US recovery picks up speed
ANZ Research has doubled its forecast gross domestic product growth for the United States, amid greater clarity around the vaccine roll-out and fiscal preferences of the Biden administration.
In the wake of these improving prospects, ANZ Research now expects US GDP in calendar 2021 to grow 6 per cent, up from a previous forecast of 3 per cent.
The risks to this forecast are to the upside, with more fiscal stimulus potentially due in the latter part of 2021, as the new Biden administration prepares to roll out a substantive infrastructure program.
ANZ Research expects the US economy to return to pre-pandemic levels of gross domestic product in mid-2021. That’s earlier than previously expected.
As a result of strong growth, ANZ Research now forecasts that US inflation will rise 2.5 per cent in 2021. This is unlikely to be a permanent shift to a higher inflation state, and inflation is expected to ease to 2 per cent in 2022 as growth falls back to an estimated 3.2 per cent next year.
The shape of the unfolding recovery promises to be very different from the aftermath of the global financial crisis. This is a health crisis, not a debt crisis and governments around the world have learnt the path to recovery is not through austerity.
The economic damage caused by COVID-19 has been unprecedented. At the end of last year, there were 10 million fewer non-farm payroll jobs in the US than there were before the pandemic. In short, US GDP was 3.5 per cent lower in 2020 than in 2019 and fell back to levels last seen in mid-2017.
President Joe Biden’s administration prefers gigantic stimulus and a return to full employment as soon as possible. US Treasury Secretary, Janet Yellen, would like to see that within a year.
In this context, the US Congress looks set to pass a significant chunk of Biden’s $US1.9 trillion America Rescue Plan. Income support for households and businesses is a significant proportion of the relief package so could provide a powerful spending boost to the US economy.
ANZ Research estimates the final package is likely to be around $US1.7 trillion, with eligibility for the $US1,400 stimulus cheques to be tightened and support for unemployment insurance possibly shortened relative to Biden’s plan.
Notably, many US households are already in a good position to spend in 2021, given they have accumulated a significant savings buffer from the various fiscal relief packages passed since the start of the pandemic.
The other positive news for the US economy has been the speedy rollout of vaccines. According to the CDC over 75 million doses have been already delivered. With around 1.5 million delivered each day, it is estimated that full herd immunity could be achieved by end of July.
There are considerable uncertainties surrounding this prediction, namely how long vaccine immunity lasts and whether the vaccine will be effective against new variants. That said, herd immunity will open the door for a complete normalisation of the US economy, particularly for sectors like leisure and hospitality, which have borne the brunt of the restrictions.
The question for markets is whether planned policy settings will be inflationary. The Fed will not drain the surge in liquidity that was needed to bridge the economy during the crisis. To do so would be highly recessionary. The Fed has also pushed back against expectations of early tapering. Base effects, however, will push annual money supply growth sharply lower.
Contrary to monetary theory, there has been a negative relationship over the last 20 years between money supply growth and inflation. The Fed’s new average inflation target strategy indicates it will be committed to sustaining record accommodation in an effort to get inflation up.
There was a clear relationship between the COVID fiscal response in the second quarter of 2020 and acceleration in GDP growth in the third. As COVID-19 restrictions ease over 2021 and fiscal policy is expanded, the economy will register very strong rates of growth. Excess demand in the short run could cause some inflationary bottlenecks.
Base effects will also push US inflation higher in March and April, temporarily pushing it above the Fed’s 2.0 per cent target before falling back. It will be important to watch the Fed’s response.
The path of private demand is also important. So far, there has been a weak relationship between demand deposits and demand-pull inflation. This could change when the economy normalises.
The savings rate has fallen back following the initial lockdown surge. However, at 20.4 per cent it is still well above its long-run average. If the economy normalises and consumer certainty rises, that savings surplus, equivalent to 9 per cent of nominal GDP, could cascade into real private demand. Household spending expectations are at their highest since the final quarter of 2015, according to Fed data.
The US economy is not without its challenges. Mortgage arrears have risen to GFC levels and will need to be carefully managed. Consumer credit growth is normalising following the record plunge in the second quarter. However, revolving credit volumes are continuing to fall as consumers have opted to use part of their savings to pay down credit card debt.
There are also some externalities emerging from the accommodative monetary environment that will warrant attention in the future. The growth in the Fed’s balance sheet is closely correlated with the growth in leverage on the NYSE, which has reached record highs. Easier access for retail investors to the options market may be playing a role but the speed of the rise and absolute levels of leverage that have been reached do sound a note of caution.
Brian Martin is a Senior International Economist at ANZ Institutional
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