“The risk of a global recession is high,” Interview

What are the main conclusions of the old Pimco forum, which outlines the economic prospects for the next five years?

In the medium term, we have maintained three main transitions, represented by green, digital and social. But the war in Ukraine brings a new agreement: it puts an end to it golden hair, “Golden loops” that combined growth and inflation at the right temperature and central banks and governments with ample room for maneuver. We expect a high risk of recession in the medium term, and over the five-year horizon, we believe that shorter economic cycles, high volatility, and declining government and monetary policy responses will require finding resilience for portfolios to achieve efficiency. Today it’s a bit like “anti-golden hair “, with weak growth, high inflation, fueled by energy prices, food and supply chain problems, forcing to tighten monetary policy, while countries are in the logic of reducing debt after the excesses of previous crises. High inflation and indebtedness significantly complicates and the fiscal policy to which we have become accustomed in recent years.

Do you think that the current tightening of monetary policy is appropriate?

Between the pandemic, the policy of zero Covid in China and the war in Ukraine, uncertainty has grown so much that it is necessary to show maximum modesty in forecasts, especially when inflation reaches its peak. Meanwhile, central banks are forced to act. Their reaction is homogeneous and very strong, often with rates rising by 50, 75 or even 100 basis points. After that, the data will be re-checked at each meeting to decide on the next path. They will, of course, be forced to restrain monetary normalization if the economic environment deteriorates.

Are we moving towards the globalization and reindustrialization of developed economies, which will allow us both to return to greater sovereignty and to limit climate change?

Thus, the war in Ukraine has strengthened the desire for “sustainability” in supply chains, which is one of the central themes of Pimco’s secular view. The most sensitive industries, such as semiconductors, batteries and others, will be gradually repatriated. Surveys of business leaders show that the stability of the supply chain is one of their main problems and what they are actively working on.

Are you afraid that inflation, no matter what, will not come?

There is likely to be a transition phase with the repatriation of supply sources, during which companies will be forced to invest and be less efficient, which will have a high cost, fueling inflation. Global warming is also likely to cause prices to rise: for example, with the worst drought in seventy years, northern Italy has lost almost 40% of its crop, hydropower production is weakening, and nuclear power requires more heat. plants.

What percentage do you estimate the risk of recession in the US and the world in the medium term?

The probability of a global recession in the next two years is high (ie exceeds 50%) with the aggravation of financial conditions, which can be seen on the yield curves. This recession will be global, because the rise in prices affects all countries, and in particular the most disadvantaged, as rising, above all, prices for basic foodstuffs. Although households will still be able to spend their savings over the past few years this summer, the winter is likely to be more difficult in the short term due to rising electricity and food costs and depletion of stocks.

Is the probable cessation of Russian gas imports to Europe, as the IEA fears, could lead Europe to a recession?

Yes, of course, this is our scenario in such a scenario. The European Union fears that a complete cessation of Russian gas imports will lead to the closure of plants and the rationing of electricity, which is very detrimental to growth. Meanwhile, it is a race against time to diversify supplies and restore other energy sources, such as coal-fired power plants in Germany. In fact, the economic downturn is global, but Europe, a neighbor of the conflict, is dependent on energy.

What are the most promising destructive innovations for future growth today?

The most important is green energy, which will gradually take precedence over fossil fuels, electric cars, artificial intelligence and robotics. Due to the phenomenon of sustainability and reindustrialization, automation and robotization of production lines will be crucial to amortize the cost of this transfer. They will also help reduce labor shortages.

Are you afraid of a dead end in political risk in France?

Today, the political risk is global. In households, real incomes are declining due to inflation, which is creating social tensions everywhere. Further, the political environment, the phenomenon of disappointment and the growth of extremes were degraded. As the main culprits, it is stated that the current governments are more or less successfully trying to minimize the impact of inflation. But winter will be difficult.

What advice would you give today about asset allocation?

Many investors still had the reflex to buy on the downturn buy dip. But this time, in the absence of fiscal and monetary support, we are much more cautious about stocks and bonds. Without a lifeline, there will probably be more bankruptcies, more defaults, so you will have to be very selective. Moreover, geopolitical risk (USA / China, Russia) creates a risk of loss. On the positive side, yields have risen and can now play a role in portfolios, even in Europe, where returns have returned to positive territory. With regard to bonds, markets set prices by raising rates, the scale of which may not see the light of day, given the economic downturn and future declines in core inflation (excluding volatile elements such as energy and food). In this case, yields will fall, and bond prices moving in the opposite direction from rates will rise. Sovereign bonds should also be preferred, given the prevailing distress. In terms of equities, preference will need to be given to sectors that will thrive even in a recession, such as wind turbines, batteries, solar panels, robots or electronic components. In the absence of general public support, these measures are such important issues that they have huge budgets (REPowerEU plan, etc.) and will keep activities afloat.