On My Mind: A Tale of Two Recoveries

While a global recovery has now become the base case for financial markets, differences between countries and regions on the path toward normalcy are significant and seem set to widen. In the latest edition of our Fixed Income CIO Sonal Desai’s “On My Mind” series, she evaluates the differences in policy decisions, both on the fiscal front as well as in vaccination campaigns, and how the resulting differing paths will shape the map of investment opportunities.

The global recovery has gotten underway, but it also promises to become increasingly uneven across regions and countries—with important investment implications. The likely divergence between the United States and Europe stands out as especially significant.

US President Joe Biden’s administration has outlined another $2.3 trillion spending package, coming fast on the heels of the $1.9 trillion stimulus approved last month—which in turn followed about $3 trillion in 2020. This represents an extraordinary amount of stimulus for an economy already set to roar back, compounded by an extremely loose monetary policy. As I argued in a previous commentary, this US stimulus looks like overkill and might well have a bigger impact on inflation than the US Federal Reserve (Fed) hopes for, but there’s no doubt that it will give a strong short-term boost to growth.

The European policy response pales by comparison and remains bedeviled by internal divisions. The European Recovery Package represents an important step toward region-wide fiscal stimulus, with €750 billionalmost equally split between loans and grants. But, it’s a lot smaller than its US counterpart, and was only agreed upon after very contentious negotiations among eurozone member states.

To make matters worse, Germany’s Constitutional Court has now questioned the legality of this fiscal support plan. This is not the first time that Germany’s highest court argues that key common eurozone policy programs are incompatible with the laws of its strongest member country. The Court’s objections will probably be once again overcome, but they will still fuel markets doubts on the eurozone’s economic policy strength.

Similarly, the European Central Bank (ECB) has been much less clear and decisive than the Fed in signaling to financial markets that it will maintain a very supportive monetary policy stance for the foreseeable future. Again, internal divisions within the ECB’s Governing Council play a role and could undermine market confidence.