Invesco expects lower inflation this year due to the credit crunch

Spiraling inflation may be coming to an end in Europe. This is what experts consider in a macroeconomic analysis prepared by Invesco, which predicted that the tightening of financial conditions in Europe will likely affect credit growth and contribute to reducing inflationary pressures in major European countries, including Spain.

In its “2023 Mid-Year Investment Outlook,” the Invesco team believes that “the eurozone and the UK are likely to follow a similar pattern to the US, albeit with some delay.” In terms of growth, they predict that in Europe there will be “growth in the short term, but over the course of the year the region will again suffer from specific challenges.” Both the Eurozone and the UK will see an easing of inflationary pressures in the coming months due to tightening financial conditions. Both the Bank of England (BoE) and the European Central Bank (ECB) are likely to continue raising interest rates, but the ECB’s final interest rate is likely to be lower than the US rate.

Invesco analysts have a leading assumption about the immediate future of the economy. “A relatively short and shallow economic slowdown is expected as inflation continues to moderate and monetary policy tightening comes to an end, followed by a recovery. We view this scenario as an incomplete slowdown where some economic damage will persist.” There are expectations of a negative scenario, with a “severe slowdown” affecting global growth more, resulting in a recession first in the US and then in other economies. However, it is worth noting the possibility of a positive “moderate slowdown” scenario where monetary policy affects growth less than expected and the global economy does not suffer significant damage.

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In the US, it is expected that the interest rate hikes will come to an end and inflation is already declining, although not evenly. On the near horizon, more positive growth prospects are expected, as the economy recovers. Forecasts of a recession in the US economy in recent quarters have not materialized and the country is likely to escape a deep and widespread recession.

Finally, China, the world’s third largest economic region, is at a very different point in its cycle when, according to Invesco analysts, “The easing of COVID-19 restrictions has led to a significant, if uneven, recovery.” Services Sector While the slowdown in global growth dampened industrial activity more than expected, China remains a promising country, with moderate inflation and good growth prospects.

Three possible scenarios

Invesco’s team of specialists has laid out three possible economic scenarios going forward for the second half of the year:

Scenario 1. Severe slowdown

There will be a strong impact on growth, with recession first in the US and potential spillovers in Europe. Inflation continues to fall. China and emerging markets suffer the trade fallout, but avoid a recession if all else goes.

In this scenario, more defensive options may be considered to obtain better investment results, such as maintaining liquidity, fixed income (government bonds), or gold.

Scenario 2. Irregular slowdown

Growth is below trend and slowing in the short term, but recovery is likely to occur towards the end of the second half of this year. The Fed will soon stop tightening monetary policy and could cut interest rates at the end of the year.

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The Eurozone and the United Kingdom will follow the same pattern, but with a delay, and the European Central Bank and the Bank of England will continue to raise interest rates. China will continue its recovery, with the services sector as the main driver of recovery and the manufacturing sector with worse results due to the weaker global economy. We expect defensive stocks to outperform in the near term, but as markets begin to recover, cyclical stocks should outperform. In this way, they can preferentially invest in fixed income (high-quality corporate credit), growth and high-quality stocks and currencies such as the euro, Swiss franc or yen.

Scenario 3. Gentle slowdown

Tightening affects growth less than expected, and inflation follows a similar pattern to our main assumption. Inflation is declining in the eurozone, but more slowly than it is in the United States. The cycle continues, although the growth rate is below trend. China and emerging markets could benefit marginally, all other things being equal.

We expect mid-cycle stocks to do better. Assets that can be considered favorable for investment here would be high-yield credit, European, emerging, value and small-cap stocks, currencies such as the Canadian and Australian dollars and commodities, especially metals.

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