28 November 2014
For professional investors only
Schroders
Economic and Strategy Viewpoint
Keith Wade
Chief Economist and
Strategist
Global forecast update and outlook for 2015 (page 2)

Azad Zangana
Senior European
Economist and
Strategist
Craig Botham
Emerging Markets
Economist

Global activity undershot expectations in 2014 as the world economy struggled to
shake off the malaise of the past three years. Going forward the outlook is for a
modest recovery as the fall in energy prices supports consumer spending and
reduces business costs, whilst the squeeze from fiscal austerity eases further.
Monetary policy is set to diverge with the US and UK tightening whilst loose
policy remains the order of the day in the Eurozone and Japan.
Risks are still skewed toward more deflationary outcomes, with Eurozone
deflation and a hard landing in China. However, we have also increased the
probability on a stronger growth and lower inflation outcome to reflect the
ongoing fall in energy costs.
Europe: Edging closer to sovereign QE (page 7)


Weak growth, low inflation, and an inability to depreciate the euro are factors
pushing the European Central Bank (ECB) towards sovereign quantitative easing.
We expect the recovery to continue, although it will remain unimpressively
sluggish.
UK growth looks set to moderate after a strong run. Inflation could fall below the
Bank of England’s (BoE) lower 1% target, but is likely to help push household
consumption higher. BoE likely to remain on hold now until the end of 2015, with
limited rate rises from there. Meanwhile, elections in 2015 and the big current
account and fiscal deficits could put GBP under pressure.
EM forecast update: No bulls in this China shop (page 15)

A relatively downbeat EM outlook this quarter, though there are few revisions to
the 2015 growth outlook. Weaker oil spells problems for Russia but should help
keep inflation low elsewhere, while also providing some growth tailwinds to
energy importers like India. Brazil’s election is growth negative, but positive
policy shocks could pose upside risks to our 2016 outlook. Meanwhile, China will
continue to slow, despite recent stimulus efforts.
Views at a glance (page 20)

