Nordea's Chief Economist: Europe to become a growth driver

The ongoing activity indicators suggest that the modest growth which has long characterised the global economy will continue. The growth epicentre will shift, however. The US has been the main growth driver in the western world so far and it seems obvious that a cooling rather than a recession is on the way in the world's most important economy. Moreover, we expect the euro area to finally emerge from the recent years’ standstill, although growth prospects are in no way impressive. It is also a fact that China’s economy is struggling with both cyclical and structural problems, indicating a significant decline in the country’s potential growth rate in the coming years. 

Against this backdrop, we have decided to keep our growth estimate for the global economy in 2024 and 2025 basically unchanged relative to our forecast from April, just above 3% for both years. In 2026, which we cover for the first time, we expect growth of plus 3% too. Consequently, prospects for global trade are also modest, although some progress should be expected as the correction in inventories fades and growth in the manufacturing sector picks up compared to recent years. 

There are several risks related to the forecast: first and foremost the geopolitical situation. Our main scenario is based on the status quo in the war between Russia and Ukraine and the conflict in the Middle East, but obviously the situation could escalate, and peace agreements might be concluded in the forecast period. The latter would be a welcome boost for the global economy. 

The outcome of the US presidential election will also impact the future in terms of the economic development and also trade and foreign policy. In particular, the relationship between the US and Europe could become strained if Donald Trump wins. It cannot be ruled out that the US will take a new stance on climate policy if the regime changes. 

Donald Trump has long argued that interest rates should be cut in the US, and he has sown doubt about the Federal Reserve’s (Fed) independence if he becomes president. Any change to this would create high volatility in the financial markets, and it is reassuring that the other presidential candidate, Kamala Harris, has said publicly that as a president she would never interfere with the Fed’s decisions. 

However, it is no longer a question of whether the Fed will cut rates, but merely when and how fast. This was confirmed by Fed Chair Jerome Powell in his speech at the Jackson Hole symposium at the end of August. The financial markets expect significant rate cuts as early as this year, but as long as inflation is only falling slowly and a recession is not imminent, we estimate that the development will be somewhat more subdued than the markets are currently pricing in at present. 

The same applies to Europe, where the ECB started its easing cycle in June. In the current economic scenario with weak growth, sticky inflation that is underpinned by high wage growth, and great uncertainty in general, the timing and precision of monetary policy execution will be crucial for the bank’s success in supporting the incipient economic upswing at the same time as inflation hits the 2% target.

Another and more implied challenge for central banks at the moment is the recent years’ drastic rise in debt burdens in a number of benchmark countries. The focus on France’s debt problems really flared up during the recent election campaign, but France is not the only country that has been struggling with public finances. 

Large countries such as United Kingdom and the US have also seen public debt spiralling since the financial crisis. The debt-to-GDP ratios now stand at nearly 100% in the UK and 125% in the US. 

This is not sustainable and could lead to stronger inflation and higher interest rates if credible plans are not presented for how to reintroduce budget discipline and reduce debt. 

In this context, it is worth highlighting the small Nordic economies, which, except for Finland, have demonstrated an outstanding development in public finances for many years. 

It is definitely no coincidence that Denmark, Norway and Sweden, which are among just eight countries worldwide with AAA ratings from the major rating agencies, have demonstrated the strongest recoveries after the COVID-19 pandemic. 

Strong public finances create room for manoeuvre during crises and far better possibilities for tackling structural changes related to the new security policy situation, the green and digital transition and, not least, a rapidly ageing population in the western world. And lastly, it will be much easier to service debt at a time when interest rates are positive again. As mentioned, many countries are not able to do that. This may prove to have a significant impact on monetary policy too in the coming years.

This article first appeared in the Nordea Economic Outlook: Precision play, published on 4 September 2024. Read more from the latest Nordea Economic Outlook.