Tuesday, July 20, 2010

>The double-dip risk and its market implications

Market participants face seriously limited visibility on the pace of near-term growth,
particularly for the advanced economies.

However, we do not believe that the global economy is about to fall back into a recession.

A double-dip – which is not the central scenario we choose – would most likely drive rates even lower, but bond price upside is fairly limited, particularly at the front end.

In the event that the US did become the first to slide back into recession, the USD would be
hard pushed to find any support, at least initially. As the downturn shifts from local to global, it would become clear that there is nowhere to hide from a double-dip scenario. Against this backdrop, the USD would likely regain its status as a safe-haven play.

A serious lack of clarity
Market participants face seriously limited visibility on the pace of near-term growth, particularly for the advanced economies. While this is primarily down to structural impediments, some business cycle-related developments have also been at play.

The two main challenges affecting the advanced economies are the constraints of deleveraging and the need to resume a more neutral monetary and fiscal policy stance. Both of these involve risks. The precise impact of the debt-reduction process on growth is not known. The drop in US housing activity, the European banking industry or the government sector in any advanced country are good examples of the fact that we are entering unfamiliar territory. The risk of a policy blunder should also not be underestimated. How does one simultaneously create the conditions of more economic growth, cut the public deficit and increase the central bank’s
official rate to a more normal level?

To read the full report: RISK & ITS IMPLICATIONS

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