A short summary of our main macro views and where we see the risks to the
world economy.
Chart: Global sub-par recovery continues
Contributions to World GDP growth (%, y/y)
6
5
4.1
4.9
4.5
4.9
3.9
3
2.5
Forecast
4.6
3.7
4
2.8
5.0 5.1
4.5
3.3
2.9
2.8 2.8
2.5 2.5 2.6
2.2
2
1
0
-1
-1.2
-2
-3
96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16
US
BRICS
Europe
Rest of emerging
Japan
World
Rest of advanced
Source: Thomson Datastream, Schroders. 25 November 2014. Previous forecast from August 2014.
Please note the forecast warning at the back of the document.
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28 November 2014
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Global forecast update and outlook for 2015
2014 post-mortem
Both growth and
inflation came in
lower than
expected in 2014
Hopes that the world economy would shake off the malaise which has gripped
activity for the past three years have been disappointed in 2014 and as we head
toward the end of the year we look set to experience a third consecutive year of sub
trend growth. Compared to consensus forecasts made a year ago, global growth at
2.6% has undershot consensus forecasts by about ½% with the greatest miss in the
emerging markets (which disappointed by about 1%). China accounts for some of
this, but Brazil and Russia both significantly undershot.
For the advanced economies the miss was more modest, but included the US
(which had a torrid q1 as the economy literally froze) and Japan, where the impact
of fiscal tightening pushed the economy back into recession. Despite the gloom
surrounding the Eurozone economy, growth looks set to come in close to
expectations at 1%. The UK was the outperformer, significantly beating growth
expectations as the recovery continued.
The concern in the Eurozone, of course, is that inflation has been lower than
expected, undershooting by 0.8% with an outcome of just 0.5% y/y now expected
for 2014. China inflation also significantly undershot. Lower than expected inflation
has been a theme everywhere this year and is partly a reflection of the fall in food
and energy prices, but also reflects a moderation in core inflation. On this basis, the
undershoot in nominal activity has been widespread and significant in 2014 (chart 1)
and is consistent with the downward shift in interest rate expectations.
Chart 1: Outturn vs. forecast: significant undershoot in 2014
%
1.0
0.5
Bars represent the difference
between 2014 consensus
expectations in Nov '13 and
current expectations for 2014.
0.0
-0.5
-1.0
-1.5
Advanced
US
EZ
Real GDP
JP
Inflation
UK
BRICs
Nominal GDP
China
Source: Thomson Reuters Datastream, 26 November 2014
Outlook: the forces shaping growth
Lower energy
prices act as a tax
cut, will support
growth in 2015
Looking ahead we have resisted the temptation to slash our forecasts for 2015 as
we believe that growth will gain some support from the fall in commodity prices and
a less restrictive fiscal stance. The shift in energy prices has been dramatic with
Brent oil prices now some 20% lower than when we made our last set of forecasts in
August (chart 2). Note that the oil price curve has shifted down by some $5-$7 since
we set our baseline assumptions, indicating that the impact on the world economy
could be greater if prices do not recover in coming months.
2
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Chart 2: Spot and futures prices collapse in the oil market
Brent crude oil ($ per barrel)
120
115
110
105
100
95
90
85
80
75
70
Jan13
Jul13
Jan14
Jul14
Futures (Aug 2014)
Jan15
Jul15
Jan16
Jul16
Futures (Nov 2014)
Oil price
Source: Thomson Reuters Datastream, 17 November 2014
As highlighted in last month's Viewpoint, whilst weak demand has played a role in
the softness of commodity prices so signalling a concern for global growth, more
supportive supply side factors have been as important. For example, lower food
prices are largely due to the agricultural sector enjoying record harvests. On the
energy side, a breakdown in discipline in the OPEC cartel has been a critical supply
side development.
Lower commodity prices are affecting the emerging economies and putting pressure
on the likes of Russia, Brazil and the Middle East states to cut back state
expenditure. There are also concerns for the finances of some energy companies
who have leveraged into higher oil prices. Overall though the move can be seen as
positive for the West and large parts of Asia who import most of their energy needs.
The increase in expenditure from consumers will be more immediate and greater
than the cut backs in spending by the latter group, which is dominated by
governments and corporates. The boost to growth occurs because the former are
liquidity constrained and so spend the gain in real income (like they would a tax cut),
whilst the latter tend to have significant liquidity and take time to react, or simply
chose to run smaller surpluses/ larger budget deficits.
Fall in oil prices is
worth around 0.5%
to global growth
Based on simulations from the Oxford Economics Forecasting model, the 20% fall in
oil prices will add about 0.5% to 2015 growth in the world economy and take 1% off
2015 inflation. Interest rates are generally lower as inflation expectations and wage
growth moderate, adding to the stimulus. We have built these effects into our
baseline forecast in the form of a near term boost to consumer spending in the first
half of next year. Thereafter though we would expect the boost to moderate as oil
prices stabilise.
Another factor which will affect growth next year is fiscal policy. This is nothing like
the impact it has been in recent years, but the fact that governments are backing
away from austerity means that the drag from fiscal policy will be considerably less
than in previous years (chart 3). The decision by Prime Minster Abe in Japan to
delay the next rise in the consumption tax by 18 months is the latest example. We
have also seen a considerable swing in the Eurozone where fiscal policy has been a
significant drag in recent years to a more neutral effect.
3
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Chart 3: Drag from fiscal policy to ease in 2015 for G20 (advanced economies)
% of GDP
1.5
1.0
0.5
Fiscal Tightening
0.0
-0.5
Fiscal Stimulus
-1.0
-1.5
-2.0
-2.5
2008
2009
Forecast
2010
2011
2012
2013
2014
2015
Change in cyclically adjusted primary balance
Source: IMF, Schroders 25 November 2014
In the near term our forecasts are, as always, influenced by surveys and other
indicators and although we have seen a moderation in the widely followed PMI's,
they remain consistent with steady global growth. However, our proprietary
indicators continue to point to a divergence between the developed and emerging
economies (charts 4 & 5).
Charts 4 & 5: Growth trackers signal DM recovery, EM decline
Our g-trackers
remain positive,
but continue to
reveal DM/ EM
split
y/y%
6
4
2
0
-2
-4
y/y%
10
8
6
4
2
0
-2
-4
-6
-6
-8
04
06
08
10
12
14
04
06
08
10
12
14
Developed GDP growth based on G-tracker
EM GDP growth based on G-tracker
Developed GDP growth
EM GDP growth
Developed G9: US, UK, Eurozone, Japan, Canada, Australia, New Zealand, Norway and Sweden.
EMD (Emerging debt markets): Brazil, Mexico, Russia, Turkey and Indonesia. Source: Schroders,
Thomson Datastream, 31 October 2014
Forecast summary: policy divergence ahead
Upward revisions
to the US and
Japan, offset by
cuts to the
Eurozone and
emerging markets
Pulling this together, our global growth forecast of 2.8% for 2015 is little changed
from last quarter with downward revisions to the Eurozone and emerging markets
offset by upward adjustments to the US and Japan. This compares with a likely
outcome of 2.6% in 2014. Upgrades in the US and Japan reflect the benefits of
lower oil prices and an absence of fiscal tightening, whilst in the Eurozone and
emerging economies these positives are offset by structural headwinds on growth.
This quarter we have introduced our 2016 forecast which shows another year of
sub-par global growth at 2.8% with US activity moderating in response to higher
interest rates and a stronger USD. Growth in China also eases down and when
combined with the US, offsets a minor upturn in Japan and the Eurozone in
4
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response to further BoJ and ECB easing and currency depreciation.
Our inflation forecasts have been cut in response to lower than expected outturns in
recent months and the fall in commodity prices. Global inflation is expected to come
in at 2.9% for 2015 with a significant reduction for the US where falling energy
prices have the most impact on CPI inflation. The Fed is generally expected to look
through much of this fall and focus on the core rate of inflation and wages, which are
both expected to rise in 2015. We have, however, reduced the pace of rate
tightening such that the Fed funds rate is expected to rise to 1.25% by end 2015
(previously 1.5%). US rates then peak at 2.5% in 2016.
We now expect full
QE from the ECB,
but the BoJ may
hesitate to expand
QQE further
In the Eurozone we expect the ECB to monitor the impact of recently announced
measures to reduce bank funding costs, but to implement QE (sovereign debt
buying) later in 2015. This is a close call as the economy is expected to escape
deflation and can be seen as an insurance move to protect against the risk of falling
prices. For the UK, we have pushed out the first rate hike to November 2015
(previously February) as a result of lower inflation.
In Japan, the BoJ will keep the threat of more QQE on the table, but is now likely to
let the weaker JPY support the economy and refrain from further increases in QQE.
Governor Kuroda is likely to be uncomfortable with the decision to delay the next
increase in consumption tax by 18 months until 2017. Portfolio outflows to overseas
markets by the likes of the Government Pension Investment Fund (GPIF) are likely
to keep the currency weak. We estimate that to move to the new benchmark the
GPIF would have to buy around $150bn of international bonds and equity.
Meanwhile, China is expected to cut interest rates further and pursue other means
of stimulating activity in selected sectors.
Scenarios
The baseline view represents our central case for the world economy, but of course
we recognise that there are a range of risks around this and have updated our
scenario analysis. From chart 6 we can see that there remains a bias toward the
deflationary side with "Eurozone deflation", "China hard landing" and "JPY collapse"
all scenarios which would result in weaker global growth and inflation when
compared to the baseline. (For a full description of the scenarios see page 22).
Chart 6: Scenarios around the baseline
2015 Inflation vs. baseline forecast
+2.0
Stagflationary
Reflationary
+1.5
Capacity limits
bite
Russian rumble
+1.0
+0.5
G7 boom
Baseline
+0.0
JPY collapses
-0.5
Eurozone
deflation
-1.0
Productivity
recovers
China hard
landing
-1.5
Deflationary
-2.0
-2.0
-1.5
-1.0
-0.5
+0.0
+0.5
+1.0
2015 Growth vs. baseline forecast
Source: Schroders, 25 November 2014
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Productivity boost
+1.5
+2.0
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The new scenario, "JPY collapse", reflects a situation where investors begin to
question whether the Japanese government is serious about debt reduction as they
continue to delay tax hikes. Capital flight follows on fears of default and the BoJ is
forced to raise interest rates to stem the outflow. The result is a very weak JPY
(circa 180 vs. USD) and higher risk premiums in global bond markets to reflect
heightened default risk, thus creating a deflationary impulse for the rest of the world.
Asia, particularly Korea and China would be badly hit whilst as a competitor in a
number of sectors, Germany would also be adversely affected.
Scenario analysis
indicates that risks
are skewed toward
deflation.
In terms of probabilities, the deflation risks have risen. Although we have slightly
reduced the probability attached to the Eurozone deflation scenario (as a result of
the fall in the Euro) we have raised the probability on China hard landing and put a
slightly higher probability on the JPY collapses scenario than the one it replaced
(secular stagnation, another deflationary scenario). These changes result in a 17%
probability on deflation risks compared with 15% last quarter.
The probability on "G7 boom" has been slightly reduced (from 5% to 4%) to reflect
the lack of traction from monetary policy to growth in the Eurozone and Japan.
However, we have increased the probability on "productivity growth boost" from 2 to
4% to capture the risk that the fall in oil prices will lift growth by more than expected.
Overall though the scenario analysis continues to suggest that the risk on interest
rates is skewed to the downside with central banks likely to maintain stimulus in the
face of a lower inflation outcome than in the baseline.
Chart 7: Baseline and scenario probabilities*
Eurozone
deflation, 5%
G7 boom, 4%
Productivity
recovers, 4%
Capacity limits
bite, 5%
Baseline, 62%
China hard
landing, 6%
Russian rumble,
6%
Other, 2%
JPY collapses,
6%
*Probabilities are mutually exclusive. Source: Schroders, 25 November 2014
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Europe: Edging closer to sovereign QE
Macro data has been slightly better than expected in recent months, although the
fall in oil prices is set to push inflation to dangerously low levels. The European
Central Bank is edging closer to sovereign QE in response, but is likely to wait a
little longer before pulling the trigger. Meanwhile, the UK boom may be over. Growth
is beginning to moderate and as we head into 2015, the UK's shortcomings are
likely to become more obvious to investors.
Q3 growth shows slight improvement
Q3 growth data
was slightly better
than expected, but
still sluggish
Official estimates show the Eurozone grew by 0.2% in the third quarter compared to
the previous quarter, which was slightly better than consensus expectations of
0.1%. Compared to the same period a year earlier, the Eurozone grew by 0.8%.
The performance of individual member states remains very diverse and reflects the
progress made in terms of fiscal and structural reforms. For example, Italy is in
recession with the economy having shrunk by 0.1%, whereas Spain grew by 0.5%
over the same period (chart 8).
Having contracted in the second quarter, Germany was feared to have slipped into
recession given falls in industrial production and retail sales during the third quarter.
However, the economy managed to eke out 0.1% growth to avoid a technical
recession. Consumer spending growth saved Germany as business investment
continues to flounder, possibly in reaction to rising tensions between Europe and
Russia. Meanwhile, France beat expectations by recording 0.3% growth, although
according to the French statistical office, much of that growth was driven by
government spending.
Chart 8: Recent European GDP growth
%, q/q
1.0
0.8
0.6
0.4
0.2
0.0
-0.2
Q2
Q3
-0.4
Ita
Aus
Ger
EZ
Bel
Fin
Neth
Por
Fra
Spa
Gre
UK
Source: Thomson Datastream, Eurostat, Schroders. 25 November 2014.
Greece saw the
fastest Q3 growth
in the Eurozone as
it exited recession
In more positive news, Greece was the fastest growing economy in the Eurozone,
posting 0.7% growth on the quarter and 1.4% growth compared to a year earlier. It
appears that the Greek economy has finally stabilised and while there is still a
mountain of fiscal and structural reforms that need to be implemented, positive
growth will help ease the social problems caused by the crisis. Elsewhere, Portugal
delivered another positive quarter, while the Netherlands saw a slowdown over the
same period.
While the latest quarterly growth numbers were marginally better than expected,
leading indicators suggest stabilisation at low growth rates rather than any pick up in
the near future.
7
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ECB on hold for now, but sovereign QE now more likely than not
Inflation is still too
low for comfort,
and may fall
further due to oil
prices falling
The weak growth environment has not helped lift inflation in the Eurozone. The flash
headline measure was just 0.3% y/y for November, with most of the weakness
coming from falling commodity prices over the past year. The core rate of inflation
(excluding energy, food, alcohol and tobacco) is running at 0.7% y/y. The fall in oil
prices over the past quarter is likely to lower the headline rate further in the near
future, which will be concerning the European Central Bank (ECB), which is already
concerned about the consequences of having inflation running at such low levels.
As discussed in last month note, the falls in commodity prices are likely to improve
the outlook for households, as it will boost their purchasing power. Lower food and
energy prices should not prompt much more consumption of these commodities, but
should instead leave more disposable income available to spend on other goods
and services. Nevertheless, the ECB is concerned that if inflation remains very low,
inflation expectations could become dis-anchored, which could lead to a change in
consumer behaviour. If households begin to believe that prices will fall, then they
may withhold spending in an effort to make savings. They may then inadvertently
exacerbate the situation as companies see the fall in demand, and decide to cut
prices, and eventually cut back production/services. Not only does this lead to
negative price expectations being re-enforced, but the cut backs in production lead
to higher unemployment and/or lower wage growth, causing an accelerated
downward spiral in demand and prices.
Time for another
Draghi speech,
promising to raise
inflation as quickly
as possible
Cue another market-moving Draghi speech. The ECB president said "We will do
what we must to raise inflation and inflation expectations as fast as possible, as our
price-stability mandate requires." He added that some inflation expectations "…have
been declining to levels that I would deem excessively low". “There is a
combination of policies that will work to bring growth and inflation back on a sound
path,” he said. “If on its current trajectory our policy is not effective enough to
achieve this, or further risks to the inflation outlook materialise, we would step up the
pressure and broaden even more the channels through which we intervene, by
altering accordingly the size, pace and composition of our purchases.”1
At the November monthly press conference, Draghi did not rule out purchases of
sovereign bonds in addition to the asset backed securities (ABS) and covered
bonds (CB) already being purchased. Draghi did say that the governing council was
confident that the current stimulus measures should be sufficient, but he also
revealed that ECB staff have been asked to prepare further policy measures.
Overall, we expect the governing council not to announce any further stimulus until
Q1 or possibly Q2 2015. We believe there are three conditions the ECB is hoping
will materialise, which would stop sovereign QE:
1

