Four years after the start of the financial crisis and the global economy is still struggling with anemic growth. The European sovereign debt crisis continues, America’s economy is being shaken by a ‘fiscal cliff’ and emerging markets, led by China, saw a slowdown in economic growth. For a forecast going into 2013, Executive sat with Johannes Jooste, head of strategy for Europe, Middle East and Africa at Merrill Lynch Wealth Management, while he visited Beirut in December.
The global economy came under pressure in 2012; what is your global gross domestic product growth forecast for 2013?
We are slightly higher than 2012, which was worse than we thought. 2013 is going to be marginally better but that doesn’t make it particularly attractive. So the number comes out somewhere in the region of 1.3 percent for 2012, and 1.5 percent for 2013. We think that the breakdown is going to be pretty bad from the point of view of Europe, where we have got a recession for the first half, [with GDP] down 0.4 percent compared to about flat for the same period last year. So we are looking for Europe to be something of a challenge — two consecutive years of recession in Europe driven by the failure of France and Germany to decouple from the peripheral [countries].
How do you expect the fiscal cliff to impact the US economy?
The worst case is [for the fiscal cliff to wipe out] 4.6 percent of GDP, something like $700 billion. The best case is something like a percent off, maybe 1.3, less than 2 percent. There are two questions — one is the size of the hit and the other is over what period does it hit the economy. And it is potentially less of a problem if they can manage to smooth it out — even if there is a hit. But it is significant and it is going to be something that plays on markets as we go into January.
Our base case is something of a fudge, a compromise that is not one that leads to a long-term solution. In the long run there is the entitlement problem and the budget constraints in the US, which aren’t really going to be solved by just a short-term interim ‘deal with it later’ type of solution. The best case is they do grab hold of it properly and deal with all the entitlements and do what they have to do, but we don’t really see that as something that is going to happen [in the near term].
In what regions do you expect to see the most solid economic growth in 2013?
From a purely growth perspective, emerging markets is the place to be, and particularly Asia. China remains the driver and we think it has bottomed and the rest of the region will follow suit. With the US the one potential positive joker in the pack is how strong the housing market might prove to be; it surprised us [positively] this year. If that keeps going we will probably be wrong with [our GDP growth forecast of] 1.5 percent and it could come up closer to 2 percent. That is a potential swing factor.
Obviously there are swing factors on the other side, the fiscal cliff. For Europe to surprise us on the upside, they really are going to have to make haste with their program which at the moment we don’t see [happening].
So you don’t believe 2013 will see a long-term solution to the European crisis?
No, a long-term solution will not appear in 2013. We see progress towards it; we don’t think they have incentives to go backwards, we think they understand — to the extent that you can guess what politicians think — the seriousness of the situation.
Given your economic forecasts for 2013, what asset classes and what regions do you favor from an investment perspective?
The main theme is to avoid government bonds of developed countries such as Germany, France, the UK and the US. If you are going to stay within fixed income, go for the high risk: we prefer high yield to high grade and we prefer emerging market debt. If you are taking a long-term view, anything more than a year out to five to 10 years, we think the outlook for equities is distinctly favorable relative to fixed income. We would suggest using the weakness of the equity market [through] themes such as following the emerging market block for growth. We think European stocks are cheap. So we are probably going to end up being somewhat light on US equities.
How about your economic forecasts for the Middle East?
It is even less straightforward to predict anything there. There is an unfortunate coincidence between the incidents in the Middle East and the global risk aversion going on. If investors are skittish already, the last thing they need is something in the oil-producing regions to make them even more nervous. And that is what is happening. Where there has been even a semblance of domestic stability such as in the Gulf countries, property markets are stabilizing and domestic demand is okay. The problem is more external demand. Foreign investors are very much taking a wait and see approach to the ‘Arab Spring’ countries. It has been about two years that net flows into equity markets have been effectively flat.
What are your expectations for the oil prices and how will that affect the region?
We think the oil price is well supported thanks to emerging-market demand. We are loath to give a specific level but we certainly don’t think it will come down from its current level by this time next year. You have got net exporters where it does help a huge amount, in the GCC for example. But there are a couple of countries, and Lebanon is possibly one of them, where that could be a bit of a squeeze. If there is a squeeze and it goes up quickly then that is globally a very bad thing. We are looking for more of a benign [rise].
Will it be another tough year for Lebanon?
For a few countries out there I think the dynamic is not dissimilar [to Lebanon’s] budgets and terms of trade issues. Lebanon is one of those [countries] that will face these issues, especially in the first half [of 2013] given the element of European dependence. ‘Arab Spring’ countries are not totally dissimilar given the proximity and the trade links to Europe. Lebanon has a short-term cyclical problem, Europe has a long-term structural problem. Cycles you can cope with easily whereas the long-term structure is a big deal.