Vanguard’s 2022 mid-year economic and market outlook

Recession risks

Central banks have been forced to play catch-up in the fight against inflation, raising interest rates more rapidly and possibly higher than previously expected. But those actions risk cooling economies to the point that they may enter recession.

Growth downgraded

Vanguard has downgraded its 2022 economic growth forecasts for all the major regions, increased its inflation forecasts and expects interest rates to rise higher and sooner than expected.

Improved long-term return outlook

There is a silver lining to down markets: Because of lower current equity valuations and higher interest rates, our model suggests higher expected long-term returns for most global markets.

What are the chances of a recession?

Global economic growth will likely stay positive this year, but some economies are flirting with recession, if not this year, then in 2023.

 

Source: Vanguard forecasts as at 7 July 2022.

Outlook for growth, inflation and interest rates

Labour and supply-chain constraints were already fuelling inflation before the year began, but Russia’s invasion of Ukraine and China’s zero-covid policy exacerbated the situation. We have increased our inflation forecasts, become more hawkish about monetary policy and downgraded growth.

  Economic growth Headline inflation Monetary policy Unemployment rate
United states c.1.5% 7%-7.5% 3.25%-3.75% 3%-3.5%
Euro area 2%-3% c.8%-8.5% 0.5%-0.75% c.7%
United Kingdom 3.5%-4% c.10% 2.25%-2.5% c.4%
China c.3% < 2.5% 2.75% c.5.5%

Source: Vanguard forecasts as at 7 July 2022. Forecasts evolve with new data, and our views will inevitably change. See below for definitions of all the terms used in the table.1

Expected 10-year asset class returns have risen

Stock and bond markets have been hit hard so far in 2022. The silver lining for long-term investors is that our 10-year return outlook has improved. Our latest forecasts put most equity markets up one percentage point. Our bond return forecasts are also about 1.5 percentage points higher.

Any projections should be regarded as hypothetical in nature and do not reflect or guarantee future results.

Source: Vanguard forecasts as of 31 May 2022. Distribution of return outcomes from VCMM are derived from 10,000 simulations for each modelled asset class. Simulations as of 31 December 2021 and 31 May 2022.. Forecasts evolve with new data, and our views will inevitably change. See below for more information on VCMM and the indices used in the above chart.2

Joe Davis: Is recession inevitable?

In this video, Joe Davis, our global chief economist, shares his thoughts on rising recession risks over the next 12 to 18 months. Focusing on the United States, where the US Federal Reserve is further along on the path to raising interest rates compared with the Bank of England and European Central Bank, he also drills down to explain what may be needed to avoid a recession. 

“Is recession inevitable?” Video transcript:

Joe Davis: Inflation is at generational highs, and many are concerned about the threat of recession. So, what’s Vanguard's view?

Our own economic projections now indicate a greater than 50% probability of a recession occurring over the next 12 to 18 months, both in the United States and other developed markets, in particular Europe.

Why the increased odds of recession? Well, now we have two forces pushing on inflation. The well-documented supply constraints of food and energy and other products leading to higher costs of living for many consumers and businesses. And the second force, which we have long documented—the tight labor market pushing up wage pressures, which also contribute to higher inflation for a number of products and services.

Now, greater than 50% odds are not 100%, and recession is not a foregone conclusion. So, what would it take for the U.S. economy and other markets to avoid a recession, a scenario that is not fully priced by the financial markets? Well, in my mind, there are four.

For the Federal Reserve, respectfully, I would strongly urge moving short-term interest rates to 3% before the end of the summer. That would help tamp down inflation expectations, which have started to creep up given the recent experience of high inflation.

We would need to see commodity prices fall further from here. Say, perhaps, oil below $100 a barrel— which, if that would occur, would fully offset the rise in food prices, which have also been material over the past 12 months for most consumers.

If we would see inventories rebuild as they have been doing over the past several months, that would potentially provide some modest price relief, and that is critical to bring down headline inflation, which is north of 8.5%.

And then, finally, we need to see a little bit of luck on labor supply. And, indeed, we would need to see at least one million Americans more join the labor force over the summer. That would help better balance the strong demand for labor with the lack of supply. And that would provide still-heady wage growth, but perhaps at a slightly lower rate and yet still ahead of the rate of cost of living, should we see these three other conditions met.

So, four conditions to avoid recession. And, unfortunately, I don’t view this as a multiple-choice exam, and in fact we would need to see all four met for the U.S. economy and other markets to avoid recession.

So, bottom line: Soft landings, which is the goal of many central banks; soft landings are rare, and they’re rarer than recessions. And should the U.S. economy and other markets fall into recession, that will be unfortunate, although it will not spell the end of economic growth in the future.

The path of the recovery, it has certainly narrowed. But the road isn’t blocked just yet, and in the months ahead we will have a better sense of where the economy unfolds.

 

Investment risk information
The value of investments, and the income from them, may fall or rise and investors may get back less than they invested.