The first is an improvement in bank lending. The second of six targeted
long-term refinancing operation (TLTRO) auctions takes place in December
which will add more liquidity to the banking sector. Taken together with the
ABS and CB purchases, and importantly the end of the asset quality review,
we may see bank lending begin to respond early next year.

The second is a further depreciation in the euro. If the Federal Reserve
begins to sound more positive on the economy and more hawkish on rates,
then this could help move the EUR lower.

The third is a pick up in economic growth and inflation in coming months.
Both needed to reduce the risk of deflation.
Frankfurt European Banking Congress, 21 November 2014.
8
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We expect the ECB to be disappointed, probably on all three factors. On bank
lending, we do expect a general improvement in 2015, but it is likely to take longer
than many expect. The lags on monetary stimulus can be long, and with a system
that is still sickly, attempting to grow its loan book when demand is subdued will be
difficult.
The BoJ is not
helping. The trade
weighted EUR has
barely moved
since October.
With regards to the EUR, despite a reasonably depreciation against the USD this
year, with JPY depreciating by more, and with other trading partners also
depreciating (Russia along with neighbouring European currencies), the trade
weighted EUR has actually appreciated by 1.6% since the start of October.
Compared to the start of the year, the euro has depreciated by 3.6% against its
main trading partners (chart 9).
Chart 9: Euro still needs to depreciate
Currencies indices vs. EUR (100 = 01/01/2014)
104
102
100
98
96
94
92
90
Jan
Feb
Mar
Apr
GBP
May
Jun
USD
Jul
Aug
JPY
Sep
Oct
Nov
TWI
Source: Thomson Datastream, Schroders. 28 November 2014.
The euro could depreciate further in coming months, but with EM currencies looking
shaky due to falling commodity prices, and with the Bank of Japan acting in a more
aggressive manner, we suspect the ECB will not achieve the depreciation it desires
without sovereign QE.
Finally, because of our expectations on bank lending and the currency, we also
doubt the ECB will be happy with the ongoing sluggish growth we are forecasting.
The recent fall in oil prices is also likely to push down inflation in the near term,
which may adversely affect inflation expectations.
Why would the ECB not conduct sovereign QE? Legal challenges, Germanic
inflation fears, and questions over the effectiveness of QE are some of the reasons
behind the ECB's hesitancy. Indeed, we have had a number of ECB governing
council members cast doubt over whether the ECB will take the step markets are
looking for.
Sovereign QE is
now more likely
than not, but the
ECB is likely to
keep us waiting
The decision is likely to be very close, but for the purpose of our forecast, we are
now assuming that the ECB does eventually begin to buy sovereign debt. This is
likely to come after both corporate bonds and agency debt are added to ABS and
CB purchases, and will probably happen without a formal target on purchases being
announced.
9
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Eurozone forecast update
In terms of our Eurozone GDP forecast, we have lowered the growth profile in
coming quarters, but still expect activity to pick up over the course of 2015 and
2016. Household consumption is likely to be boosted by lower inflation, while
business investment should slowly recover on the back of improved confidence and
better credit conditions. However, the main reason for the downgrade is worse than
expected outturn in Germany. We had expected a strong rebound as much of the
weakness in Q2 was being attributed to seasonal effects (shifts in summer
holidays), but Germany failed to rebound suggesting greater underlying weakness
than we had factored in to the previous forecast. We forecast Eurozone GDP growth
of 0.9% (previously 1.2%) in 2015, rising to 1.3% in 2016.
On the fiscal policy front, as highlighted in the above section, austerity is ongoing in
most countries, albeit at a much slower pace than over the past four years. The
negative impact from fiscal tightening will be reduced, but a drag will nonetheless
remain. Meanwhile at the time of writing, European Commission President JeanClaude Juncker has announced a €315 billion investment plan which is suppose to
be the “fiscal flexibility” that Draghi has been calling for. Unfortunately upon closer
examination, the plan is nothing more than financial engineering which is highly
likely to fail. Only €16 billion of the total amount is actual public sector money, with
the rest expected to be raised by private investors with credit guarantees being
offered by governments. Even the €16 billion being touted as new money is either
from unspent cash from the EU budget, or from the European Investment Bank (a
slow and cumbersome investor). The Economist Magazine accurately sums up the
plan in its leader article entitled: “Fiddling while Europe burns: Jean-Claude
Juncker’s investment package is laughably inadequate.”2
The forecast for inflation has also been lowered to reflect the lower inflation of late,
but also the recent falls commodity prices as discussed in the earlier sections. This
should however be a temporary drag on prices, and so we expect inflation to pick up
in the second half of the 2015, and more meaningfully in 2016 as base effects
reverse.
Chart 10: Eurozone GDP forecast
Both growth and
inflation
downgraded for
2015, but a slow
recovery is still on
the cards
Chart 11: Eurozone inflation forecast
%, q/q
%, y/y
+1.0
+2.0
Real GDP
forecast
+0.8
+1.8
+1.6
+0.6
+1.4
+0.4
+1.2
+1.0
+0.2
+0.8
+0.4
-0.2
-0.4
HICP
inflation
forecast
+0.6
+0.0
+0.2
i ii iii iv i ii iii iv i ii iii iv i ii iii iv
2013
2014
2015
2016
Current forecast
Previous forecast
+0.0
i ii iii iv i ii iii iv i ii iii iv i ii iii iv
2013
2014
2015
2016
Current forecast
Previous forecast
Source: Thomson Datastream, Schroders. 25 November 2014. Previous forecast from August
2014. Please note the forecast warning at the back of the document.
Within the Eurozone, the main downgrade has been to German growth as
mentioned above (table 1). The weakness in the second quarter has persisted and
with leading indicators suggesting continued deterioration, we have revised down
the profile for 2015, taking the average to 1.2%. Ongoing tensions with Russia could
continue to hit investment intensions, while the aggressive depreciation of JPY is
2
Published 28 November 2014.
10
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bound to have a negative impact on German exporters who compete with Japanese
producers. The downgrade to Germany means lower imports from the rest of the
Eurozone, resulting in downgrades to most other member states. The exception in
the forecast is Spanish growth, which we have revised up slightly on the back of
improved activity, and continued falls in both government bond yields, and average
interest rates charged by bank. By 2016, we expect Germany to have bounced back
and for growth to accelerate to 1.8%. This helps lift growth for all member states.
Germany sees the
biggest
downgrade, while
Spain bucks the
trend
Table 1: Eurozone GDP forecast
2014
Prev.
2015
Prev.
2016
Germany
1.5
1.6
1.2
1.9
1.8
France
0.4
0.4
0.6
0.8
0.9
Italy
-0.4
-0.3
0.2
0.4
0.7
Spain
1.3
1.2
1.5
1.0
1.7
Eurozone
1.0
0.8
0.9
1.2
1.3
Source: Schroders. 25 November 2014. Previous forecast from August 2014. Please note the
forecast warning at the back of the document.
Italy is likely to achieve some growth in 2015, but owing to the slow and late start to
the introduction of structural reforms, the benefits will not be seen until 2016 at the
earliest. Meanwhile, France should experience weak growth in both 2015 and 2016,
largely due to the ineffective government that is unlikely to introduce meaningful
structural reforms.
UK forecast update
UK growth
remains strong,
but is beginning to
moderate.
In the UK, after a strong second quarter, GDP growth moderated in Q3. Household
spending accelerated again helped by lower inflation, but business investment saw
a pull back, while net trade was a significant drag once again. As we warned in our
last forecast update, growth in the UK economy appears to be very unbalanced and
unsustainable. Households continue to grow spending, despite incomes in real
terms not keeping up. One of the key drivers of higher household spending was
activity in the housing market, but this is now cooling too. House price growth is
markedly lower, as mortgage lending standards are tightened as a reaction to new
regulation introduced with the Mortgage Market Review earlier in the year.
Overall, the forecast for UK growth is unchanged at 2.5% for 2015. On the one
hand, lower oil and energy prices should help boost household consumption
(forecast to rise to 2.6% from 2.2%), but owing to the high proportion of tax built into
fuel prices, the positive impact is likely be to much smaller than - for example - for
the US. Meanwhile, given the downgrade to German and wider European growth,
we have downgraded the contribution to net trade (to zero contribution). Business
investment has had a good year of growth in 2014, but the return of political
uncertainty in 2015 with the general election in May, we expect investment to slow
by a third. After the general election, we expect the new government to restart fiscal
austerity, which will cause a further slowdown for 2016. Where the slowdown occurs
in terms of private vs. public activity is unclear and will depend on which of the major
parties wins, or end up leading a coalition.
As with the
Eurozone, the UK
inflation forecast
has been revised
down due to
energy prices
For inflation, like the Eurozone forecast, we have downgraded the near-term outlook
on the back of the fall in oil prices. Bearing in mind that we downgraded the forecast
last quarter due to falls in the prices of natural gas and food commodities. Headline
CPI inflation should fall below 1% by the end of the first quarter, which will force
Bank of England (BoE) governor Mark Carney to write to the Chancellor to explain
why inflation has undershot the lower-bound target. As with the Eurozone forecast,
the commodity price shocks will have a temporary impact on the inflation profile, the
key difference being that the UK is clearly much further ahead in its recovery, with
rapidly falling unemployment. This puts the risk of persistent deflation at near zero.
