23-01-2025 09:52

Nordea's Chief Economist: Political risks have increased significantly

Global growth continues at a moderate pace. The US economy was boosted after the presidential election, while Europe is trying hard to catch up. Uncertainty is high and increasingly linked to political developments. Monetary policy rate cuts are coming to an end, and growth in the Nordic region will likely chiefly be driven by domestic demand in the coming year.
Group Chief economist Helge J. Pedersen

Everything suggests that the moderate growth characterising the global economy since the pandemic will continue. We consequently expect global growth to be around 3% over the next few years. This is roughly the same as we estimated in the September edition of Economic Outlook. 

However, the narrative has changed somewhat. In the wake of Donald Trump’s convincing election victory, the current activity indicators for the US economy were significantly stronger than expected last summer, while they have been weaker in Europe. The situation in the important Chinese economy, in which the authorities have stimulated activity through a more expansionary economy, is more or less unchanged. 

Several risks are related to the forecast. First and foremost is the geopolitical situation. There is growing hope that peace negotiations can be initiated in the war between Russia and Ukraine, as well as in the Middle East over the forecast horizon. Yet this does not change the fact that the security policy agenda has changed, implying a permanent increase in military spending, including for protection against the use of cyber, hybrid and manipulation tools by hostile states. 

In addition, political risks have increased significantly. This is especially true in relation to developments in the US, where Donald Trump’s “America First” philosophy will likely have a major impact on foreign, trade and climate policies, for example. 

While there is good reason overall to expect the US economy to significantly grow in the coming years, supported by Trump’s announced tax and deregulation policies, there is also a risk that the economy may run into problems during the forecast period. For example, the announced trade restrictions could lead to higher inflation, and a clampdown on immigration could cause labour shortages, driving up costs and consumer prices. Foreign labour has accounted for a large part of the job growth in recent years, especially within building and construction, agriculture, and the hotel and restaurant sector. 

At the same time, US exports also risk being affected if new trade wars break out with China and Europe, for example. The large public debt, moreover, which is set to grow further in the coming years, could dampen economic growth if it results in continued high interest rates. 

The expected strong comeback in private consumption will likely be the primary growth driver in the Nordic region in the coming years.

Helge J. Pedersen, Nordea Group Chief Economist

Yet Europe is also facing major challenges of an economic and political nature. Growth is structurally weak, and enormous investments in innovation and research are required to change the trend, as pointed out in the Draghi report. In an economy that, taken as a whole, is also burdened by debt, it seems inevitable that more collective financing and legislative changes – that may pave the way for a well-functioning capital market union – are necessary, albeit insufficient for the success of the growth initiative. 

The political realities do not make the challenges any smaller. France has only narrowly avoided a political meltdown, and the political scene in Germany will likely significantly change after the election on 23 February. Meanwhile, solidarity within the EU is challenged, as several countries have elected governments that are increasingly leaning towards Russia. 

Political uncertainty will most likely play a role for central banks, which have set the direction towards (activity) neutral interest rates but without knowing the exact level. One thing is for sure, though. The level is higher in the US than in Europe, and the key factor for central bank decisions will consequently be the ongoing trend in the most important key figures for the labour market and inflation. Currently, all indicators point to further rate cuts, at least in Europe, where the growth prospects are still gloomy. Conversely, the prospect of further rate cuts in the notably stronger US economy is becoming increasingly uncertain. 

This monetary policy divergence could potentially further strengthen the USD and contribute to sustaining high long-term interest rates in the US and Europe. This trend is underpinned by record-high funding requirements and central banks’ emphasis on balance sheet reduction. 

The Nordic countries must also navigate this uncertain international environment. The narrative has not changed since September. Denmark and Norway still have the most promising growth prospects, boasting strong labour markets and housing prices back at record highs. Finland and Sweden are lagging behind, though, but have significant catch-up potential. 

This potential is to be unlocked chiefly through domestic demand, as the foreign trade outlook remains uncertain due to rising neo-protectionist tendencies. 

Significant investments in defence, climate initiatives and digitalisation are required, but, more importantly, household purchasing power is picking up, driven by high real wage growth and lower interest rates. Consequently, the expected strong comeback in private consumption will likely be the primary growth driver in the Nordic region in the coming years.

This article first appeared in the Nordea Economic Outlook: Consumer comeback, published on 22 January 2025. Read more from the latest Nordea Economic Outlook.

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Name:
Helge J. Pedersen
Title:
Nordea Group Chief Economist
Economic Outlook
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