Whether you are a World Economic Forum sceptic or fanatic, the speakers at Davos are on the front line of industry, commerce, monetary and fiscal policy making. So the insights that are aired and shared provide valuable information about the course of the economy.
Having made the trek this year and speaking and listening to various economists, business and political leaders, my conclusion is that there was no consensus about whether, on the one hand, markets will enjoy a sustainable recovery generating higher living standards or whether, on the other, they will falter, and fail to recover previous levels of prosperity and stability in the face of a unique confluence of negative political and economic headwinds.
Maybe the best way to aggregate opinion is to say that there is a high degree of confidence that 2023 will be a year of recovery (or at least better than 2022), but there is low degree of confidence as to the shape and course of events.
Herein lies a challenge for the Prime Minister as he assesses his policy options based on divergent views about the duration and fallout from the economic downturn (or ‘slowcession’), which will heavily influence sentiment and voter perceptions.
Davos felt like a polite battle between pessimists and optimists. The pessimists assert that levels of public and private debt combined with embedded inflation drive negative projections about economic recovery and growth, compounded by the disruptive but different political ambitions of leaders in the USA, China and Russia.
‘Team Pessimist’, if you like, sees one of two things happening: either, first, central banks keep rates ‘higher for longer’, which will cause economic pain to the holders of debt – national and personal – and so driving up the cost of borrowing and driving down liquidity, demand and confidence. The stagflation that haunts economies therefore risks becoming entrenched. European states with bloated public sectors and welfare liabilities will suffer reduced competitiveness and growth.
Or else central bankers misread data on goods and services and the inflationary impact of China’s reopening, and/or succumb to political pressures leading them to pause rate hikes and begin to reduce them when inflation has not been cured. Such moves lead to a fresh loss of credibility, destabilising markets and economies, triggering a fresh surge in inflation that gives way to double-dip downturns. Worse, they leads to more unemployment, which puts more pressure on governments to loosen fiscal policy. Which will already be happening in countries with imminent elections. This further aggravates recovery, posing substantial risk to cyclical stability.
The pessimists also highlight that geopolitics point to ‘hot and cold wars’. China’s economic, political and territorial ambitions are clouding confidence, with the prospect of further aggression towards Taiwan a matter of when not if, with the disruption risk and effect mis-priced, (of a conflict by stealth, or otherwise.)
They add that economic ‘cold war’ with the USA shows no signs of a meaningful thaw. Meanwhile, Russia’s war in Ukraine has no clear ‘end game’. And as the prospect of a ‘Long-War’ sets in, economic confidence is hit again; financial costs continue to climb and longer-term obligations to national defence budgets add to mounting public sector liabilities. All of which will have downward effects on economic growth in Europe and beyond.
By contrast, the optimists assert that 2022 will be seen as an aberration, that economies have been tested and proven to be resilient and the worst economic projections look like they have been overstated.
‘Team Positive’ points to signs that central bank chiefs understand the damage of misreading the pandemic, and trust they will ‘stay the course’ in terms of rate-setting, (on both sides of the Atlantic). They don’t see the banks pivoting too soon, or carrying out an overcorrection. They also see inflation coming close to target (two per cent) in the short, if not medium term.
The optimists don’t foresee a collapse in confidence or economies failing to recover this year, and point to consumer spending as evidence that confidence is strong in the context of the turmoil. They think the underlying rate of inflation is now mostly dependent upon what happens in the labour market. However, while they are warm to the idea of ‘softer landings’ across Europe, they have reservations about future rates of growth, since slow growth in the labour force typically delivers less growth for the economy.
Positivity runs through their view of changes in globalisation, which they see as being ‘reset’ towards re-globalisation, rather than de-globalisation. They believe that political leaders will not retrench and retreat behind borders and protectionism (despite some rhetoric), but instead refocus investment on national priorities and recognise the benefits of maintaining a global market trading system.
They see China’s ‘reopening’ as negative for human life but positive for global growth with manageable downside economic risk. More broadly, this view holds that China and the USA have a more nuanced view of the economic development and relations than widely understood.
For evidence, they point to the trade flows between the nations. Plus to the mood music from the meeting last week between Janet Yellen and Liu He, in which they sought to “deepen communication” on economic issues. They are optimistic that China will not retreat and will look to strengthen economic ties with Europe, especially if it is about to experience growing tensions with the USA (irrespective of who is in the White House.)
So where does this leave the Prime Minister? The occupants of Number 10 know that 2023 will frame 2024. Almost irrespective of the course of the economy between now and the next general election, the proceeds of growth are unlikely to be sufficient to satisfy all interest groups and voters. Equally, they know that if they can be seen to have led a recovery from the fallout of the Covid pandemic and Putin’s war, the voters may give them another term and the opportunity to build on that legacy.