Five things to look out for in the economy in 2018

I’m going to make this more a five things to look for this year than this week, as this is the first of these columns in 2018. So let’s start with the one overriding question for those who follow financial markets, which is: how far can the global equity boom run before it tips into a crash?

My own view, for what it is worth, is that equity markets still have a way to go, but the higher the peak is the more dangerous and potentially destabilising the markets become. The key will be the US, and in particular whether funds keep flowing into markets there. Retail investors are usually the last ones in at this stage of the cycle, so I am interested in any data on personal investment in the US. If professional investors start heading for the door but this is counterbalanced by personal money coming in, that would be a warning signal.

The other general thing to note in the US right now will be signs from the Fed about the profile of interest rates this year. At the end of last week bond yields rose quite sharply, which suggested a shift in expectations on Fed policy under its new chair. Maybe the booming economy will require three increases in rates this year.

Here in the UK the FT100 index is greatly determined by what goes on in the world economy, for it is essentially a sterling-denominated bet on large global businesses. UK economic policy is a bit of a side issue. If, however, you want a proxy on how well or how badly negotiations with Europe are going look at the sterling/dollar exchange rate. If the pound gets back to $1.40 in the next few weeks, it would be pretty close to the level it was on the eve of the Brexit vote – though against a resurgent euro the pound would still be well down. If on the other hand it is back to $1.30 or below, then a harder Brexit looms.

Christine Lagarde says that Brexit has had a negative impact on the economy

How the FT100 index behaves under these circumstances will be intriguing. In the past it has tended to climb when the pound falls. Indeed much of its gain over the past 18 months was on the back of a weak pound. But now it is at record levels, despite the sterling recovery. Maybe that is now reflecting the more positive outlook for global business. Or maybe UK shares are just being swept along with the rest of the club. But higher share prices and a sterling recovery would be an encouraging combination, until something pops.  

The other general question facing all economies where labour markets seem close to full capacity is how low can unemployment go? If you can get it down close to 4 per cent, as has the US, UK and Germany, without any inflationary rise in pay rates, maybe the real floor is 3 per cent, maybe even lower than that. We simply do not know why and how labour markets have changed to allow this to happen. Is the shift related to technology – or for example, allowing more people who are unable to commute to work from home? Or is it insecurity that drives it – people would rather have some sort of job than risk being unemployed. Or is it some wider societal change that is yet to be identified? We don’t know. But it does follow that the lower unemployment can go, the longer the economic growth phase (let’s not dare call it a boom) can run. That would sort-of justify the surge in share prices. Sort of. 

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