Important information
For professional investors only (as defined under the MiFID II Directive) investing for their own account (including management companies (fund of funds) and professional clients investing on behalf of their discretionary clients). In Switzerland for professional investors only. Not to be distributed to the public.

The information contained in this document is not to be regarded as an offer to buy or sell or the solicitation of any offer to buy or sell securities in any jurisdiction where such an offer or solicitation is against the law, or to anyone to whom it is unlawful to make such an offer or solicitation, or if the person making the offer or solicitation is not qualified to do so.  The information in this document does not constitute legal, tax, or investment advice. You must not, therefore, rely on the content of this document when making any investment decisions.

Issued in EEA by Vanguard Group (Ireland) Limited which is regulated in Ireland by the Central Bank of Ireland.
Issued in Switzerland by Vanguard Investments Switzerland GmbH.
Issued by Vanguard Asset Management, Limited which is authorised and regulated in the UK by the Financial Conduct Authority.

© 2022 Vanguard Group (Ireland) Limited. All rights reserved.
© 2022 Vanguard Investments Switzerland GmbH. All rights reserved.
© 2022 Vanguard Asset Management, Limited. All rights reserved.

The charts shown above are available to download along with further insights on the outlook for other regions in this deck.

Read the full commentary on our 2022 mid-year economic and market outlook update here.

Notes:

1 Forecasts evolve with new data, and our views will inevitably change. Growth is the change in annualised GDP year over year. Inflation is the headline consumer price index, which includes the volatile food and energy sectors. Monetary policy is our year-end projection for the central bank’s short-term interest rate target.

2 *IMPORTANT: The projections and other information generated by the VCMM regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results, and are not guarantees of future results. Distribution of return outcomes from VCMM are derived from 10,000 simulations for each modeled asset class. Simulations as of 31 May 2022. Results from the model may vary with each use and over time. For more information, please see the ‘Investment risk information’ section below. Notes: the figures are based on a 1-point range around the 50th percentile of the distribution of return outcomes for equities and a 0.5-point range around the 50th percentile for bonds. Indices used in VCCM simulations: US equities = MSCI US Broad Market Index; Global ex-US equities = MSCI All Country World ex-USA Index; US aggregate bonds = Bloomberg US Aggregate Bond Index; Bloomberg Global Aggregate ex-USD Index.

Investment risk information
The value of investments, and the income from them, may fall or rise and investors may get back less than they invested.

Past performance is not a reliable indicator of future results.

Any projections should be regarded as hypothetical in nature and do not reflect or guarantee future results.



Important information
For professional investors only (as defined under the MiFID II Directive) investing for their own account (including management companies (fund of funds) and professional clients investing on behalf of their discretionary clients). In Switzerland for professional investors only. Not to be distributed to the public.

The information contained in this article is not to be regarded as an offer to buy or sell or the solicitation of any offer to buy or sell securities in any jurisdiction where such an offer or solicitation is against the law, or to anyone to whom it is unlawful to make such an offer or solicitation, or if the person making the offer or solicitation is not qualified to do so.  The information in this article does not constitute legal, tax, or investment advice. You must not, therefore, rely on the content of this article when making any investment decisions.

Issued in EEA by Vanguard Group (Ireland) Limited which is regulated in Ireland by the Central Bank of Ireland.
Issued in Switzerland by Vanguard Investments Switzerland GmbH.
Issued by Vanguard Asset Management, Limited which is authorised and regulated in the UK by the Financial Conduct Authority.

© 2022 Vanguard Group (Ireland) Limited. All rights reserved.
© 2022 Vanguard Investments Switzerland GmbH. All rights reserved.
© 2022 Vanguard Asset Management, Limited. All rights reserved.


Important information
For professional investors only (as defined under the MiFID II Directive) investing for their own account (including management companies (fund of funds) and professional clients investing on behalf of their discretionary clients). In Switzerland for professional investors only. Not to be distributed to the public.

The information contained in this document is not to be regarded as an offer to buy or sell or the solicitation of any offer to buy or sell securities in any jurisdiction where such an offer or solicitation is against the law, or to anyone to whom it is unlawful to make such an offer or solicitation, or if the person making the offer or solicitation is not qualified to do so.  The information in this document does not constitute legal, tax, or investment advice. You must not, therefore, rely on the content of this document when making any investment decisions.

Issued in EEA by Vanguard Group (Ireland) Limited which is regulated in Ireland by the Central Bank of Ireland.
Issued in Switzerland by Vanguard Investments Switzerland GmbH.
Issued by Vanguard Asset Management, Limited which is authorised and regulated in the UK by the Financial Conduct Authority.

© 2022 Vanguard Group (Ireland) Limited. All rights reserved.
© 2022 Vanguard Investments Switzerland GmbH. All rights reserved.
© 2022 Vanguard Asset Management, Limited. All rights reserved.