Economic Outlook: The Emergence of Divergence?

Summary

• Although the pace of global economic recovery varies across regions, emerging markets are the clear leaders. Gross domestic product (GDP) growth in North America and Japan also continues to recover at a good rate, but economic activity has been mixed in Europe.
• Sovereign debt concerns reached critical mass during the first quarter, with Greece taking center stage. Although the European Union is dealing with the crisis, the episode highlights flaws within the structure of the eurozone.
• The euro and sterling have fallen sharply against the U.S. dollar in recent months, underscoring SEI’s view that continuous depreciation of the U.S. dollar cannot be taken for granted. The dollar’s strength reflects relative improvement in U.S. growth prospects and heightened investor fear regarding Europe.
• Leading indicators of economic activity point to the continuation of growth for the world as a whole, including the major European countries. Differing rates in the pace of growth and growing fiscal and trade imbalances in advanced economies, however, are leading to divergent policy responses.
• Developed countries face a delicate balancing act. There is growing pressure on high-deficit nations to rein in government spending, but it is necessary to maintain sufficient fiscal support in order to prevent a relapse into recession.
• The deleveraging process has resulted in improving corporate financial positions, not just in the U.S. but in other countries as well. Although employment and consumption remain weak, business investment has the potential to surprise on the upside, helping to create a more sustainable global recovery.
• We continue to hold a positive view toward equities, although year-to-date performance has been choppy.
• Fixed-income markets are being pulled in different directions. Developed-market sovereign debt has been hurt by deficit concerns but helped by the slow recovery and generally low inflation. Emerging-market debt has been relatively strong, as investors continue to re-evaluate the relative riskiness of the asset class. Credit (investment-grade corporate and high yield) also remains well-bid, reflecting strong corporate financial positions and expectations of continued economic expansion.
• We still believe that the key central banks—the Fed, the Bank of England and the European Central Bank—will be very slow and cautious when it comes to removing economic stimuli.

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