In our regular feature, we ask both members of the OMFIF advisers network and OMFIF economists to give their forecasts for the year ahead.
Will the euro area move ahead with steps to complete the banking union?
Roel Janssen, formerly NRC Handelsblad
The euro area will move ahead with banking union in 2020, in part because there has been a steady, little-noticed improvement of the balance sheets of southern European, particularly Italian banks. In fact, the biggest threat to the banking union may be the weakness of Deutsche Bank.
Second, there is a new political impetus to strengthen the euro as an international currency. Considering the whimsical nature of the current US administration, and the fall out of Brexit, the European Union will assert more self-confidence in 2020. Part of this endeavour will comprise strengthening the monetary union, including steps to complete the banking union.
Is this the year regulators begin to break up big tech?
Irena Asmundson, California Department of Finance
Maybe. The real question is how should big tech be regulated to balance consumer and company interests? Markets and democracy depend on people making informed, independent choices. If every search you do is personalised, and companies have perfect price discrimination but prevent knowing the impact by their terms of service, your ability to choose freely disappears. Consumers must be able to push back meaningfully. One way is privacy and anonymity (so companies must treat consumers equally), but another is making company algorithms only depend on common knowledge (so everyone knows what everyone knows). Then you’d have a true market of buyers and sellers.
Which emerging market will be the standout performer in 2020?
Gary Kleiman, Kleiman International
After a poor 2019 performance in which they lagged behind the MSCI core and frontier stock market indices, sub-Saharan Africa’s main markets will rebound on better growth, debt management, financial sector overhaul and regional integration prospects.
OMFIF’s Africa Financial Market Index has an average score above 50 for the 20 countries covered for the first time across six macroeconomic, size-liquidity and institutional/regulatory categories, signaling positive direction. At the same time the International Monetary Fund called on countries under programmes like Ghana and elsewhere on the continent to tackle external commercial debt burdens with decisive strategies even as 5% growth resumes.
South Africa has hit bottom with an implied investment-grade sovereign rating loss; Kenya ended a misconceived interest rate cap; and Nigeria, after initial hesitation, is a supporter of the new pan-African free trade agreement.
What kind of monetary debate will there be in the run up to the US election in 2020?
Mark Sobel, OMFIF US Chairman
Don’t expect to hear much about reducing fiscal debt and deficits in the 2020 presidential elections. Distribution, yes. Chiding Donald Trump for fiscal profligacy, yes. Debt and deficits, no.
Trump’s tax cuts caused the debt and deficit to balloon, without much durable impact on activity. Many Republicans are embarrassed by nearly 5% of GDP deficits. They now swat back calls for further tax cuts. They call for spending cuts, but don’t deliver.
Bill Clinton ran surpluses; Barack Obama scaled back post-crisis deficits amid Republican shrieks of horror. Yet, like Trump, George W Bush cut taxes and spent heavily. These cuts benefited companies and higher-income individuals disproportionately.
Democrats are in no mood to fret about deficits and debt. They want to push their domestic priorities. Democrats may argue for greater progressivity to pay for their priorities. But for both parties, debt and deficit reduction aren’t on the table. Neither evinces interest in tackling entitlements.
Will China issue a central bank digital currency? And if so, how may it complement existing systems?
Bhavin Patel, OMFIF
The People’s Bank of China will issue a central bank digital currency in the second half of 2020. Before the digital renminbi comes into circulation, the design and operational framework will need to be signed off by the government. Retail commercial banks, who will be the probable distributors of the CBDC on behalf of the PBoC, will need to develop the technological ability to do so. There is a risk that this coin may disrupt the market dominated to date by WeChat and Alipay. At the same time, such a coin could reduce fragmentation in payment systems by providing a universal payments system, or even support companies like WeChat and Alipay if the systems were interoperable.
What would be the greatest risk to financial markets in 2020?
Colin Robertson, SW1 Consulting
In recent years, threats to economies and stock markets have been addressed typically with monetary action or promises. On some issues, such as trade wars, a few warm words have sufficed in the short term while forthcoming fiscal easing has reassured on occasion.
As we enter 2020, the political and economic threats have risen. In particular, corporate profit margins are under pressure from greater regulation, potentially higher corporate taxes, increased minimum wages and the costs of addressing climate change. At the same time, we have experienced the longest bull market in US equities since 1900 and bond yields are at extraordinarily low or negative levels.
The greatest risk is that policy-makers will be unable to convince investors that they have adequate tools to stabilise the situation when wobbles inevitably materialise.
What should reserves managers be most concerned about in 2020?
