Navigating Central Banks’ Outlook: West-East Divergence to Continue

2023 has been a tumultuous year for global economies. As mounting geopolitical instability continues to impact market uncertainty and drive inflationary pressures, the outlook for central banks in 2024 remains uncertain.

Russia’s February 2022 invasion of Ukraine sparked market volatility that was felt the world over. Over a year and a half later, global economies are still contending with ongoing market volatility resulting from rising inflation and an increased cost of living. Most recently, a serious escalation in the Israel-Palestine conflict has compounded concerns and will likely impact the decisions made by central banks in the coming months.

What remains clear is that there is continued divergence between the East and West – and this is set to persist into next year. Indeed, while the Federal Reserve (Fed) and European Central Bank (ECB) are expected to reduce interest rates in 2024 following a year of consistent hikes, the Bank of Japan (BOJ) and People's Bank of China (PBOC) will struggle to contend with stagnating economic recovery and ongoing currency issues pertaining to a strengthened dollar.

In the US, Consumer Price Index (CPI) figures for September indicate that inflation is continuing to decrease. However, whether or not the Fed will hike interest rates for a final time before the end of the year will depend largely on private market performance, as well as the outcome of escalating tensions between Israel and Palestine.

Looking ahead, interest rates are expected to fall in 2024, with the Fed’s most recent projections indicating a drop of 50 basis points (bps) in the coming year. However, based on our economic outlook, Natixis CIB expects cuts could in fact be far more aggressive – forecasting a reduction of up to 150 bps by the end of next year.

In Europe, it is unlikely that the ECB will hike interest rates again before the end of the year and it is expected to cut rates by around 50 bps in 2024. While this is forecasted to take place as early as June, according to our outlook – and based on the stickiness of inflation – we believe the ECB will hold off on making any moves until around September, after the Fed has started its own cuts.

For Asian economies, the onus will be on weathering the impact of a persistently strong dollar and flagging economic recovery.

In Japan, the nominal wage has continued to stagnate, lowering confidence that it will achieve its sustainable 2% inflation. As the BOJ maintains its dovish stance, pressure on the Yen continues to increase, prompting speculation that Japan will once again intervene in the currency market to stop further depreciation.

In China, the PBOC faces similar issues, though capital controls mean the Renminbi (RMB) will be able to maintain some level of stability without central bank intervention. That said, the PBOC has carried out several interest rate cuts since June and, should economic growth continue to stall, these could well continue.

As tensions between Israel and Palestine continue to mount, the potential of a more widespread conflict threatens to further disrupt the global economy.

Notably, the impact on the oil market could have considerable consequences. Iranian oil exports have risen considerably since the outbreak of the Russia-Ukraine war, reaching record highs in 2023 and currently sitting at over 2 million barrels per day (bpd). Should Iran increase its involvement in the escalating Israel-Palestine conflict, the US could impose harsher sanctions on the country, leading to a considerable drop in output.

Given supply is already extremely tight, the outcome of such a move could see another surge in oil prices, leading to considerable volatility in financial markets and, further down the line, a drop in headline CPI. That said, for both the ECB and the Fed, it is the core metrics that act as a gauge for inflation. As long as these remain stable (or decrease), it is likely that both central banks will hold off from making any significant decisions for the time being.  

Asian markets, on the other hand, do not have the luxury of time. Depending on the Fed’s decisions, the dollar could further strengthen, placing greater pressure on both the Yen and RMB. As such, the BOJ will need to continue to support its currency until the path ahead becomes clearer.

Based on current metrics, growth in Europe is expected to remain subdued for the final quarter of the year, with some countries already having entered a recession. While there may be a small pickup at the start of 2024, escalating geopolitical tensions present an upside risk to commodities, and growth is expected to remain sluggish for 2024 – likely sitting at around 0%.

Meanwhile, in the US, a slowdown remains a strong possibility, with growth predicted to drop to around 0.5% in Q4 from around 3% during Q3. This is because private consumption is expected to decrease markedly towards the end of the year alongside a drop in public spending.

Looking to next year, economic growth forecasts vary considerably, with the Fed anticipating an average rate of growth of 1.5% for the year, while governors predict the number will lie somewhere between 0.4% to 2.6%. The key metric will be whether there is a growth in private consumption. However, given persistent global economic uncertainty, economists anticipate the figure will stand much closer to the lower end of the band.

Should the US avoid a slowdown, economies across the world could suffer at the hands of a strengthening dollar. This would spell bad news for emerging markets in particular, who would face dramatically heightened debt costs. For the moment, however, all eyes will be on the developing Israel-Palestine conflict and how the events that play out over the coming weeks and months will impact upcoming financial decisions.