2023: disinflation takes hold
2023 saw the start of the long-awaited global disinflation movement set to allow Western central banks to halt their cycle of key rate hikes. Despite persistent significant geopolitical risks (ongoing conflict in Ukraine, tensions in the Middle East and attacks in the Red Sea), commodity prices stabilised overall after a year of soaring prices in 2022. Although disinflation got off to a slow start in the first half of the year, it then took hold for good on both sides of the Atlantic, enabling central banks to pause their monetary policy at the end of the summer and to keep key rates unchanged ever since. After reaching all-time highs since 2010, sovereign yields finally fell sharply in the autumn as investors became reassured about Western central banks being able to tackle inflation effectively, supporting equity markets with a year-end rally of rare magnitude. However, the growth profile differed markedly between Europe and the US. The former continued to suffer from the slowdown in global demand, persistently high inflation, reduced fiscal support, tighter financial conditions from the ECB and a fragile German industry due to the energy crisis. In contrast, US growth proved more resilient, underpinned by fiscal support measures and households' use of available savings. Finally, in China, the rebound in growth remained modest and disappointing, despite the fiscal and monetary support measures announced by the authorities.
In the euro zone, persistent inflationary pressures worried investors and the European Central Bank (ECB) during the first part of the year. The resilience of core inflation (excluding energy and food) and wage rises in particular forced the ECB to continue raising key rates, despite investor fears over US financial instability. Nevertheless, the slowdown in inflation accelerated in the second half (from +8.6% y-o-y in January to +2.4% in November for the headline figure, and from +5.3% to +3.6% for core inflation), thanks to favourable base effects, the spread of restrictive financial conditions and slowing producer prices. Moreover, growth in the euro zone was sluggish (-0.1% sequentially in Q3-2023; +0.1% in Q2 and Q1), but this did not prevent optimism from lifting equity markets a notch higher (+12% for the Stoxx Europe 600). The deterioration in economic indicators became more marked in the second half of the year, particularly for PMI, although some confidence indicators stopped deteriorating at the year-end. Against this backdrop, the ECB has been able to leave its key rates unchanged since its October meeting (after 10 consecutive 450bp hikes, bringing the deposit rate to 4%), while speeding up the reduction in the size of its balance sheet by not reinvesting securities acquired under the historical asset purchase programme (APP) and repayment of long-term bank lending operations (TLTRO). 2023 was therefore a two-faceted one for European sovereign yields: after rising significantly during the monetary tightening phase, they finally began to fall again in the autumn following the ECB's pause, a trend fuelled by investors' expectations of further monetary easing in 2024. This ultimately benefitted the narrowing of spreads between core and peripheral euro-zone countries. The euro rose against the dollar in 2023 (ending on a high note of almost +4% at €1 = $ 1.10), mainly due to the dollar's fall caused by investors factoring in the end of the Fed's monetary tightening. At the European level, member states finally agreed on a reform of budgetary rules which, while maintaining the public deficit threshold at 3% of GDP and that of public debt at 60% of GDP, gave said states greater flexibility to reduce their debt, notably by introducing an adjustment period that can be extended in the event of structural investments in the ecological transition, defence or digital technology. Lastly, the year was punctuated by political events such as the far-right Eurosceptic party coming out on top in the Dutch parliamentary elections and the socialist Pedro Sanchez remaining prime minister in Spain.
In France, inflation continued to fall in 2023 (+3.7% y-o-y in December vs. +6% in January), in line with the rest of the euro zone, but monetary tightening and the inflationary context affected activity. GDP contracted in Q3 (-0.1% sequentially compared to the previous quarter) and signs of a weakening French economy increased at the end of the year (activity PMIs still in contraction territory). In H1, ratings agency Fitch downgraded France's sovereign rating from AA to AA- due to reservations about the trajectory of public finances and the social context that followed the enactment of the pension reform. Lastly, the government presented its 2024 budget, which forecasts a deficit of 4.4% of GDP in 2024 (compared with an estimated 4.9% in 2023), requiring the issuance of €285bn of medium- and long-term debt. The CAC 40 slightly outperformed its pan-European peer, rising by 15% over the year.