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Chart 12: UK growth forecast
Chart 13: UK inflation forecast
%, q/q
%, y/y
+1.0
+3.0
+0.9
Real GDP
forecast
+0.8
+2.5
+2.0
+0.7
+0.6
+1.5
CPI
inflation
forecast
+0.5
+1.0
+0.4
+0.3
i ii iii iv i ii iii iv i ii iii iv i ii iii iv
2013
2014
Current forecast
2015
2016
Previous forecast
+0.5
i ii iii iv i ii iii iv i ii iii iv i ii iii iv
2013
2014
Current forecast
2015
2016
Previous forecast
Source: Thomson Datastream, Schroders. 25 November 2014. Previous forecast from August
2014. Please note the forecast warning at the back of the document.
As for monetary policy, it is amazing how quickly investors have forgotten Carney's
hawkish Mansion House Speech in June. Since the last forecast update, markets
have pushed out expectations for the first BoE rate rise from November 2014 to
November 2015. Minutes from the monthly monetary policy committee (MPC)
meetings suggest that external weakness coupled with the falls in commodity prices
warrant caution in raising interest rates. In a sense, markets have gone back to preMansion House speech expectations.
We have pushed
out the first BoE
rate rise to
November 2015 in
the forecast…
We always felt that the Bank was more dovish than the market expected, but we are
also having to push out our forecast for the first rate rise - from February to
November 2015. We now only expect a single 25 basis points hike in 2015, and
only 75 basis points in 2016. Given our forecast of weakening growth over the next
two years, we expect the Bank to proceed slowly, and eventually to be forced to
pause to allow the economy to adjust to not just higher interest rates, but the impact
from austerity mention above.
Interestingly, two members of the MPC continue to vote for an increase in interest
rates. The pair point to evidence that slack in the economy is being utilised, and in
order to minimise the impact of monetary policy normalisation on the economy,
interest rates should rise sooner and at a slower pace.
Along with the fall in the unemployment rate, private business surveys have been
suggesting for some time that there are shortages of skilled workers in certain
sectors, causing pay to rise for new recruits. The KMPG/REC survey has had a
good relationship with official wage data for a while, but since 2013, it diverged by
rising strongly, while the official data remained muted (chart 14). One reason for this
may have been that the official data was being biased downwards by the loss of
higher value-added jobs, say in banking, while they are being replaced by lower
value-added jobs in say retail. The official data would then report a fall in the
average wage, but this could be masking like-for-like pay growth.
This month, the Office for National Statistics (ONS) provided some strong evidence
of this, and more ammunition for the hawks on the MPC. The Annual Survey of
Household Earnings (ASHE) showed that as of May 2014, annual pay growth for
full-time employees that have been in their jobs for more than a year was up 4.2% the fastest rate of growth since before the financial crisis (chart 15). The ASHE
survey suggests that the changing composition of the labour market is masking the
acceleration in wage growth, and that the labour market is beginning to tighten.
Therefore, whilst our central case is the first rise in interest rates happening in
November 2015, the risk of a rise in August is reasonably high given how quickly the
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labour market continues to improve.
…but evidence is
emerging that
slack is running
out
Charts 14 & 15: Evidence mounts of UK wage growth recovery
3m, y/y
8%
Nomianl
Nominalwage
wagegrowth
growth (%,
(%, y/y)
y/y)
88
6%
77
4%
2%
0%
-2%
-4%
-6%
05 06 07 08 09 10 11 12 13 14
AWE total pay
AWE regular pay
Permanent staff pay survey*
66
5
5
4
4
3
3
2
2
1
01
05 06 07 08 09 10 11 12 13 14
0
employees
05 06 07All08
09 10 11 12 13 14
Continuous
employment
All employees
Continuous
employment
Source: Thomson Datastream, ONS (Labour Market Statistics & ASHE Survey),
Markit/KPMG/REC survey. Continuous employment refers to full-time staff employed for at least a
year. Schroders. 27 November 2014.
UK's twin deficits
As mentioned above, the sustainability of the UK's pace of growth is being
questioned. Two features of the economy that highlight the degree of imbalances
and unsustainable nature of recent growth are the current account deficit and the
fiscal deficit. The UK is running a record current account deficit of 5.2% of GDP,
while running one of the largest fiscal deficits in Europe at 5.7% of GDP.3 Yet, the
economy is barely generating 5% nominal growth - suggesting that both public
finances, and the UK's international investment position are worsening.
The high fiscal and
current account
deficits highlight
the unsustainable
growth model the
UK is running…
3
Usually, an economy running a high current account deficit suggests an imbalance
between the growth in savings and investment. When investment outpaces savings,
the domestic economy has to 'borrow' from the rest of the world in the form of a
current account deficit. Incidentally, economic theory suggests this is caused by
excessively low interest rates relative to the rest of the world. However, when an
economy is running with such a deficit, it is usually indicative of a strong, fast
growing economy, and as a result, usually runs a healthy fiscal balance. This was
the case for the UK in the late 1980's and the late 1990's (chart 16). When a country
sees twin deficits opening up, it is usually a sign of instability, and is often followed
by depreciation in the currency.
Both calculated by taking the latest four quarters where available.
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Chart 16: UK's twin deficits spell trouble for GBP
% of GDP (4q, MA)
4%
2%
0%
-2%
-4%
-6%
-8%
-10%
-12%
70
74
78
82
86
Recessions
90
94
98
Current account
02
06
PSNB
10
14
Source: Thomson Datastream, ONS, Schroders. 27 November 2014.
…coupled with
political
uncertainty, we
could see GBP
underperform in
2015.
Currency depreciation following a deterioration in a country's balance of payments is
more common in developing markets than in developed economies, mainly thanks
to competent central banks (or at least their reputation for competence), debt being
issued in the local currency, deep liquid debt markets, and greater wealth which
makes it easier for governments to repay debt. However, the UK has seen
significant falls in sterling in the past, some of which were related to its balance of
payments. Combined with a large fiscal deficit and increased political uncertainty
ahead of the general election, 2015 could be a poor year for sterling.
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EM forecast update: No bulls in this China shop
A difficult year
ahead for most of
the BRICs
This quarter has seen relatively few revisions to the growth outlook for 2015, with
the exception of Russia where the weaker oil price is expected to hit growth. The
inflation outlook is broadly lower, on the same oil price effect - though in Russia,
sanctions and ruble weakness will keep inflation high. The real developments this
quarter are the forecasts for 2016, and our longer term outlook for EM is very much
influenced by policy expectations. Dilma's victory in Brazil's elections leaves us
more negative about prospects there, while gradual progress by Modi in India has
prompted hope of a gradual acceleration. For Russia, it is difficult to become more
positive without a sign that the Ukraine crisis can be resolved. Finally, for China recent stimulus notwithstanding - an ongoing slowdown seems inevitable and, to
some extent, accepted by the leadership.
Table 2: Summary of BRIC forecasts
GDP
Inflation
% per
annum
2013
2014f
2015f
2016f
2013
2014f
China
7.7
7.3 →
6.8 →
6.5
2.6
Brazil
2.3
0.6 →
1.0 →
1.5
6.2
India
4.6
5.1 →
5.7 ↑
6.3
Russia
1.3
0.3 ↑
-1.0 ↓
-1.1
2015f
2016f
2.2 ↓
2.2 ↓
2.7
6.3 ↓
6.2 →
5.7
10.9
7.3 ↓
6.1 ↓
5.5
6.8
7.4 ↓
7.6 ↑
6.2
Source: Bloomberg, Thomson Datastream, Schroders. 25 November 2014.
China: stimulus won't revive growth
China has stepped
up its stimulus,
against
expectations…
The growth outlook for China this year and next is unchanged. Stimulus efforts this
year have struggled to raise growth to the 7.5% target, and so as we said in
August's Viewpoint, we expect the growth target for 2015 to be lowered to around
7%. We say "around", because this wording gives the government wiggle room in
undershooting the target as they come to realise that the level of stimulus needed
will once again build fragilities.
Of course, we have had what some would regard as more significant stimulus in
November. China cut benchmark interest rates for the first time since July 2012,
taking markets - and us - by surprise. The one year deposit rate was lowered by 25
bps to 2.75%, while the one year lending rate was lowered 40 bps to 5.6%. This
marks a change of stance by the People's Bank of China (PBoC) which had
previously focused on selective easing measures and liquidity injections.
It is debatable whether the cuts will be passed on to corporates. Lending rates were
liberalised in 2013; the benchmark lending rate has been below the market lending
rate ever since. Deposit rates, in contrast, are still tightly regulated, though the
PBoC also loosened this regulation, allowing banks to offer a slightly wider band
over the benchmark. The net result is likely to be little change in the deposit rate,
though some banks have reportedly cut. Some analysts are arguing the asymmetric
nature of the cuts will be negative for bank margins, but with no pressure to cut
lending rates, and some banks cutting deposit rates, the opposite could also be
true. One negative for banks is that mortgages in China are typically floating and
priced off the benchmark rate, so the repricing of mortgages in January will squeeze
mortgage margins.
…but we are not
expecting a
rebound of growth
Will this mean a spurt of growth for China? The volume of lending in China is still
constrained by quotas and other measures, so a big expansion of credit is unlikely.
The move could then be positive for the property market and consumption, at the
margin, but the effect will be limited. However, we expect further easing, in the form
of reserve requirement ratio (RRR) cuts, additional rate cuts, and loan-deposit ratio
(LDR) easing, in 2015 and 2016. We still think the PBoC will move slowly and
