A post-pandemic boom or a 3rd wave? Our thoughts on economic trends for Q3 2021

The Story

The International Monetary Fund (IMF) at the beginning of the second quarter of the year announced an upward revision of its forecast of world economic growth. The growth projection for the global economy was revised from 5.5% at the beginning of 2021 to 6% in April 2021. The IMF made this projection based on aggressive vaccination roll out and the massive fiscal stimulus packages by governments in developed economies. Given these projections, what do we expect in Q3 2021? Read on to dig into our thoughts on economic trends for Q3 2021.

Let’s start with developed Economies

Economies around the world were hard hit by the pandemic. After a prolonged period of lock downs and economic closure, vaccination is reviving economies. The USA and UK have been at the forefront of aggressive roll out of vaccinations to put an end to the pandemic and get their economies back on track. The US in Q1 2021, recorded a Gross Domestic Product (GDP) growth rate of 6.4%, the UK’s economy however contracted by 1.5% as the country imposed a lockdown in first 3 months of 2021. The country’s GDP is projected to grow at a rate of 5.3% in 2021. The GDP of countries in the EU also contracted by 0.3% in the first quarter of 2021.

The IMF’s growth projection is based on the influence the USA has on the global economy. The USA implemented a stimulus package worth $1.9trn for its citizens in Q1 2021. This, together with the Federal Reserve’s (Fed) loose monetary policy stance, spurred consumer spending and raised inflation to 5% in Q2 2021. The Fed despite rising inflation has decided to maintain its loose monetary stance till employment numbers pick up.

The government’s fiscal stimulus is impacting unemployment negatively, businesses are struggling to fill positions as recipients of the stimulus are not willing to return to work. Unemployment benefits and stimulus will start to expire in June and July for most states of the US and September for the entire country. Schools are also expected to open in September 2021. Expectations are that employment numbers will start to improve from September.

Going into Q3 2021, TGIC research expects significant growth in the US economy given reduced Corona virus fears and the re-opening of the service sector which accounts for over 70% of the US economy. A breakdown of retail sales in May 2021 shows growth in consumer spending in restaurant and bars. The number of eat-in diners and traffic congestions in parts of the USA reached or exceeded their pre-pandemic levels in late May 2021.

Europe, after a slow-paced vaccination, is also on the path to recovery. Like the USA, its service economy is also opening up. Europe in the thick of the pandemic deployed a furlough scheme (a paid leave of absence from work) to help its citizens retain their jobs. This helped to improve household savings during the pandemic. The industrial sector in Europe is also set to receive a boost as the re-opening of other economies around the world would increase European export demands. We expect increased demand to lead to a rise in capital expenditure as capacity utilization is back to pre-pandemic levels.

All of foregoing should give a boost to the world economy in Q3 2021 given the influence these economies have on the global economy. However, a 4th wave of the pandemic and further tightening of monetary policy tools, before economies attain pre-pandemic employment levels, remains a threat to the expected economic boom in the second half of 2021.

Emerging Markets

Economic data from emerging economies show China had the highest GDP growth in Q1 2021. GDP in China rose by 18.3% on a year-on-year basis in Q1 2021 but grew sluggishly by 0.6% quarter-on-quarter. China was the first to open its economy after the pandemic hit. While the rest of the world was locked down, China was the world’s manufacturing hub for personal protective equipment and work from home gears. This was a major boost to the country’s export, statistics from Eurostats shows China overtook the US to become Europe’s biggest trade partner in 2020. Data is however starting to show weakness in export growth. With vaccination in top gear and opening of other economies, competition will return to the export market and China may not be able to repeat the growth it achieved in 2020 in 2021. 

