The global economy and financial markets

Strong financial market performance despite slowing growth

Growth has decelerated in the US and other major economies. A reversal in monetary policy by major central banks has led to a decline in long-term bond yields, and a rally in global equity markets in 2019.

Global economy

Global growth slowed in 2019 due to a contraction in global industrial output and trade. The rise in uncertainty stemming from the US-China trade dispute resulted in a downturn in business investment and manufacturing output across the world. In the US, real GDP growth decelerated to 2.3% in 2019 as the boost from fiscal stimulus faded. Growth in the Euro area also weakened significantly, falling to 1.2% from a solid 1.9% in 2018, with Germany hit the hardest. In the UK, the pace of economic growth remained close to a 10-year low at 1.4%, as uncertainty around Brexit continued to weigh on investment and manufacturing output. In contrast, Japan’s GDP growth accelerated slightly to 0.8% in 2019 from 0.3% in the previous year.

Headline inflation moderated in most markets, tempered by lower oil prices. While underlying inflation (excluding energy prices) was mostly subdued in developed economies, it was more buoyant in the US, in line with strong income growth and tight labour markets. For instance, US real disposable personal income was up 2.9% in 2019, above the 2.7% average since 1990.

Economic growth in emerging Asian markets continued to outperform growth in other regions, despite slowing for the second consecutive year. Real GDP growth in India and China decelerated but remained above the 6% mark in China, at 6.1%, in 2019. Accommodative monetary policy and fiscal measures in China cushioned the drag from the weakening global economic backdrop. Growth in Central and Eastern Europe slowed slightly along with Western European markets, but remained firmly above trend in EU member states. Russia’s economy, however, slowed down abruptly, with GDP growth almost halving compared with 2018 to 1.2%. In Latin America, significant deceleration in Mexico and softening in Brazil drove slower growth in the region.

Finally, political and economic crises kept some emerging countries in recession, including Turkey, Argentina and Venezuela.

Interest rates

Major central banks made a sharp monetary policy U-turn in 2019. While 2018 had been a year of gradual policy normalisation, the US Federal Reserve cut interest rates three times in steps of 25 basis points in the second half of 2019. The European Central Bank cut the deposit rate to a new record low of –0.5% and restarted open-ended quantitative easing with asset purchases of EUR 20 billion a month in November 2019. The Bank of Japan also continued its expansionary monetary policy, targeting long-term yields close to zero. The main outlier was the Bank of England, which remained on the sidelines amid Brexit uncertainty.

In emerging markets, central banks also joined the easing trend with the central banks of Russia, Turkey, South Africa, Indonesia, Brazil and Mexico cutting interest rates amid weak growth and falling inflation. Despite a rise in inflation towards the 3%-target at year-end, China’s central bank eased monetary policy to cushion the adverse impact from slowing external demand.

The U-turn in monetary policy led to a sharp downtrend in long-term bond yields across the globe. The US 10-year yield closed the year at 1.9%, down by almost 80 basis points compared with the previous year. Yields in the Euro area also declined significantly, dipping into negative territory. The German 10-year government bond yield ended the year at –0.2% and the UK yield closed at 0.8%. The Japanese yield ended the year at 0%.

Interest rates for 10-year government bonds 2015–2019

Source: Datastream

Stock markets 2015–2019

Source: Datastream

Stock market performance

Despite a softening economic activity and a challenging geopolitical landscape, stock markets performed well in 2019. Equities benefited from the policy U-turn by central banks, which kept monetary policy accomodative, creating a favourable environment for risk assets. This more than offset the negative impact from a slump in earnings growth as margins contracted in the second half of 2019.

However, political and policy uncertainties led to repeated setbacks. Trade tensions between the US and China ebbed and flowed throughout the year, with a number of surprise tariff announcements keeping market participants on their toes. In Italy, the governing coalition broke down and was replaced by a new government. Meanwhile, uncertainty around Brexit peaked after Theresa May stepped down as Prime Minister, resulting in an escalation of no-deal risk before a notable de-escalation towards the end of the year.

US stocks ended the year up 29%. Other major indices also fared well. The Swiss Market Index rose 26% over the year, the Eurostoxx50 was up 25%, the Japanese TOPIX rose 16% and the MSCI UK increased 11% (see stock markets chart).

Currency movements

There was little movement in the US dollar against major currencies in 2019. Policy uncertainty, relatively high US long-term yields and softening growth elsewhere kept demand strong. Over the year, the US dollar strengthened 1.8% against the euro and appreciated by 1.2% against the Chinese renminbi. It was down 4% against the British pound as no-deal Brexit risk receded. It was also down 1.7% versus the Swiss franc, and 1% versus the Japanese yen.

Economic risks affecting re/insurers

Downside risks, which were elevated throughout 2019 amid weak economic resilience, have increased in 2020. Global political developments, coupled with the economic impact of the spread of COVID-19 in particular, triggered high levels of uncertainty.

We expect the outbreak of the novel coronavirus to lead to significant disruptions in economic activity, causing a global recession with global growth well below 1% in 2020. The main negative economic impact is likely to result from the measures to contain the further spread of the virus and a strong tightening in funding conditions. Several sectors such as hospitality, travel and manufacturing are likely to face particularly negative economic consequences. Even economies that are not directly affected by the outbreak will be hit by disruptions in the global supply chain and weaker global demand. While there is considerable uncertainty around the impact of the pandemic, our baseline scenario is for economic activity to normalise gradually going into 2021. However, a wider-than-expected global spread of COVID-19 could result in an even more protracted global economic recession.

Several political risks could also affect the outlook. While Brexit-related uncertainty has abated, there remains a risk of a no-trade-deal exit at the end of the transition period, with serious repercussions for the UK and the EU. In the EU, there are several significant policy challenges, including migration policy and national budgets. Other unresolved issues, such as fragmented financial markets, fragile banking sectors and elevated debt burdens, could also resurface in a recession.

Finally, US-China tensions continue to be unresolved. The signing of the ‘Phase One’ deal and the focus on the coronavirus have created a hiatus in the dispute between the two countries. We do not expect a meaningful resolution of the trade tensions in the near future, while further escalation remains a risk. With the monitory policy arsenal largely exhausted and side effects of the ultra-accomodative stance becoming increasingly visible, economies have become less resilient. There will be calls for new approaches such as increased coordination between fiscal and monetary policies to mitigate the economic downturn. This could result in heightened inflation uncertainty and further unsettle financial markets as monetary policy leeway would become more restricted. A scenario of unexpectedly high inflation would also have a sizeable impact on re/insurance claims, especially in casualty lines.

While downside risks dominate, we also see upside potential to our baseline forecast from continued macroeconomic policy support and a de-escalation in the trade conflict. A more positive scenario of stronger growth and contained inflation would be beneficial for the re/insurance industry. Investment yields would improve, albeit only slowly, and premium volumes would rise, along with economic activity.