Hemraz Jankee, formerly Central Bank of Mauritius
The projected global outlook in 2020 remains precarious. Rising trade and geopolitical tensions, including Brexit-related risks, have increased uncertainty about the future of the global trading system and are likely to take a toll on business confidence, investment decisions, global growth and exchange rates. Volatility is expected to persist well into 2020, a period of synchronous easing bias.
Against such a background, reserves managers would be concerned with the potential yields on their portfolios of external assets, possible negative carry on central banks’ balance sheets if involved in mopping up liquidity through the issue of their own instruments. In this low yield environment, central banks would increasingly focus on the optimisation of their balance sheet management.
The pace of accumulation of reserves is set to decline in synchrony with a global slowdown. Many emerging markets have built up a substantial buffer compared to previous crises. Reserve adequacy metrics have also changed. Global reserves managers have in recent years diversified their portfolios towards non-traditional reserve currencies, including the Chinese renminbi, a trend that is likely to continue.
Addressing climate risk management in the financial sector would figure prominently on the agenda of central banks under the Network for Greening the Financial System initiative.
How will the central banking toolkit change in 2020?
Pierre Ortlieb, OMFIF
Monetary policy-makers are in the throes of a quandary. On the one hand, growth and inflation remain low in many parts of the developed world, especially Europe and Japan. On the other hand, public frustration with extraordinary post-crisis measures is increasingly vociferous, with banks lamenting the so-called ‘punitive’ nature of negative interest rates and politicians decrying quantitative easing’s impact on wealth inequality.
Modifications to the central banking toolbox will have to be designed with this delicate balance in mind. Some institutions, such as Sweden’s Riksbank, have chosen to exit negative rate policy entirely. Others, however, may pursue expansion, rather than retrenchment. Several influential current and former policy-makers and investors have called for greater intertwinement between monetary and fiscal policy, whether in the form of ‘helicopter money’ or a ‘standing emergency fiscal facility’, which would operate similarly to the yield curve control policies seen in Japan. As growth remains listless in major economies, and fiscal policy remains hamstrung by outdated fiscal rules and deadlocked political authorities, monetary experimentation seems likely to continue.
Why has growth in the world’s largest economy been so robust, and why will it not fall into a recession in 2020?
Steve Hanke, Johns Hopkins University
Pundits have spent the last year wringing their hands over the ‘fact’ that a US recession is just around the corner. Indeed, The Economist magazine reports that Google searches related to the word ‘recession‘ have surged. For the past year, I have urged people to relax.
In the US, money dominates, and the growth rate of the money supply (broadly measured by Divisia M4) is a robust 7.4% per year. That puts it well above the trend rate. So, continue to relax. The world’s largest economy will probably grow at above its trend rate in 2020.
What impact will increased public awareness of the climate crisis have on the investment community?
Danae Kyriakopoulou, OMFIF
Disruption to economic activity and asset prices from natural disasters and climate change is becoming more frequent and costly. Governments and regulators are responding with measures that will define the investment landscape of the future. The Banque de France and Bank of England are planning climate stress tests for financial institutions from 2020 and 2021 respectively. The Netherlands, Germany and Brazil have already done so, and more are likely to follow. Investors should prepare to meet increased climate-related regulatory scrutiny, but also look to the investment opportunities created from the green transition. Active ownership strategies and engagement at the firm- and industry-level will gain popularity in 2020.
Will there be further downward pressure on the renminbi in 2020?
John Adams, China Financial Services
Exchange rates are notoriously difficult to predict, and in China the ability and willingness of the state to intervene by administrative or other methods is another a major factor.
One serious consideration is imported food prices. China is already being affected by virulent swine flu and by US sanctions on its soyabean exports (to some extent alleviated by Brazil, though at the expense perhaps of further Amazonian deforestation).
A falling renminbi rate against the dollar might exacerbate pressures on the Chinese consumer price index – food prices were up 19% in November 2019 year on year, with the CPI up 4.5%. This is disturbing for the Chinese authorities, but they have weathered higher levels in the past.
China is said to be about to issue details of its own central bank digital currency, which, if used as the currency of denomination and clearing for dollar-denominated goods such as oil, gold and foodstuffs, might attract other eager users – Russia and Iran spring to mind.
But China has been down this road before – renminbi internationalisation has faltered and annoyingly, London, as usual, is the largest renminbi trading forum outside China, at the best trading prices.
On the other side of the equation, an induced appreciation of the renminbi by the authorities to alleviate imported inflation pressures might only work in the short term, and be costly to sustain against a dollar rising as a safe haven in the incipient world recession.