For most emerging economies, handling the pandemic has been a struggle. Unlike the developed countries, vaccination roll out is incredibly slow in these economies and there is the challenge of citizens hesitating to take the vaccine. This has led to the continuous mutation of the virus in countries like India and other Southeast Asian countries. These countries have however learnt to live with the virus, so the economic impact of the second wave was not as bad as the first. For countries in Latin America & Asia, economic growth in Q1 2021 exceeded expectations based on increased domestic demand. This sets precedence for growth going into the rest of the year.

Emerging economies still have to grapple with inflationary pressures given rising commodities prices and weaker exchange rates. Unlike the west, central banks in Brazil, Russia, India & Turkey have all had to tighten monetary policy tools in a bid to control the effect of inflation on their economies.

The threat to the growth of emerging market economies in Q3 are slow recovery from the pandemic as a result of the challenges with vaccination in these regions and further tightening of monetary policy in the US. Should the Fed decide to raise rates earlier than expected, emerging markets will struggle with higher cost of borrowing in USD and low foreign portfolio investment as investor’s funds will always move towards the highest yields. The higher cost of import could increase inflationary pressures in emerging countries.

Nigeria

Bringing it home to Nigeria! The Nigerian economy after slipping into a recession in the 3rd quarter of 2020, recovered with a meager GDP growth of 0.1% in Q4 2020. Like other emerging markets, Nigeria learnt to cope with the spread of the virus such that when the second wave hit in Q1 2021, the economy was not shut down. GDP grew by 0.51% at the end of the first quarter of 2021.

The Nigerian economy has however been bedevilled with heightened insecurity, high inflation and foreign exchange scarcity. For a country that depends on oil earnings to boost its foreign exchange reserve, the current trend in higher oil prices is yet to reflect in its foreign exchange earnings.

The country in a bid to cushion the direct effect of high oil prices on its citizens, subsidizes petroleum products. Given depressed government revenue, the subsidy is one cost the government cannot afford anymore.

In May 2021, the Nigerian National Petroleum Company (NNPC) announced it won’t be remitting funds to the federation account because of subsidy payments. Higher oil prices in the international market increases the landing cost of petroleum products in Nigeria. This has a direct effect on the price of subsidy. Though a higher oil price is positive for Nigeria’s foreign exchange reserve, the oil subsidy bill puts a cap on the country’s foreign exchange reserve growth.

What do we expect in the Nigerian economy for Q3 2021?

Going into Q3 2021, the direction of the Nigerian economy will be dictated by the actions of the major actors in the country.

On the monetary side, we expect the Central Bank of Nigeria to retain Monetary Policy Rates at 11.5% while rates on government securities trend higher. Given the country’s foreign exchange challenge, we expect an increase in local debt in Q3 2021 to cater to the current budget deficit. Higher foreign exchange earnings from the sale of crude oil may lead to a bit of liquidity in the foreign exchange market.

On the fiscal side, the government in a bid to ramp up revenue will try to broaden the tax net to include previously ignored sectors. Swift regulatory actions in the form of fines on corporates that defy government rules will also come to play.

Major threats to the Nigerian economy going into the rest of 2021 are: a resurge of the pandemic and the use of monetary policy tools in the US. A 4th wave of the pandemic directly impacts oil prices, while an increase in interest rates in the US eats into Foreign Portfolio Investment (FPI) coming into the country and increases Nigeria’s import bill.

What does this mean for you as an Investor?

No doubt, there are challenges to growth in the Nigerian economy, however there are also numerous opportunities investors can take advantage of. In Q3 2021, investors should look out for opportunities in sectors that thrive despite the economic headwinds. Identifying the sectors that contribute the most to the growth of the economy in these times is a good place to start. Some examples include the agriculture value chain, e-commerce, fin-tech, logistics, ed-tech and some lifestyle sectors

Given the foreign exchange situation and a possible tightening of monetary policy in the US, investing in dollar denominated assets provides a hedge against the continuous depreciation & devaluation of the Naira.

Investors can also take advantage of higher rates on government securities , if rates are raised by the CBN, to boost the liquidity of their portfolios.