Read our latest forecasts for investment returns and our region-by-region economic outlook…

Our latest forecast changes include expectations for:

• Faster economic growth (+5.3 per cent) in China this year;

• A higher peak, 3.5 per cent, in the European Central Bank’s key interest rate;

• A contraction of –0.5 per cent to –1 per cent in the euro-area economy this year; and a lower peak, 3.85 per cent, in the Reserve Bank of Australia’s interest rate target.

The views below are those of the global economics and markets team of Vanguard Investment Strategy Group as of 19 January 2023.

Vanguard’s outlook for financial markets

Our 10-year annualised nominal return and volatility forecasts are shown below. They are based on the September 30, 2022, running of the Vanguard Capital Markets Model® (VCMM). Equity returns reflect a 2-point range around the 50th percentile of the distribution of probable outcomes. Fixed income returns reflect a 1-point range around the 50th percentile. More extreme returns are possible.

Region-by-region outlook

Australia

The Reserve Bank of Australia (RBA) lifted its cash rate target in February by 25 basis points to 3.35 per cent, the ninth rate rise since May 2022. In its monthly meeting minutes, the central bank noted it expects inflation to decline this year due to both global factors and slower growth in domestic demand.

• We’ve lowered our forecast for the RBA’s terminal rate to 3.85 per cent from 4.35 per cent, still an above-consensus view. But we believe the bank will keep its cash rate target at the terminal rate for longer, implying a lower probability of rate cuts in 2023.

• Inflation is likely to peak soon around 8 per cent as rising interest rates dampen domestic demand and fuel prices moderate. The tight labour market and higher wage growth likely will keep inflation above 4 per cent through 2023.

• We still forecast 2023 economic growth of about 1.25 per cent, lower than the 1.8 per cent consensus estimate. Growth should slow as higher mortgage payments and lower home prices dampen consumption and as post-pandemic government spending normalises. We place the chance of recession in 2023 at 40 per cent.

China

We had expected a gradual exit from China’s zero-COVID approach, but policymakers now appear adamant about removing all COVID controls, even as the virus overwhelms China’s health system. That development and stronger-than-expected economic data lead us to upgrade our forecast for full-year 2023 growth from 4.5 per cent to 5.3 per cent.

Globally, a normalising Chinese economy that reduces the risk of global supply chain disruptions could combine with fading demand in developed countries to drive goods deflation. Stronger tourism and transportation activity, on the other hand, likely would be inflationary.

Euro area

When the European Central Bank (ECB) lifted the interest rate paid to banks on overnight deposits by 50 basis points, to 2 per cent, in December, policymakers forecast that inflation would remain above their 2 per cent target through 2025. The ECB said it expects to raise rates “significantly further, because inflation remains too high and is projected to stay above the target for too long.”

The implications for economic growth are negative, and we see elevated risks for a double-dip recession toward the end of 2023 and into 2024, given lagged effects of monetary policy and a potentially more challenging environment for procuring energy ahead of the 2023–2024 winter.

United States

The Federal Reserve’s choice of a 25 basis-point interest rate hike at its 1 February policy meeting is less important than the rate peak it ultimately chooses and how long the peak is maintained. We expect the federal funds rate to reach 5 per cent–5.25 per cent during the first quarter, and that policymakers will target that level for the rest of 2023.

We still assign a 90 per cent probability to a U.S. recession in 2023 and view a path to a soft landing as exceptionally narrow. We expect only marginal growth, around 0.25 per cent, for the full year.

United Kingdom

The United Kingdom likely, narrowly avoided a recession in 2022. The need for tighter monetary policy amid elevated inflationary pressures is one reason we believe the United Kingdom economy will enter a recession in 2023.

We believe a U.K. recession will be deeper and longer than one in the euro area. We continue to expect GDP to contract 1 per cent–1.5 per cent in 2023.

Emerging markets

Investor expectations for rate cuts in Latin America in 2023, implied by market pricing, are consistent with our view that slowing global growth will weigh on growth in emerging markets. In emerging Asia, where exports have begun to slow, we doubt central banks will deliver the rate hikes that markets expect.

Inflation likely has peaked in Latin America and neared its peak in emerging Asia, though not yet in emerging Europe, where challenges reflect those of the continent’s developed markets.

Vanguard Australia