cautiously - the aim is still to slow credit growth, and good progress is being made
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on this front (chart 17). Consequently, growth will continue to slow through 2015 and
into 2016, as investment and real estate drag on performance.
Chart 17: Credit growth is slowing down
% y/y, 3mma
% y/y
55
40
50
35
45
30
40
35
25
30
20
25
20
15
15
10
2006
10
2007
2008
2009
2010
Investment
2011
2012
2013
Outstanding TSF, rhs
2014
Source: Thomson Datastream, Schroders. 26 November 2014
We now expect
RMB depreciation
as policy eases
There looks set to be sufficient monetary policy space to allow such
accommodation, with a downgrade to our inflation forecast in 2015 as a result of
cheaper oil. Producer price deflation shows no signs of disappearing either, so for
now there is room to ease.
On the currency side, with further easing ahead, we see some mild depreciation as
a likely accompaniment. We do not yet expect a deliberate, aggressive depreciation
of the renminbi as it would undermine attempts to internationalise the currency.
However, monetary easing will exert a depreciation pressure, and the dollar will be
strengthening, so some limited weakness seems likely.
Brazil: Sceptical of reform hopes
Brazil's election
result was a blow
for markets
Brazil disappointed investors by returning incumbent Dilma Rousseff to the
presidential office in October’s vote. Hopes for reform to address Brazil’s structural
economic problems have been dimmed, if not dashed, though the mooted new
finance and planning ministers have brought a breath of optimism to markets in the
past week.
All the same, a marked change of course in policy seems unlikely under Dilma.
Though the president has claimed she will address macroeconomic concerns, we
have heard these promises before without seeing matching policy action. The more
likely outcome, in our view, is that Dilma changes course only under extreme market
duress. Policy may improve slightly at the margin, but by less than is needed, or
would have been delivered by opposition candidate Aecio Neves. Dilma has, for
example, ruled out greater autonomy for Brazil’s central bank.
We remain
sceptical on
reform promises,
as do corporates
We were of the opinion that growth next year would be weak whoever won –
reforms take time and can be painful – and so the election result prompted no
change to our 2015 forecast. The longer term outlook, however, is gloomier. The
positive, if there is one, is that largely upside risks remain to our 2016 forecast.
Should Dilma's cabinet propose, and be allowed to implement, credible reform
plans, the growth picture for 2016 will improve. For now, corporates are still
expressing reluctance to invest, waiting for clarity before they do so. Clarity can
come only if reform plans are kept to despite economic pain. Consequently, if
reforms are enacted and, importantly, not rolled back by the second half of 2015,
investment should pick up.
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As we have said before, reinvigorating private investment is the key to addressing
Brazil's many problems - both growth and inflation are issues thanks to chronic
underinvestment. Consumption is reaching its limit in Brazil, as is government
expenditure given the growing risk of losing investment grade status, and only
investment remains to carry the growth baton; there seems little prospect of an
export revival given the commodity outlook. Meanwhile, inflation remains stubbornly
high thanks to an assortment of supply side bottlenecks, despite government price
controls (charts 18 and 19).
Charts 18 and 19: Consumption struggling, inflation persisting
%, y/y %
14 8
%
14
8
12
12
7
10 7
10
8
8
%, y/y
9
6
5
6
4
4
3
2
2
1
0
0
-2
6
6
4
5
2
4
2010
0
2011
05 06 07 08 09 10 11 12 13 14
Consumption
Retail sales
2012 2013 2014
CPI
Inflation expectations
SELIC rarget rate (rhs)
Source: Thomson Datastream, Schroders. 26 November 2014
Following the election, Brazil's central bank hiked rates, with the accompanying
statement suggesting it was a pre-emptive move to head off inflationary pressure
resulting from real weakness and other "price adjustments". This likely marks the
start of a new hiking cycle, and we would not be surprised to see rates climb to 12%
by the end of next year.
India: Still a bright spot, but be wary of political risk
Modi has made a
good start, but has
more to do
We still do not
expect a rate cut,
inflation weakness
is temporary
The reform agenda remains the key to Indian growth hopes, and while there have
been some moves forward, political obstacles remain. Modi has not had the free
rein some expected given his strong mandate. The latest worry is that state
governments are pressing for exemptions from the Goods and Services Tax (GST),
a key piece of taxation reform. If too many items are excluded from coverage by this
tax, it will lose its transformational value. Parliament reconvened on November 24th
for its month long winter session; its success in implementing economic reforms in
this time, including the GST, will have large implications for sentiment and
prospects. A string of successes could prompt us to revise our numbers up in future.
Presently, 2015 looks marginally stronger thanks to oil price weakness, and we
expect some success on reforms to lead to greater investment, picking up
momentum going into 2016. However, India still has supply side bottlenecks
(particularly in power and transport infrastructure) and a relatively poor investment
environment, and recent export weakness is concerning.
Inflation has been easing rapidly in recent months (chart 20), and stood at just 5.5%
in October. Again, cheaper oil has helped here, feeding through into lower fuel
prices (which has also enabled the removal of fuel subsidies). Improved rainfall has
also contributed through its effect on food prices. The end year target of 8% looks
certain to be hit. Despite this, we do not foresee a rate cut until the second half of
next year, though there is some risk this is brought forward to the second quarter.
Central bank governor Rajan has remained resolutely hawkish despite the falling
inflation prints, saying the central bank needs to look through transitory inflation
effects and focus on anchoring inflation expectations, and hitting next year's 6%
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inflation target.
Chart 20: Indian inflation already below target
% y/y
15
13
11
9
7
5
3
Jan 12
Jul 12
Headline
Fuel
2015 target
Jan 13
Jul 13
Jan 14
Jul 14
Food, beverages, tobacco
2014 target
Source: Thomson Datastream, Schroders. 27 November 2014
Russia: Growing tail risks
Sanctions,
currency, and oil
weighing on
Russia
A weaker oil price is, unsurprisingly, bad news for Russia. As well as contributing to
currency weakness and a worsening current account position, it reduces the scope
for fiscal support for the economy. This year's budget assumed a $114 per barrel
price - 2015 will have to see substantial cutbacks. Combined with sanctions and still
high tensions in Ukraine, we have turned more negative on the country's growth
outlook, despite resilience this year. Growth has held up reasonably well in 2014
despite sanctions, with third quarter growth of 0.7% year on year. Agriculture and
industry, which benefitted from import substitution effects, have been driving this
above expectations performance. However, the third quarter did not capture weaker
oil prices, and higher frequency data points to weakness ahead.
Ruble depreciation proceeds apace, 43% weaker year to date against the dollar,
and contributes to our higher inflation number for 2015, despite October's
"emergency" 150 basis point rate hike. Inflation should begin to moderate towards
the end of 2015 and ease further in 2016, permitting modest easing.
There are
considerable tail
risks over the next
year
A risk for Russia is highlighted by our "Russian Rumble" scenario. In this scenario,
the Ukraine situation escalates further, prompting Europe and the US to impose
further sanctions - there have been discussions, for example, of excluding Russian
banks from the international banking transaction system SWIFT - and in response
Russia cuts oil and gas exports to Europe. The implications for Russian GDP would
be disastrous - we estimate a GDP contraction in excess of 3% in 2015, and further
3% contraction in 2016. Inflation would spike too, as sanctions caused further
bottlenecks and the ruble went into freefall on the loss of oil revenues. Given the
severity of the outcome, this is regarded for now as a tail risk rather than the base
case. But readers should recall that not long ago most analysts confidently predicted
Russia would never make a play for eastern Ukraine either.
A separate risk relates to Russian corporate debt. By some accounts there is
approximately $160 billion of hard currency debt held by corporates maturing over
the next 12 months. With many firms lacking access to international debt markets, a
big chunk of this is and will be financed by the central's banks reserves. Indeed,
these reserves have been diminishing rapidly this year and look set for further
declines given the debt repayment profile (chart 21). Reserves currently sit at
around $370 billion, but fell $26 billion in October. At this pace of decline, it would
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not take long for Russia's position to become perilous. It might also become
politically unpopular to sell off reserves to repay foreigners in the increasingly hostile
international climate. Consequently, we see a small but real risk of corporate default
in Russia next year. Again, this would lead to further weakness in the ruble, and
potentially the imposition of capital controls. We find it very difficult to be positive on
the Russian outlook
Chart 21: Foreign reserves in Russia
Foreign reserve
depletion might
even prompt
defaults
$ bn
550
500
450
400
350
300
250
200
150
Jan 14
Apr 14
Jul 14
Reserves (actual)
Oct 14
Jan 15
Projected
Apr 15
Jul 15
Oct 15
Jan 16
Liquidity adjusted reserves
Source: Thomson Datastream, Barclays, Economist magazine, Schroders calculations. 27
November 2014. Projection assumes reserves used to repay external debt as it matures, but no
FX intervention. The "liquidity adjusted" reserves subtracts $100 billion to reflect the large share of
Russia's reserves sat in wealth funds and other illiquid forms.
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Schroder Economics Group: Views at a glance
Macro summary – November 2014
Key points
Baseline

