World – Macro-economic scenario 2024-2025: extension without disruption

It may seem odd to stick an ‘extension without disruption’ label on an economic and financial scenario beset by political uncertainties of varying intensity, which will be removed either sooner (legislative elections in France) or later (US presidential election). Whereas the second event is likely to significantly structure/alter a scenario’s major plot points, the first is less likely to wipe out the backbone of a quarterly global scenario.

And so the trends already sketched out have in fact been extended, with no disruption 

In the Eurozone, growth is still expected to accelerate, underpinned by private consumption. The cracks showing in the US seem unlikely to drag down growth, which could once again prove its staying power – just as inflation has done as we reach the end of this deflation road.

In the US, the resilience that characterised the 2023 economy actually hung on into early 2024. Coupled with the booming job market, reduced short-term sensitivity to interest rates (balance sheet repair, persistently low cost of debt) meant growth could better absorb monetary tightening, which turned out to be the most aggressive in decades. And while the negative impact of monetary policy has been much less brutal than was feared, it has not vanished. Its effects play out over time. Corporate debt is up, to be refinanced at higher rates in 2024 and 2025; actual mortgage rates are climbing back up; defaults on other types of debt (credit cards, auto loans) are on the rise; surplus savings (specifically in lower-income households) have dried up; and savings rates have declined quite a bit. These are the first cracks still forecasting a mild recession as 2024 flips to 2025. After 2.5% in 2023, our scenario is based on growth of 2.0% in 2024 and just 0.4% in 2025: declining growth paired with an alternative scenario in which the economy is likely to once again display surprising resilience. In line with a soft slowdown paired with an upside risk to growth, the slide in inflation should continue on a gradual and uneven trajectory, leaving inflation higher than its target until the end of 2025. 

In the Eurozone, though European elections have confirmed the overall balance in the European Parliament’s representation, uncertainty about the vote in France is ushering in a downside risk. Estimated as ‘politics as usual’ before the French National Assembly was dissolved, our central scenario does not include this risk and does retain its key assumption. The principle of accelerated growth driven by private consumption remains, despite the cautious approach consumers are still taking and a deflationary process that promises to be rocky in 2024. 

The decline in inflation – the benefits of which are already visible – is now a little less easy and a little less clear. Inflation is hanging on, owing mostly to its inertia in services, which reflects delayed pressures on payroll costs, connected to the late recovery of past losses of purchasing power in wage negotiations. And lastly, though consumption is the prime mover of this recovery, it may bring a bit brisker external demand with it, buoying Eurozone GDP by 0.8% in 2024 and by 1.5% in 2025.

In monetary policy terms, our scenario has never presumed an early or massive cut in US key rates

Rather than the ‘pivot’ the markets were waiting for, it has focused on the ‘plateau’. And now this is a matter of extending that plateau before easing later.

Obviously, there are few hopes that the ‘American obstacle’ will be quickly removed, a constraint especially for some emerging countries; inflation numbers indicate that it is merely moving toward its target slowly, that growth is holding steady, and that the labour market is solid despite recent signs of weakening – all of which calls for prudence. 

The Fed will need a little more time to be convinced that inflation is on a clear path toward 2%, and a little more time before it goes ahead with a first cut to its key rate. That could happen in September and would likely be followed by another reduction in December, bringing rates down by a total of 50bp in 2024. In 2025, easing could be more aggressive, totalling 150bp over the first three quarters. However, this kind of projection hinges on a relatively pessimistic economic scenario. If the economy and the labour market hold up better than expected, the Fed may adopt a more gradual pace.

The US status quo has not prevented the ECB from starting to cut rates. It will continue unless there is strong downward pressure on the EUR or a much clearer recovery, especially if it is more inflationary than expected.

Core and headline inflation are expected to reach 2% during H225 and allow the ECB to extend the rate relief that began in June, when it cut rates by 25bp. Our scenario points to gradual and ongoing easing, with the ECB lowering its deposit rate by 25bp every quarter until September 2025 to bring it back to 2.50%, our estimate of the neutral rate.

Interest rates are likely to continue to feel moderate upward pressure 

Indeed, the monetary easing theme has been floating around for a long time now. Whether it has already begun or is on the horizon (or being delayed, as in the US), easing is no guarantee that interest rates will fall. Several factors, including the widespread risk of inflation and the possible increase in the neutral rate, argue for stable or even slightly higher rates. 

In the US, our bond yield projections have been nudged upward all along the curve. We currently expect 10-year Treasury yields to be 4.30% at the end of 2024, then 4.05% at the end of 2025. The upward revision of the long-term yield signalled in the dot plots deserves a look: stuck at 2.50% between 2019 and 2023, it was raised for the second consecutive FOMC, from 2.5625% in March to 2.75%. Such a nudge speaks of the possible increase in the neutral rate, which may be linked to factors like deglobalisation and slowing demand for Treasury bonds from world central banks, sovereign funds and national financial institutions.

In the Eurozone, the ECB began cutting its key rates and is expected to continue. The markets are fully pricing in this monetary easing cycle and expect the deposit rate to fall back near 2.50%. Amid a relatively optimistic outlook on European growth and persistently high public deficits (an excessive deficit procedure is affecting Belgium, France and Italy, all of which must present a debt-reduction plan by September), European sovereign yields have little chance of declining, especially if the Fed delays the start of its own easing cycle. Our scenario is for a German 10Y yield of about 2.65% at end-2024.

With spreads tight, adding a political risk premium (with no risk of redenomination) has resulted in a widening French spread compared to the Bund of up to 80bp. This OAT-Bund premium will continue to fluctuate according to the political uncertainties that will not necessarily be removed at the end of the election in the absence of a clear majority.

Finally, US parameters, the Fed’s monetary strength and Trump’s potential win are positive for the USD overall

Next come some unique stories such as the political risk for the Eurozone, the worsening fiscal situation in Latin America or, on the contrary, the favourable carry for some Asian and European currencies. Our scenario calls for a modest depreciation of the EUR, to USD1.05 at the end of 2024.