KOF Economic Forecast: Period of Weakness Persists

The global economy remained weak in the summer half-year of 2019. Global trade and the world economy are also likely to grow below potential in this and the next few quarters. Nonetheless, at least the downturn observed since 2018 is unlikely to intensify any further. This can partly be attributed to a slight easing of tensions in the trade dispute between the United States and China.

KOF continues to expect gross domestic product (GDP) growth of 0.9 per cent for 2019 and has slightly lowered its forecasts for 2020 and 2021 to 1.8 per cent and 1.4 per cent respectively (autumn forecast: 1.9 per cent and 1.5 per cent respectively). Adjusted for extraordinary revenues from major international sporting events, the growth rates for the three years up to 2021 are expected to be 1.4 per cent, 1.4 per cent and 1.8 per cent respectively.

Weakness of German industry acting as a drag on Swiss exporters

The fairly paltry macroeconomic growth observed in the euro area since the spring of 2019 continued in the third quarter of this year, with GDP growing by only 0.9 per cent. The low level of business activity can mainly be attributed to manufacturing, especially producers of capital equipment, which are more export-driven and are generally more closely integrated into global supply chains than many consumer-goods industries and service sectors. An international comparison shows that current sentiment in manufacturing is worse in countries where production of intermediate goods and capital equipment accounts for a higher proportion of total industrial output.

Growth in the euro area has been especially hampered by the level of aggregate output in Germany. German industrial output has now been contracting for more than a year, which is also having an adverse impact on Swiss manufacturing. The main causes of Germany’s faltering performance are imminent structural change in the automotive industry and sluggish investment momentum around the world. The slowdown in China’s growth might also have repercussions for Swiss exporters.

Rising real wages and slightly higher unemployment expected

Private consumption should prove to be a key pillar of the economy, as has often been the case in the past. KOF is forecasting that – despite moderate net immigration – consumer spending will grow modestly over the next two years. This is partly because wages have started to rise again: with consumer prices virtually stagnating, real wages are expected to grow by 0.7 per cent in 2020 according to the Swiss Wage Index.

Employment, on the other hand, is likely to increase only modestly over the coming quarters. KOF expects employment growth to slow from 1.2 per cent in 2019 to 0.7 per cent in 2020. The number of jobs in industry is actually forecast to fall next year. Starting from a very low level at present, the unemployment rate – as defined by Switzerland’s State Secretariat for Economic Affairs (SECO) – is likely to rise slightly. It is averaging 2.3 per cent this year and is forecast to reach 2.4 per cent in 2020. The International Labour Organization (ILO) estimates Switzerland’s unemployment rate to be 4.5 per cent next year.

Residential construction suffering from weak demand and rising vacancy rates

The Swiss construction sector is increasingly losing momentum. KOF expects real construction investment to grow by only 0.3 per cent in 2019. Construction investment is likely to stagnate in 2020 and 2021 and therefore make no contribution to Swiss economic growth. Residential construction investment is expected to be particularly weak. Excess capacity, sluggish demand and rising vacancy rates are depressing residential construction despite the fact that borrowing terms remain highly attractive. However, capital spending on Swiss infrastructure is supporting the construction sector. The civil-engineering sector is likely to grow significantly, compensating for the decline in residential construction investment.

KOF expects growth in capital spending on machinery and equipment to decrease to 1.0 per cent next year (2019: 1.7 per cent). Capacity utilisation in manufacturing continued to fall in the third quarter of 2019 while, at the same time, earnings are stagnating. The pressure on investment has therefore declined further.

The responses given by industrial and manufacturing firms in KOF’s business tendency surveys are becoming increasingly negative. Other companies, by contrast, remain confident. The tourism sector – which is often one of the worst-hit industries when faced with a sluggish economy – remains fairly optimistic despite the fact that the Swiss franc has strengthened. The same applies to the retail sector.

Now no need for the SNB to cut interest rates

Most central banks in industrialised nations and emerging markets alike have adopted a wait-and-see stance. Christine Lagarde, the new President of the European Central Bank (ECB), will not be taking any further monetary policy measures for the time being either. The situation in the currency markets is also stable at the moment. This removes the need for the Swiss National Bank (SNB) to lower its key interest rates at the end of this year after KOF had predicted a rate cut in its autumn forecast. The SNB is likely to keep its policy on hold for now.

Forecasting risks

The United Kingdom is holding a general election today (12 December). The governing party of Prime Minister Boris Johnson is predicted to win an outright majority. KOF expects that the UK will leave the European Union on 31 January next year without causing any economic disruption. The UK’s future relationship with the EU will only be decided during subsequent negotiations on a free-trade agreement. Any further delay to Brexit – for example, if the election were to produce a hung parliament – would increase uncertainty even more and therefore pose a downside risk to the economy.

The Swiss pharmaceutical industry has a high and growing trade surplus with the United States, which is a thorn in the side of the Trump administration. There is a risk that the US government will exert pressure on Switzerland in the form of customs duties on pharmaceutical imports. The strikes in France against the government’s pension plans also pose a downside risk. The same applies to events in the US repo market, where there was a liquidity shortage in mid-September, to which the Federal Reserve responded by flooding the market with liquidity. In October it also started to purchase government bonds again in order to make additional liquidity available.