Global recovery to continue at sub par pace as the US upswing is offset by sluggish growth in the
Eurozone and emerging markets. Lower energy prices are weighing on inflation, but will also boost
growth in 2015H1.
US recovery continues and unemployment set to fall below the NAIRU in 2015 prompting Fed
tightening. First rate rise expected in June 2015 with rates rising to 1.25% by year end. Policy rates to
peak at 2.5% in 2016.
UK recovery likely to moderate next year with general election and resumption of austerity. Interest
rate normalisation to begin in 2015 with first rate rise in November.
Eurozone recovery becomes more established as fiscal austerity and credit conditions ease whilst
lower energy prices help consumption. ECB to monitor effects of recent easing, but we now expect
sovereign QE in Q2 2015 in response to deflation fears.
In Japan, the consumption tax has pushed the economy into recession prompting further easing by
the BoJ and PM Abe to call a snap general election. Bank of Japan to continue to support recovery,
but Abenomics faces considerable challenge to balance recovery with fiscal consolidation.
US leading Japan and Europe. De-synchronised cycle implies divergence in monetary policy with the
Fed tightening ahead of ECB and BoJ, resulting in a firmer USD.
Tighter US monetary policy and weaker JPY weigh on emerging economies. EM exporters to benefit
from US cyclical upswing, but China growth downshifting as the housing market cools and the
authorities seek to reign in the shadow banking sector. Generally, deflationary for world economy,
especially commodity producers.