China is being thrown back increasingly on isolationism and protectionism. As a retort to the US treatment of Huawei, all Chinese government offices are replacing their foreign hardware and software over the next three years.
Increased manipulation of the renminbi exchange rate may therefore be a natural corollary of the economic and political situation – unless we have regime change in the White House.
Aside from Christine Lagarde and potentially Isabel Schnabel, will we see more women join the ECB’s governing council?
Vicky Pryce, Centre for Economics & Business Research
Isabel Schnabel will be simply replacing Sabine Lautenschläger as one of the six members of the European Central Bank’s executive board, who form part of the governing council alongside the 19 euro area countries’ central bank heads, so there will be no change in female representation.
The lack of women in top positions in central banking across the world has been well documented and the euro area is no exception. The picture of Christine Lagarde surrounded by a sea of suits at her first ECB governing meeting in late 2019 was a sad one. We know from research that a more balanced view at the top is good for containing financial risks. And yet between 1988-2018, women have made up only 6% of the ECB’s governing council, against a still low but slightly better 11% for the Federal Reserve’s open market committee and 19% of the Bank of England’s monetary policy committee. There are no female central bank governors in the euro area and the share of deputy governors has stagnated at around 20% since 2012.
What will be the greatest source of macroeconomic instability in 2020?
Elliot Hentov, State Street Global Advisors
The usual suspects are financial imbalances that build up during an economic cycle or disruptive monetary policy intervention. Neither is likely to be the trigger in 2020. Instead, the greatest risk remains politics, with an ability to shake markets and spill over into the real economy. This has been the pattern since 2018, when US-launched trade disputes rippled across the globe. In 2020, it is more probable that the approaching US presidential election uncovers political volatility that cannot be contained to the political arena. And, similar to the 2008 financial crisis, while the origins may be in the US, the consequences will be felt abroad at least as much..
How will global public pension funds cope with the continued low yield environment?
Caroline Butler, Walcot Partners
Disastrously, with severe systemic risks to growth and civil society. Once pension funds could no longer match the future and present cash flows needed to meet pensioners’ liabilities with the yield on their portfolios of good quality bonds, they had few options. They could weather low yields in the short term, playing ostrich and betting on recovering returns later. But after a decade this is impossible. So pensions are pushed to chase returns by investing in equities or even private equity. That is fine in rising markets but a systemic accelerator of market falls as all run for the door. Many have delayed or reduced pensioners’ benefits, which cuts global consumption. Other have increased pension fund contributions, which has led to civil unrest, strikes and further attacks on global growth. And more will come.
What challenges will preoccupy central bankers in 2020?
Patricia Haas Cleveland, OMFIF
Gone are the days when central bankers were expected to focus only on their mandates. Basic responsibilities to keep inflation low and stable and promote sustainable job growth have steadily been broadened in the public’s eye. Traditional macroeconomic and monetary policy matters alone will continue to demand full-time attention. Questions of adequate bank reserves, excessive debt levels, sufficient market liquidity and the ‘Japanification’ impact on growth of ‘low for long’ and negative interest rates will be topics of focus, as well as the adequacy of current monetary (and fiscal) tools. At the same time, newer subjects as diverse as climate change, fintech and financial inclusion will require greater scrutiny for their impact on risk, regulatory frameworks and the safety of the global financial system.
Among these a breakout topic requiring central banks’ focus will be the entry of large technology companies into financial services and opportunities for improvement in financial payments processing. Innovation in this area, including ideas for central bank digital currencies and stablecoins, may challenge long-standing regulatory and infrastructure paradigms. But it may also lead to new ideas that lower costs and create more efficient payment solutions, especially in cross-border payments. The key to leveraging such innovation will be understanding and addressing implications for regulatory, risk, operational and financial safety aspects from different participants’ perspectives. Cybersecurity will likewise continue to be a significant concern. Central bank independence will be closely watched, occasionally challenged, but generally preserved.
Will South America experience greater political stability in 2020 compared to the economic instability and large-scale protests in the continent in 2019?
Otaviano Canuto, Policy Center for the New South
The economic instability and large-scale protests in South America in 2019 had both common and country-specific idiosyncratic causes. While most countries have faced headwinds to maintain income growth for the poorer half of their population since the end of the super cycle of commodities, exacerbating sentiments about the high levels of income concentration, triggers of protests have differed. Like the pioneer Brazilian street movements in 2013, they all claimed for a change in the political landscape, favouring the opposition of incumbents regardless of their position in the political spectrum. Wherever such dislocations have happened, there will be an inevitable break on protests, until at least time enough is given for reaping fruits from the change.