolitical crisis which has a macroeconomic impact and appears to be a long way from concluding.

It has had a direct effect on energy prices, as sanctions have reduced the supply of Russian energy and increased oil and gas prices.

These supply shortages continue to be inflationary and are likely to have a larger effect in Europe due to the dependency on Russian energy.

The debate about recession continues, seeming to ebb and flow between a deep slowdown to a soft landing and even the possibility of averting one with the impact of each outcome analysed.

Even though these factors are considered individually, there is an interaction that links these effects in markets.    

The impact of high inflation remains prevalent worldwide, with developed markets experiencing inflation levels unseen for decades.

In the past quarter, there has been a mild slowdown in the growth of inflation in the US. US CPI peaked at 9.1% in June and printed at 8.5% in July and 8.3% in August.

In South Africa, the CPI print for July was 7.8%, and August was slightly slower at 7.6%.

In the UK and Germany, however, inflation was at 10% as these economies have been more susceptible to the increase in energy prices.

Central banks have continued to sharply raise short-term interest rates during the quarter, raising the question of whether inflation, particularly in the US, may moderate quicker than previously expected.   

Consensus expectations of a US recession appear to change as new data points are available.

The US has entered a technical recession as the GDP growth for the first two quarters of the year saw declines of 1.6% and 0.6%, respectively.

It has not been ratified by the National Bureau of Economic Research, which uses several factors to determine whether the US is, in fact, in recession.

The implications are potentially significant as growth assets have experienced material drawdowns in previous recessions.

During the quarter, consensus moved from expecting a mild recession to the possibility of the US averting a recession, albeit possibly for the short term only, as the labour market remains strong.

However, in Europe, the outcome appears more concerning as the expectation of a recession in the region remains highly probable. 

The outlook

Apart from the three R’s, the zero-Covid policy in China has continued. This has dampened GDP growth as production and exports have slowed with the continued lockdowns.

The most recent GDP growth declined by 2.6% for the quarter. It was the first decline since the first quarter of 2020, when lockdowns initially started and are well below the 6.0% and above levels experienced in China pre-Covid-19 lockdowns.

It has the potential to have a negative effect on commodity prices should the demand for resources slow in China, which would be detrimental to South Africa.

Locally, GDP declined by 0.7% for the second quarter, with the expectation of further declines in the third quarter.

Business confidence and consumer confidence disappointed in the third quarter as the country continues to experience prolonged periods of load-shedding.

With inflation remaining stubbornly above the target band, the South African Reserve Bank (SARB) followed the precedent of the US Federal Reserve and increased short-term interest rates by 75 basis points twice during the quarter.

Even though the SARB has acted timeously, the SA macroeconomic conditions will be influenced by global trends, particularly from the US and China.


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