Energy Crisis Just One Factor in Slower Growth

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Luc de la Durantaye, chief investment officer, CIBC Asset Management.

The energy crunch impact on the global economy is relatively complex and it’s also different for different parts of the world, as the structure of the global economy changes. So let’s start with the U.S. economy. A rise in energy prices impacts the U.S. consumer, we all know that. They have to allocate more of their spending in energy relative to other goods, which detracts from growth. But this is partially offset by increase in oil production and energy investments, which is offsetting some of the negative impact on consumption. So when you look net-net, because the U.S. economy is now a larger oil producer than a number of years ago, some research shows that previously a 10% increase in oil prices used to be tracked about a quarter percent to the GDP. Fast forward to today, that’s about flat, like a 10% increase in oil prices is about flat, because of these offsetting factors.

Think also because the U.S. consumer used to spend over 8% of the disposable income on energy back in the early 1980s, the energy share of consumption has declined to about 3% of disposable income today. So that sensitivity to higher oil prices has declined. So rising energy prices will hurt the U.S. consumer, especially as we approach U.S. Thanksgiving and Christmas, but the impact is less than it used to be. So the Federal Reserve is also not likely to hike interest rates for a given rise in headline inflation. So oil appears in headline inflation, if the inflation is driven by a rise in energy and there’s no spillover effect to the core inflation. So they’re likely to see this as transitory and not requiring a change in monetary policy. So you’re not going to trigger a decline in activity because of the Federal Reserve hiking interest rates.

So that’s for the U.S. That’s one of the big chunks of the economy, the global economy. The other chunk is we could go all the way to the other side with China. And China has been a bit different. They’ve been implementing decarbonization strategies for their economy, which has led to a rationing of energy consumption, recently. We think the power rationing that they’ve done is attributed to a mix of supply and demand imbalances as China makes climate goals more binding. We know that they want to reduce emissions, but there’s another … and we’ll talk about it later, but there’s another reason for that. But China has had a surging power demand following Covid. There’s been a recovery after Covid, local governments also have now annual energy control targets. So they’re trying to hit those energy control targets, and there’s been a power generation shortfall because the coal prices, surging fuel prices, has generated power generation shortfalls.

And also the renewable energy that they have is not capable of supplying the demand for rising energy demand. So combined with the real estate de-leveraging because of Evergrande, our analyst has lowered Chinese growth outlook to slightly below 5% over the coming year.

But on net, because there are also some economies that are benefiting from rising oil prices, Canada is one, Norway is one, Russia is one, our net global economic forecast is not necessarily being downgraded materially because of the rise in energy prices. There’s other factors that are leading to a deceleration of global growth over the coming year, but that’s mainly based on the base effects from … we’ve had a torrid growth recovery after the pandemic, over the last 12 months, although the base comparison is going to show slower growth over the next 12 months. Also, the U.S. has a large fiscal stimulus decline. They’ve had a massive stimulus last year, so we’re not going to see the same amount of stimulus the next 12 months.

So all in all, we see a deceleration in global growth, but still growth will be above potential over the next 12 months. So, what does that all mean under that scenario that I just, high level, that I had depicted, we would still favour equities over fixed income. So you have growth that continues to be above potential. With continued expected shortages in a number of commodities, we would still have a bias towards commodity producing economies, currencies, and sectors. So Canada, Norway, Russia can be expressions of such overweight in either their equity market or their currency in particular.

There’s also some risk to that scenario. I would say, we view a more pronounced growth deceleration in China than currently expected, due to maybe more spillover from the real estate sector in China and that spills over into Chinese consumption. That’s a risk. Also if the Fed is more aggressive in its tapering, or we’re starting to price higher interest rates sooner, that’s also, I think, a risk to the outlook and the strategy that I just outlined.