The writer is chairman of Fulcrum Asset Management
The spectacular V-shaped recovery in the global economy has probably now come to an end with much more normal growth to follow.
Global output rose at an annualised rate of 34 per cent in the third quarter compared with the previous quarter, according to JPMorgan. Remarkably, given the scale of the economic fallout from the coronavirus pandemic, that would leave output only about 4 per cent below the pre-virus level attained in the final quarter of 2019.
The next big shift in the global economy is likely to depend on how manufacturing and non-manufacturing sectors — often described as “goods” and “services” respectively — respond to the economic shocks caused by the virus, and the possible arrival of a vaccine.
There has been no gap in the relative performance of the two sectors up to the third quarter. Goods output fell more than services in the second quarter and then rebounded faster in the third.
However, it is becoming clear that the immediate prospects for the two sectors are very different. JPMorgan forecasts that the level of global goods output will surge by another 4 per cent in the fourth quarter, while services output will grow by only about 1 per cent.
The continuing surge in the goods sector is, to some extent, normal at this stage of a cyclical recovery. Growth in inventories, demand for investment goods used in production and an increase in sales of consumer durables typically kick in during this phase and that is indeed happening now. However, on this occasion, manufacturing output has also gained from the almost complete removal of virus restrictions on factory activity.
Furthermore, the demand for goods is probably benefiting from a shift in consumer spending. Some households are still choosing to avoid services such as hospitality and travel, and others are prevented from doing so by renewed lockdowns.
Household savings ratios have been very high because of government support, and there are signs that excess savings are now being allocated towards groceries, household goods, durable consumer items and cars.
In recent weeks, the worrying rise in the number of Covid-19 infections has led to renewed lockdowns, especially in Europe. Business surveys in the eurozone have shown that the recovery in economic activity in consumer services has moved into reverse. In contrast, similar surveys of eurozone manufacturing are at the highest levels in the recent rebound.
This widening gap between goods and services activity has not yet been fully replicated in US business surveys. However, Covid-19 cases there are rising again, even in areas like New York and New Jersey, which were severely affected by the first wave in the spring. Further lockdowns or other restrictions on consumer services seem probable this winter.
These renewed problems from the virus in the western advanced economies are very different from the situation in the newly industrialised Asian economies, notably China. Asian manufacturing activity has been boosted by exposure to increased global demand for goods, while service sectors are benefiting from their impressive control over the virus.
Macro investors have been focusing on the divide between the global performance of goods and services because this theme is now being reflected in the behaviour of the financial markets.
In the initial sell-off in global equity markets from September 2, goods-related sectors such as industrials and metals performed relatively well. Non-oil commodity prices have been surging for several months, while Asian currencies, including the renminbi, have risen strongly against the dollar and euro.
What about global inflation? In the most recent data for August, core inflation in the goods sector was running at 3.7 per cent on a three-month annualised basis, according to JPMorgan. That compared with only 0.5 per cent in the services sector. This is a completely different pattern from the norm in past years which have generally seen global goods inflation running well below inflation in services.
Most economists expect these shifts to prove temporary and to be reversed when a mass vaccination programme arrives. But that could be many months from now, at best.
If goods demand remains strong into next year, as seems increasingly likely, then both the bond markets and the central banks could be surprised by a further spike in global goods inflation before this episode is over.