NEVER IN RECENT memory has so much uncertainty hung over global growth. That is not just because the prospects for the world economy in 2021 depend on how much the virus spreads and the roll-out of a vaccine. It is also because it is unknown just how much lasting damage the pandemic has done as it has slowed economic activity, shut down some firms and left workers jobless. Its full impact has been obscured by massive emergency government intervention to bail out companies and support workers. Only when that support is withdrawn will the veil be lifted. Just as epidemiologists have had to learn about the virus as it advances, economists must judge its economic toll on the fly.

America’s labour market is a good place to start. It lies at the heart of all global economic forecasts. In June half the monetary-policymakers at the Federal Reserve thought the unemployment rate would fall slowly from its peak in the spring to finish 2020 at a level above 9.3%. By October it was already down to 6.9%. A sign of a v-shaped recovery, say optimists. Yet in the same month there was more permanent joblessness than in October 2008, the month after the collapse of Lehman Brothers. Watch this measure, rather than the plummeting headline rate of unemployment, for signs of whether the jobs market has truly turned a corner.

A rapid recovery in labour markets might presage higher inflation. Some commentators warn of surging prices as the enormous monetary and fiscal stimulus injected in 2020 works its way through a global economy that remains disrupted by the crisis. Yet few investors buy this thesis. Financial markets are priced for central banks to undershoot their inflation targets for years. Japan seems to be at risk of a return to deflation, and the euro zone is stuck with sluggish price rises. Were inflationary pressure to emerge, it would probably do so first in America, and would require a swift adjustment to asset prices premised on the world staying disinflationary and interest rates staying low. Keep an eye not on inflation data, which at present are distorted by temporary changes in the economy, nor on bond yields, which are pegged down by central banks, but on inflation expectations.

Monetary policy is the most predictable part of the economic landscape. There is no question of rich-world interest rates rising soon. Rather, more economies will experiment with taking rates negative. The European Central Bank will review its monetary-policy framework but, with northern hawks breathing down its neck, seems unlikely to follow the Fed’s promise to let inflation overshoot its target.

The real action will be in fiscal policy. Governments must judge whether the economic recovery needs more help. If America’s Republicans retain control of the Senate after two run-off elections in January, President Joe Biden may find himself unable to pass more stimulus even if the economy turns sour. Across the rich world too rapid a turn to fiscal austerity is a risk, as governments fret about deficits, particularly if a rapid rebound in activity is mistaken for a full recovery. With monetary policy more or less fixed, the effect of tax and spending decisions will be amplified. Watching finance ministries will be more important than studying central banks.

Unconventional measures
Emerging markets have not faced the widespread financial crisis that seemed imminent at the start of the pandemic, despite concentrated and severe economic stress in the poorest countries. The pandemic has not put as much pressure on their exchange rates and foreign-exchange reserves as the past three instances of emerging-market stress, according to the IMF. As a result they, like rich countries, have experimented with unconventional fiscal and monetary policies, such as mass cash handouts and central-bank bond-buying. But it is unclear how long emerging economies can emulate the rich-world economic-policy playbook, even amid favourable global financial conditions. The currencies of Brazil, South ­Africa and India may show signs of trouble.

Finally, consider the issue that defined the outlook for 2020 before the pandemic: the trade war between America and China. Though the “phase one” trade deal between them remains in place, so do most of the tariffs imposed in recent years. Given the mutual suspicion that exists between the two countries, the truce is fragile. And as global manufacturing has rebounded rapidly, so too has China’s economy. The future of the trade war is unclear. But one economic variable is a reliable source of alarm in Washington and has grown in 2020. Watch out for China’s trade surplus.

This article appeared in the Leaders section of the print edition of The World in 2021 under the headline “Plotting the economic course”

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