2013: “The patient is healing, but is early to issue a bulletin,” says AXA IM

The global economy is set for healing mode in 2013 and headwinds in the first half will make place to a brighter outlook in the second semester, according to AXA Investment Managers.

Analysts at the company do not expect the fiscal cliff to derail the US economy, as a stronger private sector should support the recovery.

Meanwhile, growth in the euro-area growth will be marked by on-going recession whilst emerging markets will support growth amid robust private demand and a recovery in global trade.

Central banks’ policies will remain very accommodative amid on-going disinflationary forces.

“We suggest moving up the risk curve with an overweight in equities but keeping a neutral weighting in fixed income; we recommend an underweight in ‘safe haven’ bonds and we confirm our positive view on euro periphery bonds, US linkers and credit,” AXA said.

According to Eric Chaney, chief economist at the firm, 2012 was a bifurcation year.
“The alternative was scary but simple: either the euro area makes convincing progress to solve its governance crisis or an irreversible process leading to a chaotic dismantling starts, raising the ugly prospect of a global depression,” he said.

The former scenario eventually prevailed, thanks to the fiscal compact agreement, to the decision to move toward a banking union, and to the bold statement made by ECB chairman Mario Draghi to preserve the euro whatever it takes.

“Despite other causes for concern, fiscal uncertainties in the US or slower growth in China, the new powerhouse of the world, global equities were up 15% and corporate bonds almost 11% over the year, at the time of this writing,” he added.

Looking to 2013, political and economic uncertainties are still high -the fallouts of the credit bubble burst have not vanished. Yet, they should not obscure the bigger picture.

“Since the crisis was rooted in the unsustainable accumulation of mortgage debt in the US and external imbalances in the euro area, let us look at the facts. American consumers’ debt has fallen to 108% of disposable income from 129% in September 2007,” Chaney said.

In Europe, corrections are even more spectacular: at their trough, current account gaps in Greece, Portugal, Ireland and Spain reached between -7% and -15% of GDP.

Now, Ireland has a surplus, Spain and Portugal benign deficits of 2% of GDP and even Greece is moving fast toward breakeven, the economist pointed out.

“The flip side of these macro adjustments is attracting most of the attention: deep contractions of domestic demand and high unemployment. But investors should not overlook that a massive rebalancing has already occurred,” he said.

Since unsustainable imbalances came from excessively strong spending, the correction had to happen, one way or another. As in the US, there is life after restructuring and we are getting closer to this stage. Spain as well as Italy could surprise on the upside in the course of 2013.

But Chaney noted that while the patient is healing, it is too early to issue a clean health bulletin.

“A standoff between the White House and Capitol Hill could wreak havoc on the US economy, a very remote risk in our view,” he said.

More serious is the risk that euro area leaders do not live up to the expectations they have themselves created. Preventive action by the ECB has dragged down bond yields, the side effect being weaker incentives for governments to move forward.

“With general elections due in Italy and in Germany in early and late 2013, bridging national gaps and undertaking growth-enhancing reforms may prove difficult. Like it or not, the euro crisis is still reversible,” he said.

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