Risks

Risks are still skewed towards deflation, but are more balanced than in the past. Principal downside
risks are Eurozone deflation and China hard landing. Some danger of inflation if capacity proves
tighter than expected, whilst upside growth risk is a return of animal spirits and a G7 boom. Increased
prospect of stronger growth/ lower inflation if oil prices continue to fall.
Chart: World GDP forecast
Contributions to World GDP growth (%, y/y)
6
5
4.1
4.9
4.5
4.9
3.9
3
2.5
Forecast
4.6
3.7
4
2.8
5.0 5.1
4.5
3.3
2.9
2.8 2.8
2.5 2.5 2.6
2.2
2
1
0
-1
-1.2
-2
-3
96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16
US
BRICS
Europe
Rest of emerging
Japan
World
Rest of advanced
Source: Thomson Datastream, Schroders 25 November 2014 forecast. Previous forecast from August 2014. Please note
the forecast warning at the back of the document.
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Schroders Baseline Forecast
Real GDP
y/y%
World
Advanced*
US
Eurozone
Germany
UK
Japan
Total Emerging**
BRICs
China
Wt (%)
100
63.0
24.8
18.8
5.4
3.7
7.2
37.0
22.8
13.6
2013
2.5
1.3
2.2
-0.4
0.2
1.7
1.5
4.7
5.7
7.7
2014
2.6
1.7
2.3
1.0
1.5
3.1
0.3
4.1
5.1
7.3
Wt (%)
100
63.0
24.8
18.8
5.4
3.7
7.2
37.0
22.8
13.6
2013
2.7
1.3
1.5
1.3
1.6
2.6
0.4
4.9
4.6
2.6
2014
3.0
1.4
1.6
0.5
1.0
1.5
2.8
5.7
4.1
2.2
Current
0.25
0.50
0.05
0.10
6.00
2013
0.25
0.50
0.25
0.10
6.00
2014
Prev.
0.25
(0.25)
0.50
(0.50)
0.05  (0.15)
0.10
(0.10)
5.60  (6.00)
Current
4459
365
276.2
20.00
2013
4033
375
224
20.00
2014
Prev.
4486  (4443)
375
(375)
295
(295)
20.00
20.00
Current
1.56
1.25
116.5
0.80
6.13
2013
1.61
1.34
100.0
0.83
6.10
2014
1.56
1.23
117.0
0.79
6.12
77.5
109







Prev.
(2.5)
(1.6)
(2.0)
(0.8)
(1.6)
(3.0)
(0.8)
(4.1)
(5.1)
(7.3)
Consensus 2015
2.6
2.8 
1.7
2.0
2.2
2.8 
0.8
0.9 
1.4
1.2 
3.0
2.5
1.0
1.1 
4.1
4.1 
5.1
4.8 
7.4
6.8
Prev.
(2.9)
(2.0)
(2.6)
(1.2)
(2.0)
(2.5)
(0.9)
(4.3)
(4.9)
(6.8)
Consensus 2016
3.0
2.8
2.2
2.1
3.0
2.4
1.1
1.4
1.4
1.8
2.6
1.8
1.3
2.2
4.4
4.1
5.1
4.7
7.1
6.5
Prev.
(3.1)
(1.5)
(1.7)
(0.7)
(1.1)
(1.6)
(2.7)
(5.8)
(4.4)
(2.3)
Consensus 2015
3.0
2.9 
1.4
1.3 
1.7
1.5 
0.5
0.8 
1.0
1.4 
1.6
1.3 
2.8
1.3 
5.7
5.6 
4.2
4.0 
2.1
2.2 
Prev.
(3.3)
(1.7)
(2.2)
(1.1)
(1.8)
(2.2)
(1.5)
(5.8)
(4.4)
(3.0)
Consensus 2016
3.0
3.2
1.4
1.8
1.6
2.4
0.9
1.1
1.5
1.7
1.6
2.0
1.9
1.4
5.6
5.6
4.0
4.0
2.4
2.7
Inflation CPI
y/y%
World
Advanced*
US
Eurozone
Germany
UK
Japan
Total Emerging**
BRICs
China










Interest rates
% (Month of Dec)
US
UK
Eurozone
Japan
China
Market
0.24
0.57
0.09
0.05
-
2015
1.25
0.75
0.05
0.10
5.20
Prev.
 (1.50)
 (1.50)
 (0.15)
(0.10)
 (6.00)
Market
0.82
0.99
0.09
0.05
-
2016
2.50
1.50
0.05
0.10
5.00
Market
1.80
1.62
0.18
0.06
-
Other monetary policy
(Over year or by Dec)
US QE ($Bn)
UK QE (£Bn)
JP QE (¥Tn)
China RRR (%)
Key variables
FX
USD/GBP
USD/EUR
JPY/USD
GBP/EUR
RMB/USD
Commodities
Brent Crude




100.4 
2015
Prev.
4594  (4443)
375
(375)
383
(383)
19.00  20.00
2016
4557
375
383
18.00
Prev.
(1.68)
(1.32)
(105.0)
(0.79)
(6.12)
Y/Y(%)
-3.1
-8.2
17.0
-5.3
0.3
2015
1.50
1.18
125.0
0.79
6.20





Prev.
(1.63)
(1.27)
(110.0)
(0.78)
(6.05)
Y/Y(%)
-3.8
-4.1
6.8
-0.2
1.3
2016
1.48
1.14
130.0
0.77
6.35
Y/Y(%)
-1.3
-3.4
4.0
-2.1
2.4
(101)
-7.9
82.1

