Over the past 12 months my cycling trips have been reduced to zero and while I have cycled through a few French Alps last summer and through the Somerset Hills in recent weeks, my relative lack of cycling during the lockdown gave me a lot more time to focus on a different kind of cycle – business cycles.
Except that it’s not that simple at the moment.
The Covid-19 pandemic triggered such a huge economic shock that the global economy did not slow down so much as a brick wall in the early spring of last year. While we typically receive many warning signs before an economic downturn, including rising interest rates and inverted yield curves, the Covid-19 pandemic changed everything in February and March 2020.
In the last few months of 2019, there was a lot of commentary suggesting that developed market economies were relatively late in the cycle, but likely had new momentum in the absence of inflation forcing central banks to aggressively raise rates. Indeed, 2019 seemed to be the peak of another mini-economic cycle that has unfolded since the Great Financial Crisis (GFC), where economies experienced low growth rates with occasional acceleration and deceleration, including a much of it appeared to be the result of tightening and easing monetary policy in the United States and China.
Treasury yields rise on more hawkish inflation and the Fed’s interest rate position
The global economy entered the Covid-19 pandemic after a relatively long period of growth, but although there were some signs of a lengthening of the business cycle, the consensus was that the world was still at least 18 months of a significant slowdown. The inversion of the yield curve, often a precursor of a recession, was ruled out as central banks tightened their quantitative easing programs and the Federal Reserve downsized its balance sheet.
As 2020 approached, the consensus was that the global economy was set for a year of reasonable growth. And then the Covid-19 struck. We have had almost 18 months of pandemic, and as the global economy recovers from a huge shock, we are still seeing the consequences in terms of supply chain bottlenecks, as companies and suppliers reduced production last spring and that production failed to keep up with the rebound in demand or accelerate demand for some products, notably bicycles.
As we see 180 cyclists roaming the French countryside over the next few weeks heading to Paris, what’s next for the global economic cycle?
First, it was not a normal recession, and it will not be a normal recovery. The recession saw huge levels of government support to households and businesses, easing the shock of unemployment and saving many businesses from financial hardship. This economic support remains in place and unlike after the financial crisis, governments are under no pressure to reduce debt through austerity. Likewise, commercial banks have healthy balance sheets and are willing to lend, unlike the years after the financial crisis which were perpetuated by further shocks as countries went through sovereign debt crises.
How will emerging markets get out of inflationary pressures?
With central banks more generous than ever in terms of budget support and prodigious governments on the fiscal front rather than embarking on austerity, the potential ingredients are in place for a robust economic recovery and we may well be at the start of the crisis. ‘a new economic cycle. But just like with cycling, the road is never so smooth and there is still room for a few speed bumps and potholes along the way.
We should see robust growth provided we have seen the worst of the pandemic. However, for the cycle to extend beyond next year, it will be important to see central banks maintain flexible financial conditions in the face of potentially high inflation periods and governments create the fiscal environment to ensure that unlike the day after the GFC, central banks are not left alone to do all the âbig workâ without concomitant budget support.
Enjoy the Tour de France, and hope that like the global economy, Geraint Thomas and his rivals will benefit from more tailwinds than headwinds.
Anthony Willis is an Investment Manager on the BMO GAM Multi-Manager Team