In the UK, while persistent inflation and tensions on the labour market necessitated further key rate hikes during the first half of the year, the disinflation observed thereafter enabled the Bank of England to begin a pause in its monetary tightening since the summer (by maintaining rates at 5.25%). However, the consequences of monetary policy weighed on economic growth, which remained sluggish in Q3 (zero growth q-o-q). The return of PMI indicators to expansionary territory towards the end of the year was underpinned by the rapid fall in inflation, linked in particular to the fall in energy prices. The government presented its autumn budget, in which it plans additional budget spending (and therefore higher than expected debt issuance) as well as a significant increase in the minimum wage, pensions and social benefits.
In the US, persistent inflation, particularly in services and housing, prompted the Fed to continue raising key rates until July, taking the fluctuation band to 5%-5.25%. However, the disinflationary movement materialised more quickly than in the euro zone, with the PCE indicator falling from +5.5% in January to +2.6% in November, allowing the Fed to leave rates unchanged since the September meeting. At the same time, US growth continued to surprise with its resilience (GDP rebounded by 4.9% q-o-q in Q3), particularly in services driven by household demand. The labour market has also been a supportive factor, normalising only very gradually (increase in labour supply but still high job creation, a low unemployment rate), which only allowed a gradual slowdown in wages (still close to +4% y-o-y at the end of the year). As in Europe, US sovereign yields rose sharply until the autumn, particularly for long-term maturities (with 10-year yields crossing the 5% threshold in October), before beginning a rapid and widespread downturn from mid-October onwards, against a backdrop of expectations among investors that the Fed would cut key rates several times in 2024 as inflation slowed. Particularly visible in the real part (i.e. excluding inflation expectations), this fall in rates propelled US equity indices to new all-time highs (+25% for the S&P 500). It also contributed to the depreciation of the dollar against the major currencies at the end of the year. The year was also turbulent in the US, due to: 1) fears about the banking system following the failure of a number of regional banks in H1, and 2) a significant rise in sovereign yields over the summer, partly in the wake of fears about the path of US federal finances, which were linked to a risk of default given the major differences of opinion within Congress over budgetary decisions. An agreement to raise the debt ceiling and make budget cuts was finally reached, allowing debt issuance on the market to resume since June; yet this did not prevent Fitch from downgrading the US sovereign rating from AAA to AA+. Fiscal risks also remained high in H2 (no budget adopted as the end of 2023 approached), necessitating the adoption of a continuing resolution until the end of January 2024 in order to avoid a shutdown.
In China, the combined weakness of inflation (now in negative territory) and growth, whose post-pandemic recovery was disappointing, led the authorities to maintain their fiscal and monetary support in order to ensure that they achieved their 5% growth target. However, structural weaknesses continued to limit the scale of the rebound; these include the crisis in the property sector and the very high level of public and private debt, as well as the sharp decline in Chinese indices (-18% for the Hang Seng in 2023). Geopolitical tensions with the United States increased in the first part of the year (e.g. Taiwan and suspicions of espionage), but the November meeting of Xi Jinping and Joe Biden for the first time in a year helped stabilise bilateral relations. In emerging market countries, the fall in inflation, particularly core inflation, enabled central banks to cut their key rates this year, as Brazil's central bank did this summer.
In terms of commodities, the price of Brent rebounded to almost $95/b over the summer on the back of OPEC+ production cuts, resilient US demand and rising Chinese imports, before falling back to around $78/b at the end of the year in the wake of the economic slowdown and fears about the solidarity of the organisation. Gas prices fell to around €35/MWh for the European TTF benchmark at the end of the year, benefiting from subdued demand and the diversification of supplies. Geopolitical tensions and climate risks nevertheless fuelled volatility, particularly on certain food commodities, although the FAO food commodity price index fell in 2023.
Completed on 15th november 2023