(89)
-18.3
85.5
4.2
Source: Schroders, Thomson Datastream, Consensus Economics, November 2014
Consensus inflation numbers for Emerging Markets is for end of period, and is not directly comparable.
Market data as at 17/11/2014
Previous forecast refers to August 2014
* Advanced m arkets: Australia, Canada, Denmark, Euro area, Israel, Japan, New Zealand, Singapore, Sw eden, Sw itzerland,
Sw eden, Sw itzerland, United Kingdom, United States.
** Em erging m arkets : Argentina, Brazil, Chile, Colombia, Mexico, Peru, Venezuela, China, India, Indonesia, Malaysia, Philippines,
South Korea, Taiw an, Thailand, South Africa, Russia, Czech Rep., Hungary, Poland, Romania, Turkey, Ukraine, Bulgaria,
Croatia, Latvia, Lithuania.
21
Issued in November 2014 Schroder Investment Management Limited.
31 Gresham Street, London EC2V 7QA. Registered No. 1893220 England.
Authorised and regulated by the Financial Conduct Authority
28 November 2014
For professional investors only
Schroders Forecast Scenarios
Scenario
Summary
Macro impact
Baseline
Our global growth forecast of 2.8% for 2015 is little changed from last quarter with
downward revisions to the Eurozone and emerging markets offset by upward adjustments
to the US and Japan. This compares with a likely outcome of 2.6% in 2014 and paints a
picture of a sluggish world economy when compared to the cycles of the 1990s or 2000s.
Upgrades in the US and Japan reflect the benefits of lower oil prices and an absence of
fiscal tightening, whilst in the Eurozone and emerging economies these positives are
offset by structural headwinds on growth. This quarter we have introduced our 2016
forecast which shows another year of sub-par growth at 2.8% with US growth moderating
in response to higher interest rates and a stronger USD. Growth in China also eases
down and when combined with the US,, offsets a minor upturn in Japan and the Eurozone
in response to further BoJ and ECB easing and currency depreciation.
Our inflation forecasts have been cut in response to lower than expected out turns in recent months and the
fall in commodity prices. Global inflation is expected to come in at 2.9% for 2015 with a significant reduction
for the US where falling energy prices have the most impact on CPI inflation. The Fed is generally expected to
look through much of this fall and focus on the core rate of inflation and wages, which are both expected to rise
in 2015. We have however reduced the pace of rate tightening such that the Fed funds rate is expected to rise
to 1.25% by end 2015 (previously 1.5%). US rates then peak at 2.5% in 2016. In the Eurozone we expect the
ECB to monitor the impact of recently announced measures to reduce bank funding costs, but to implement
QE (soveriegn debt buying) later in 2015. This is a close call as the economy is expected to escape deflation
and can be seen as an insurance move to protect against the risk of falling prices. For the UK, we have
pushed out the first rate hike to November 2015 (previously February) as a result of lower inflation. In Japan,
the BoJ will keep the threat of more QQE on the table, but is now likely to let the weaker JPY support the
economy and refrain from further increases in QQE. China is expected to cut the RRR further and pursue
other means of stimulating activity in selected sectors.
Weak economic activity weighs on Eurozone prices with the region slipping into deflation.
Households and companies lower their inflation expectations and start to delay spending
with the expectation that prices will fall further. The rise in savings rates deepens the
downturn in demand and prices, thus reinforcing the fall in inflation expectations. Falling
nominal GDP makes debt reduction more difficult, further depressing activity.
Deflationary: weaker growth and lower inflation persists throughout the scenario. As a significant part of the
world economy (around one-fifth), Eurozone weakness drags on activity elsewhere, while the deflationary
impact is also imported by trade partners through a weaker Euro. ECB reacts by undertaking sovereign QE,
but the policy response is too little, too late.
DM growth picks up more rapidly than in the base as the corporate sector increases
capex and consumers spend more rapidly in response to the recovery in house prices.
Banks increase lending, reducing their excess reserves and asset prices boom. The Fed
begins to withdraw stimulus: Interest rates rise earlier and the Fed begins to contract its
balance sheet in 2015. However, the withdrawal of stimulus is not sufficient to prevent a
more rapid tightening of the labour market and a pick-up in inflation.
Reflationary: stronger growth and inflation vs. baseline. Stronger US demand supports activity around the
world. Commodity prices and US Treasury yields rise and USD strengthens as inflation picks up and Fed
unwinds QE and raises rates.
3. Productivity
recovers
Weak productivity has been a feature of the recovery in the US and UK and growth has
been largely driven by increasing employment. In this scenario the slowdown in
productivity gradually reverses as firms deploy technology to better effect resulting in
improved output/ hour.
Better growth/ lower inflation. Increased productivity reduces unit wage costs thus keeping inflation in check as
economic activity recovers. The Fed are still expected to tighten policy, but the lack of inflationary pressure
means they can delay until later in 2015.
4. Capacity limits
bite
Central banks overestimate the amount of spare capacity in the economy believing there
is significant slack in the labour market and a substantial output gap. However, weaker
trend growth and the permanent loss of some capacity in the post financial crisis
environment mean that the world economy is closer to the inflationary threshold than
realised. Consequently, as demand increases, inflation starts to accelerate prompting a
re-appraisal of monetary policy and higher interest rates.
Stagflationary: tighter monetary policy slows growth, but inflation continues to rise until the economy has
returned to trend. Monetary policy tightens earlier in this scenario.
Efforts to deliver a soft landing in China's housing market fail and house prices collapse.
Housing investment slumps and household consumption is weakened by the loss of
wealth. Losses at housing developers increase NPL's, resulting in a retrenchment by the
banking system and a further contraction in credit and activity.
1. Eurozone
deflation
2. G7 boom
5. China hard
landing
6. Russian rumble Fighting continues in East Ukraine between government forces and rebels supported by
Russian troops. Putin continues to supply the rebels and the west retaliates by
significantly increasing sanctions. Russia responds by cutting gas and oil supplies to
Europe.
7. JPY collapses
The Japanese economy fails to respond to monetary easing (QQE) and, as it becomes
increasingly difficult to tighten fiscal policy, investors fear a default by the government on
its debt. The JPY falls sharply, inflation accelerates and bond yields rise causing the BoJ
to increase interest rates to stem capital flight. Real activity is weaker in Japan despite
the lower JPY as a result of higher interest rates and the squeeze on real wages from
higher inflation.
62%
-
-
5%
-0.7%
-0.8%
4%
+0.7%
+0.7%
4%
+0.3%
-0.3%
5%
-0.5%
+0.6%
Deflationary: Global growth slows as China demand weakens with commodity producers hit hardest. However,
the fall in commodity prices will push down inflation to the benefit of consumers. Monetary policy is likely to
ease/ stay on hold while the deflationary shock works through the world economy.
6%
-1.3%
-0.9%
Stagflationary. Europe is hit by the disruption to energy supply resulting in a fall in output whilst alternative
sources are put in place. Higher oil prices hit global inflation and the breakdown of relations between Russia
and the west creates significant volatility in financial markets.
6%
-0.7%
+0.6%
6%
-0.7%
-0.3%
2%
-
-
Deflationary: the rest of the world has to contend with an even weaker JPY, hitting the growth and inflation
outlook in Asia and in other major competitors.
8. Other
*Scenario probabilities are based on mutually exclusive scenarios. Please note the forecast warning at the back of the document.
22
Issued in November 2014 Schroder Investment Management Limited.
31 Gresham Street, London EC2V 7QA. Registered No. 1893220 England.
Authorised and regulated by the Financial Conduct Authority
Global vs. 2015 baseline
Probability* Growth Inflation
28 November 2014
For professional investors only
Updated forecast charts - Consensus Economics
For the EM, EM Asia and Pacific ex Japan, growth and inflation forecasts are GDP weighted and
calculated using Consensus Economics forecasts of individual countries.
Chart A: GDP consensus forecasts
2014
2015
%
%
8
8
7
7
EM Asia
EM Asia
6
6
EM
5
5
EM
4
4
Pac ex JP
Pac ex JP
3
3
US
2
UK
US
2
UK
1
Japan
Eurozone
Japan
1
Eurozone
0
0
Jan
Apr
Jul
Oct
Jan
Apr
Jul
Jan Feb Mar
Oct
Apr May Jun
Jul
Aug Sep Oct
Nov
Month of forecast
Month of forecast
Chart B: Inflation consensus forecasts
2014
2015
%
%
6
7
EM
EM
6
5
5
4
EM Asia
3
Pac ex JP
EM Asia
4
Pac ex JP
3
Japan
2
US
2
US
UK
Japan
UK
1
1
Eurozone
Eurozone
0
0
Jan
Apr
Jul
Oct
Jan
Apr
Jul
Oct
Month of forecast
Jan Feb Mar
Apr May Jun
Jul
Aug Sep
Oct
Nov
Month of forecast
Source: Consensus Economics (November 2014), Schroders
Pacific ex. Japan: Australia, Hong Kong, New Zealand, Singapore
Emerging Asia: China, India, Indonesia, Malaysia, Philippines, South Korea, Taiwan, Thailand
Emerging markets: China, India, Indonesia, Malaysia, Philippines, South Korea, Taiwan, Thailand, Argentina, Brazil, Colombia, Chile,
Mexico, Peru, Venezuela, South Africa, Czech Republic, Hungary, Poland, Romania, Russia, Turkey, Ukraine, Bulgaria, Croatia,
Estonia, Latvia, Lithuania
The forecasts included should not be relied upon, are not guaranteed and are provided only as at the date of issue. Our forecasts are
based on our own assumptions which may change. We accept no responsibility for any errors of fact or opinion and assume no obligation
to provide you with any changes to our assumptions or forecasts. Forecasts and assumptions may be affected by external economic or
other factors. The views and opinions contained herein are those of Schroder Investments Management's Economics team, and may not
necessarily represent views expressed or reflected in other Schroders communications, strategies or funds. This document does not
constitute an offer to sell or any solicitation of any offer to buy securities or any other instrument described in this document. The
information and opinions contained in this document have been obtained from sources we consider to be reliable. No responsibility can be
accepted for errors of fact or opinion. This does not exclude or restrict any duty or liability that Schroders has to its customers under the
Financial Services and Markets Act 2000 (as amended from time to time) or any other regulatory system. Reliance should not be placed
on the views and information in the document when taking individual investment and/or strategic decisions. For your security,
communications may be taped or monitored.
23
Issued in November 2014 Schroder Investment Management Limited.
31 Gresham Street, London EC2V 7QA. Registered No. 1893220 England.
Authorised and regulated by the Financial Conduct Authority