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The biggest risk to the global economy—and the markets—from the Omicron Covid-19 variant will come through restrictions that governments put in place and the way they adjust their fiscal and monetary policies. The fallout probably will create disparate market reactions, adding to the case for diversification.
Take China, for example. Before this latest pandemic twist, some economists had expected China to ease up on its zero-tolerance policy toward Covid to ease the strains on its slowing economy—and to help the global economy.
But the Omicron variant probably will push Chinese policy makers to double-down on the restrictive policies—localized lockdowns, tighter restrictions on regional traffic and the possibility of port shutdowns, according to Neil Shearing, group chief economist for Capital Economics.
China could maintain its zero-tolerance policy for at least the next six months, Rory Green, TS Lombard’s head of China and Asia research, told Barron’s in an email. Looking to 2022, Citi’s strategists forecast a deeper, longer slowdown in China as a near-term global concern.Europe has already starting imposing restrictions related to the Delta variant. If Germany, which Gavekal Research’s Tan Kai Xian considers more susceptible to stricter Covid-related restrictions, takes this approach, it could face deflationary pressures while other countries wrestle with a spike in inflation.
The U.K. and the U.S. are less likely to impose severe restrictions, having adopted what Shearing described as a “learning to live with the virus.” Indeed, JP Morgan Funds chief global strategist David Kelly wrote in a note to clients on Monday that many have “simply mentally moved on” from the pandemic and won’t accept further restrictions while others have adapted. While he thinks travel and entertainment could “remain somewhat depressed” if a new wave emerges, other parts of the economy may not see much disruption.
But one area that could be a bigger source of trouble and feed inflation: strained global supply chains. “A virus-related surge in goods spending, or port closures, would exacerbate existing supply strains and add upward pressure to goods inflation,” Shearing wrote. “Likewise, a new, more dangerous, virus wave could cause some workers to temporarily exit the workforce, and deter others from returning, making current labor shortages worse.”
Most analysts expect the Federal Reserve to stay on track to raising interest rates unless the Omicron variant triggers widespread—and significant—economic damage.
China, however, is headed in the other direction. With its economy unlikely to benefit from the double-digit growth in exports, industrial production, and real estate that helped last year in the throes of the pandemic, Green said, Beijing probably will need to be more proactive with fiscal and monetary policies to manage its slowdown.
Easier monetary and fiscal policies could offer a reprieve to China’s battered markets, with the
iShares MSCI China ETF
(MCHI) down 19%, compared with the 7% gain for the
iShares MSCI EAFE ETF
(EFA) so far this year.
Though U.S. stocks have started to recover after a sharp selloff on Friday, analysts cautioned that the U.S. market is priced for protection and vulnerable to corrections. The divergence in approach to Covid and fiscal and monetary policies also will probably play out in diverging performance in global markets—a reason that diversification may become a buzzword for next year.
Write to Reshma Kapadia at reshma.kapadia@barrons.com
Read More: Omicron Risks: What the Covid Variant Means for Inflation and Global Markets