Q4 2021 Global Economic Outlook

Quick takes:

• Global economy set for continued expansion
• Demand should slow as supply issues ease
• Inflation likely to decelerate
• Risks remain tilted to the downside
• U.S. economy and CRE positioned well

Accelerating into a curve

The global economy continues to exhibit a bit of a “two steps forward, one step back” pattern of growth. Since the pandemic first hit, the global economy has followed this ebb and flow pattern of growth: the deep downturn in 2Q2020, followed by a strong rebound, followed by a lull during last winter’s resurgent pandemic, followed by reacceleration in Spring 2021, followed by a slowdown due to rise of the Delta variant last summer.  While economic recoveries typically do not occur in a straight line, the pandemic and its ability to impact the economy add a variable unseen in modern economic history. That brings us to 4Q2021. Following the Delta-induced speedbump in the third quarter, we expect growth to have accelerated during the quarter. The Delta wave peaked and crested as it burned through unvaccinated populations relatively quickly and available vaccines maintained their efficacy. That enabled the government to relax measures that restricted activity on the supply side of the economy while enabling consumers and organizations to participate in the demand side of the economy more actively, especially during the important holiday season. Consequently, we expect global growth during the fourth quarter to accelerate near 5%, up from roughly 3% during the third quarter and closer to second quarter’s growth rate.

Yet the established pattern of fits and starts seems likely to persist in 2022. With the Omicron variant spreading as easily as measles (and evading vaccination to a greater extent than previous variants), we anticipate another downshift in growth coming during the 1Q2022. But each subsequent wave appears to have a less negative impact on growth, so we foresee only a modest impact, especially if this variant continues to prove less dangerous to health. However, it will likely reinforce a consumption pattern that has persisted since beginning of the pandemic, with consumers demanding goods (which they can safely consume at home) over services (which they generally consume elsewhere). In turn that could provide a short-term boost to inflation with demand for goods staying elevated while growth in the supply of goods struggles to keep pace. But beyond the first quarter, the outlook brightens. Quarterly growth should reaccelerate on as we move past the next wave of the pandemic. Nonetheless, we anticipate that global economic growth will slow in 2022, falling from roughly 5.5% in 2021 to roughly 4%. Similarly, year-over-year inflation should start to decelerate during the year as demand growth slows, supply growth accelerates with a gradually improving supply chain, and base effects kick in during the second quarter when inflation gets calculated versus a higher price level.

Demand and supply dynamics

Aggregate demand (AD) in the global economy rebounded strongly after a sharp pullback during the first half of 2020. Government policy played a large and important role in the process. Governments around the world implemented roughly $10.8 trillion of fiscal stimulus, or roughly 13% of global GDP (by one estimate). Meanwhile, central banks around the world implemented heavily stimulative monetary policy. Beyond cutting policy rates to incredibly low levels, they also heavily intervened in capital markets via quantitative easing (QE) to help bring down rates across the yield curve. But in the process expanded the money supply. Bond buying from major central banks around the world totalled roughly $9 trillion. The combination of strong fiscal stimulus and heavy monetary intervention stabilized the economy. But it also likely exacerbated the global inflationary pressure that we see today. Money supply expanded and ended up in consumers pockets. This stands in stark contrast to the recovery from the global financial crisis when QE expanded monetary policy, but much less fiscal stimulus occurred. As a result, even though the money supply expanded then, it mostly remained on bank balance sheets as excess reserves and not circulating through the economy, producing little inflationary pressure. The impact of fiscal stimulus looks set to fade in 2022, with governments spending smaller amounts of money, mostly via normal annual budgets. At the same time, major central banks around the world (particularly the Federal Reserve) have shifted toward a more hawkish stance as inflation has increased and become a bit more durable. As central banks move to tighten monetary policy, that should help restrain growth in AD and consequently real GDP.

Aggregate supply (AS) has struggled to keep up with the surge in AD experienced over the last 6 quarters. The pandemic continues to disrupt production and distribution across the globe. While this conjures up images of closed factories or port facilities, it has had a broader effect. It also exacerbates a demographically driven labor shortage, keeping some workers on the sidelines and forcing some workers out of the game completely. Moreover, with AD shifting more toward goods than services, many people are still refraining from many economic activities because of the pandemic. Consequently, the inability of AS to respond quickly to AD increase has also pushed up inflation. Yet as we head further into 2022, the global supply chain continues to recover and adapt. While Omicron certainly throws a wrench into the process, we continue to anticipate that AS will expand, and narrow the difference in growth rates with AD. This should also help to alleviate price pressures.

Key risks

While the main risks have not changed, they have each taken on somewhat different character. The pandemic shifted abruptly during the fourth quarter, migrating from Delta to Omicron. Even though Omicron seems less virulent it is proving far more contagious. With the risks surrounding infection remaining unclear in both the short term and long term and the demonstrated ability of the virus to continue to mutate, the specific impact to the economy remains uncertain, but almost certainly lies on the downside. While economic disruptions from the pandemic appear to lessen over time, we have no guarantee that will persist in the future. The longer the pandemic disrupts normal supply and demand dynamics, the greater the potential for downside risks.

Inflation and its corresponding impact on monetary policy are taking on greater importance. Although we anticipate that inflation should slow as the year progresses (particularly beyond the second quarter), the pandemic adds tremendous uncertainty to this prospect in terms of timing and magnitude. Moreover, even if inflation decelerates as we anticipate, central banks around the world will need to carefully manage monetary policy, walking a fine line between preventing economies from overheating further and restraining real growth too much.

Outlook and implication for the U.S.

The U.S. economy remains a large and important part of the global economy. With the U.S. poised for another year of above-potential growth, the U.S. economy should play a large role in propelling the global economy forward. If the global pandemic situation improves after the first quarter, that could finally set the stage for a surge in demand for services which would broaden the domestic economic expansion, even as economic growth looks set to slow from last year’s torrid pace.

Commercial real estate (CRE) should continue to benefit from the global expansion and we still foresee another year of broad improvement in the sector. But without a return to broad services consumption, the recovery in CRE space-market fundamentals could see lingering effects. Office, retail, and hotel require a shift toward more typical economic activity, even if some patterns have shifted permanently. We expect this to occur in fits and starts this year. CRE capital markets should remain strong. Even in the face of rising interest rates, the ongoing improvement in fundamentals should boost net operating income (NOI) and help to restrain cap rate expansion. The global backdrop should provide a solid foundation for CRE performance in 2022.