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Slower growth looks to be a new reality for the global economy

March 10, 2017

Since the Global Financial Crisis ended, economic growth has fallen short of historical averages and consistently disappointed policymakers. Deflationary shocks have continued to roil the markets, and much of the world's bond market offers negative yields. Some still think the world is headed for Japanese-style long-term stagnation. Yet the modest global recovery—at times frustratingly weak—has endured, proving the most ardent pessimists wrong.

Vanguard economists believe that the low-growth, low-interest-rate world is here to stay, driven by long-range forces—including globalization, changing demographics, and technology advances—that have shaped the global economy and tempered its growth for four decades. Importantly, we reject the persistent myth of economic stagnation and believe that the world is adjusting to the slower-growth environment.

What does this mean for key economies? Here is what Vanguard's 2017 outlook is projecting, based on results from the Vanguard Capital Markets Model® (VCMM).

The United States: Resiliency in the midst of global weakness

Despite the persistent slowdown in growth globally, the U.S. economy remains resilient. Even after it expanded for a seventh straight year—more than double the average length of an expansion—Vanguard economists expect it to stay on a long-term growth path of about 2% per year. Still, our researchers acknowledge that this abnormally long period of growth is not without risks, and they anticipate that U.S. markets will remain highly sensitive to unexpected shocks.

The policy direction of the new administration, along with the associated uncertainty, will prove significant over the long term. In particular, the rollout of new fiscal and trade policies has major implications for the global economic environment.

Changes in domestic policies, such as tax cuts and infrastructure spending, along with an unforeseen flare-up in inflationary pressures, could potentially trigger the acceleration of interest rate increases. And international influences—such as the breakdown of Brexit negotiations, or global spillovers from volatility in emerging markets—have the potential to disrupt expansion.

China: Balancing the risks of its rebalancing

On the back of 2016's aggressive infrastructure spending and extension of credit, growth in China has stabilized, led by a modest recovery of the "old economy," such as metals and real estate. Still, the country's slowing trend of recent years is unlikely to reverse any time soon, as industrial overcapacity, unfavorable demographics, and declining growth in productivity drag on its economy.

As a result, we expect China's real GDP growth to fall further in 2017. Although the official growth target is likely to hover around 6%–7%, our underlying proprietary indicators point to 5% "real feel" growth. Although we are cautiously optimistic about China's future in the long term, the outlook for its economy depends on many complex, deep-rooted factors—both domestic and external—that will become clearer with time.

Japan: Fighting looming policy limits

Nearly four years into its bid to reflate Japan's economy, "Abenomics" has reached a critical stage, as the overreliance on monetary policy has generated diminishing benefits and increasing risks.

Despite further asset purchases by the Bank of Japan and the introduction in 2016 of negative interest rates, the yen strengthened against the U.S. dollar early last year, economic growth remains sluggish, and deflation risk is on the rise again.

For 2017, we expect Japan's economy to grow at 0.7%, modestly above its long-term 0.4% trend, and inflation could recover gradually toward 1%. Any rebound is unlikely to be significant, however, given Japan's declining and aging population, labor market controversy, weak productivity growth, and high debt.

Europe: After Brexit

Britain's decision last June to leave the European Union will significantly affect the U.K. economy. A majority of economists estimate that living standards will suffer in the long run.

But considerable uncertainty remains about the terms of Britain's departure. A "soft" Brexit, with the country remaining a member of the EU single market, is likely to be less costly. A "hard" Brexit would be damaging, with immigration controls restricting the ability of U.K. firms to sell products and services into the EU. This more severe scenario would most likely lead to an eventual drop of 5% or more in Britain's GDP.

Brexit's immediate short-run effects are also negative, as the uncertainty may lead firms and households to delay spending plans. We expect continuing weakness in spending, with an overall effect of 2%–3% of GDP; that is at the lower end of expectations made before the vote.

The euro-area economy will be affected as well; we've marked down our 2017 growth forecast for it by about 0.2 percentage point, to 1.5%. The more important consequence would be if other countries decide to follow suit and break away from the EU. This year's general elections in France and Germany will shed light on that risk.


  • All investing is subject to risk, including the possible loss of the money you invest. Past performance is no guarantee of future results. Diversification does not ensure a profit or protect against a loss. Investments in bonds are subject to interest rate, credit, and inflation risk.
  • IMPORTANT: The projections or other information generated by the Vanguard Capital Markets Model® (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 the VCMM are derived from 10,000 simulations for each modeled asset class. Simulations are as of September 30, 2016. Results from the model may vary with each use and over time.
  • The VCMM projections are based on a statistical analysis of historical data. Future returns may behave differently from the historical patterns captured in the VCMM. More important, the VCMM may be underestimating extreme negative scenarios unobserved in the historical period on which the model estimation is based.
  • The VCMM is a proprietary financial simulation tool developed and maintained by Vanguard's Investment Strategy Group. The model forecasts distributions of future returns for a wide array of broad asset classes. Those asset classes include U.S. and international equity markets, several maturities of the U.S. Treasury and corporate fixed income markets, international fixed income markets, U.S. money markets, commodities, and certain alternative investment strategies. The theoretical and empirical foundation for the Vanguard Capital Markets Model is that the returns of various asset classes reflect the compensation investors require for bearing different types of systematic risk (beta). At the core of the model are estimates of the dynamic statistical relationship between risk factors and asset returns, obtained from statistical analysis based on available monthly financial and economic data. Using a system of estimated equations, the model then applies a Monte Carlo simulation method to project the estimated interrelationships among risk factors and asset classes as well as uncertainty and randomness over time. The model generates a large set of simulated outcomes for each asset class over several time horizons. Forecasts are obtained by computing measures of central tendency in these simulations. Results produced by the tool will vary with each use and over time.
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