The outlook for 2016

4 mins. to read
The outlook for 2016

The economy is not the same thing as the stock market and its profits. However, a strong share market with increasing profits is dependent on a growing economy. The former of course tends to discount the latter. That is pretty much where we are now. The share market discounting economic growth has been driven to high levels of equity valuation. That of course requires rising net profits. So, can we be bullish about the Global economy in 2016 as the necessary condition for profits growth next year? I believe that we can.

The six bullish factors:

Starting with our economy, the UK is forecast to keep growing in 2016. The factors that indicate that are as follows:

First, there was GDP growth in Q3 of 0.5%, which is tidily compatible with annual GDP growth in excess of 2% for the year about to end. In other words, the UK enters the New Year in growth mode.

Second, industrial investment seems to be picking up, and that is good not only for demand at a time when the government is cutting its own expenditure but also promising for the future productivity of labour when employment numbers are strong. In combination, both of those things should help wages to rise without being a threat to company profits.

Third, price inflation is close to zero, which suggests that interest rates are most unlikely to race up next year. That is helpful because this phase of economic growth is inevitably predicated on more consumer bank and credit card borrowing. That is the way the budget was planned. Moreover, low inflation is helpful to raise living standards, which requires the rate of increase in wages and salaries to be greater in percentage terms than the accompanying rise in inflation, which of course reduces the purchasing power of wage rises.

Fourth, we seem to have entered a period of a stronger dollar as rising rates in the US attract hot money back to dollar denominated assts. A rise in US rates does not have to be particularly high when in many places there lower, even negative, deposit rates, as in Switzerland.

Five, the US economy is in its sixth year of economic recovery and looks as though it will continue growing at about 2% in 2016. While this is low by historical comparisons, it is nevertheless good enough for now when interest rates have risen already. That gives more profitable trading leeway to UK exporters of goods and services (such as they are) as well as dollar denominated earners in the UK.

Six, it seems to be the consensus view that the Chinese government has the means to stimulate China’s economy in the event of its failing to deliver the goods, in terms of employment and economic growth, whilst it continues to swing from exporting and infrastructure spending to the stimulation of domestic consumer demand for goods and services. This is a transformation that will be good for European exporters over the long term, and is something that should help the UK directly and indirectly, if and when it prompts demand in the becalmed Euro area.

The impact of “Brexit

The great uncertainty for UK markets next year will be, of course, the expected referendum on the UK’s continuing membership of the European Union. The economic short- and medium-term financial implications of a “Brexit” vote are frankly unfathomable, even if democratically sound in principle and the long run. The UK citizen will be given the choice between a more directly democratic system of government and the threat of some immeasurable economic decline. Europe, constitutionally and undeniably, is the mess that is known as the “democratic deficit”. Devalera once said about Ireland that he would rather see it poor and independent. There is a touch of that choice and dilemma in relation to the UK’s membership of the EEC. It is a hard choice.

On a subjective note, I think that the “No” campaign is in part driven by a romantic notion  that the UK can get back to being what it was in the 18th and 19th centuries. That might be an agreeable vision but I think it more a dream than a reality. An EU-free UK will become a supplicant nation in a world of big economies and economic blocs (like the EU and the North American Trade Area)  dominated by big global corporations, which will tell the UK government, in no uncertain terms, what is expected of it. UK representative government would in such circumstances become weaker, not stronger, as the UK’s negotiating hand is weakened by its reduced economic scale and the political punch that comes from it.

It will not carry the clout of belonging to the world’s largest trading bloc and market of a gigantic five hundred million people. Rather, the UK will have to ride the punches that come from being outside the decision-making membership of that bloc. Everybody knows that the best deals and best prices go to the biggest players, not the smallest.

On the basis of the evidence, the UK will be informed by Brussels that if it wishes to trade with Europe, it will need to pay the menu prices set by the management, without being able to influence them as once it could. The idea that the UK is big enough to dictate terms to a powerhouse trading bloc like the EU, which in terms of population is seven times the size of the UK, is wishful thinking. If we cannot persuade the EU to give us a deal to stay in the EU, why should we assume that they will treat us well once we are on the outside?

Regardless of the merits and counter merits of leaving the EEC, the uncertainty surrounding the anticipated “Brexit” referendum is likely to chill the first half of next year’s market perceptions in the UK.

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