Economic Recovery: From Triage to Rehab

There is a strong sense among business leaders that markets are gaining forward momentum. The time feels right for companies to be hiring aggressively, making investments and identifying acquisitions. Not that anybody is getting too carried away by the economic rebound given the number of countries still carrying enormous levels of debt, the prospect of higher interest rates and serious political instability.

According to the European Commission’s latest economic forecast, GDP is expected to climb by 1.5 per cent across the EU by the end of this year (2013: 0.1 per cent) and 2.0 per cent in 2015. In the US and China, rates are expected to rise by 2.9 per cent and 7.4 per cent respectively (2015: 3.2 per cent and – again –7.4 per cent).

Stuart Green, Chief Economist for Global Banking and Markets at Santander, commends the European Central Bank for the pronounced turnaround in market sentiment, while warning that problems still need to be addressed: “For the eurozone, there’s no doubt that many of these countries still face quite challenging timetables fiscally… The survey data has improved over the past six months or so, but the actual hard activity data is pointing to a subdued recovery.”

Total government debt throughout the eurozone is 92.7 per cent of GDP. Germany is carrying 78.4 per cent of GDP, France 92.7 per cent, UK 89.1 per cent, Italy 132.9 per cent, Spain 93.4 per cent and a stricken Greece 171.8 per cent. Steven Cooper, CEO of Personal Banking at Barclays, comments: “The debt tensions in the eurozone may no longer be threatening to boil over but they are still simmering, holding back recovery in… major European trading markets.”

Growing Pains

A slowdown in the US economy was largely seen as the reason for the International Monetary Fund’s (IMF) downgrade in its global growth projection in 2014 from 3.7 per cent to 3.4 per cent (its global prediction for next year holds at 4 per cent).

The first quarter drag in the US was seen as a temporary setback as private consumption continues to gain speed, along with robust job creation and rising house prices, although it’s widely anticipated that the Federal Reserve is going to end its quantitative easing programme over the next few months. Paul Danos, Criticaleye Thought Leader and Dean of Tuck School of Business at Dartmouth College in the US, says: “The actual GDP numbers are not impressive but employment is up… There are some positive undercurrents, I think, among executives and business people but it’s not across the board.”

Concerns for Paul relate to a potential move towards a more punitive regulatory environment for businesses, the $1 trillion of debt carried by the nation’s students and the return of political risk. “[There could be some] massive disruption, such as a conflict with China or if something even more extreme happens in the Middle East which effects oil supplies,” he says.

Political uncertainty, from China’s muscle-flexing in the South China Sea to Russia’s military intervention in the Ukraine, are very much on the risk register of business leaders. Mark Rogerson, CEO of construction equipment supplier Speedy Hire, says: “We still have a very unstable macro environment, as we are increasingly seeing again in Iraq, Syria… and Egypt and the fact we have been unable to stabilise these countries.

“We know their adjacency to some of the world’s most critical natural resources and that can be a concern. What has given me the most concern of course is the cooling off of the relationship across the world with Russia.”

Andy Dunkley, CEO of clothing company Lee Cooper Brands, comments: “We see a good picture across the emerging markets. There’s growth across India, some of the Gulf states and across South East Asia. But what we are seeing is the re-emergence of political risk.”

The low growth in Europe is also a cause for concern. “If you compare the rest of the EU with the UK, they seem hell-bent on a deflationary economic process,” says Andy. “They’re linking integration and politics with deflation… The focus should be on the fundamentals of unemployment and getting economies growing properly… If it’s more of the same going forward, we’ll end up with a missed opportunity in Europe that will last for ten years if we’re not careful.”

Consumer Power

In China, domestic demand may have dipped more than expected but it remains strong. Andrew Eldon, Chief Operating Officer for Hong Kong-based online retailer StrawberryNet, says: “I am generally positive about China but maintain a healthy dose of caution. A sector like ours, online retail, is showing phenomenal growth and I think this will continue as disposable incomes rise, digital penetration increases and investment in logistics and infrastructure grows.”

The caution relates to a slowdown in the banking and manufacturing sectors (Andrew broadly welcomes a cool down in the property market). He questions the quality of some of the growth, referencing how China’s anti-corruption drive has taken its toll on the luxury branded goods markets. “I’ve had one business manager from a well-known, high-end watch brand tell me that their business is down 60 per cent as a result,” he says.

While it would be a mistake to underplay the challenges China needs to overcome, which includes the demographic pressures created by an ageing population and the internal migration of labour, from a commercial perspective the country still presents an enormous opportunity – as does the region as a whole.

“Asia’s a big area, no matter which way you define it,” says Andrew. “For us, two things are driving business here – smartphone and tablet penetration, and credit card usage. If you look at Indonesia, it has a population of 250 million and only about 15 million cards in circulation. Compare that to the UK with a population of 62 million and 58 million credit cards in circulation. There still so much more growth to come.”

The Austerity Pay-Off

In the UK, the mood about the economy has changed dramatically. The IMF, which 12 months ago issued warnings about the effectiveness of austerity measures, has upgraded its prediction for growth. Stuart says: “We actually believe that the data on the UK has been beating expectations for about three years now. So we don’t really see it as a sudden turnaround; we think the economy has been on the mend for a while.”

Mark comments that while he finds the macro-economic indicators useful, they don’t always translate into reality. But looking at the business today, he detects a definite shift in tempo. “I just feel it’s more about the pace of activity and we have certainly seen it pick up across our customer base, whether it’s in the regions or whether it’s our major, strategic accounts.”

The willingness of banks to back companies is making it easier for businesses. Melanie Richards, Vice Chairman at professional services firm KPMG, and Debt Advisory Partner, comments: “As far as the availability of debt goes, when it comes to large companies I think the banks have more capacity than they have done for quite some time and they seem to be quite prepared to put that to use.

“Indeed, one of the reasons we’re seeing some of the mega deals coming up, globally, is that company balance sheets are in a good shape and there is capacity in the debt markets to absorb those sorts of transactions. In the UK, in the mid-market space there’s also a lot of competition among the lending banks for that business.”

The newfound optimism of business leaders will be tempered by a healthy appreciation of the spinning roulette wheel of risks out there. “The UK economy has gained clear traction over the past eighteen months, with the recovery becoming both more deeply embedded and more broadly based,” says Steven. “Unemployment has fallen considerably, with consumer confidence rebounding and business investment increasingly underpinning economic growth.

“But it will take time to make good the losses suffered in an unusually deep and painful recession – real wages remain around 10 per cent below their pre-crisis level. Both the public and private sectors continue to carry high levels of debt, which will generate headwinds to economic recovery for some years to come.”

More generally, for Europe and the US, the second part the recovery lies ahead which involves the push for growth (think of it as going from triage to rehabilitation). “The central banks will be the focus of attention and, as a secondary response coming out of that, you may see greater volatility in markets and perhaps bigger movements in currencies,” says Stuart. “How they manage this process will be very important for market sentiment.”

There are plenty of reasons to be positive and its right for businesses to be on the offensive. The hope is that political short-termism doesn’t scupper a promising recovery.

I hope to see you soon.

Matthew

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