Powell-ing Toward Fed Rate Hikes
Recent history, from the taper tantrum of 2013 to 2018’s stocks selloff, shows how a tightening Fed spells trouble for markets.

Adding to risks this time around are already-elevated asset prices. The S&P 500 Index is near bubble territory, and home prices accelerating away from rents suggest housing-market risks are bigger than at any time since the sub-prime crisis back in 2007.

Bloomberg Economics modeled what happens if the Fed delivered three hikes in 2022 and signaled it would keep going until rates reach 2.5%, pushing Treasury yields up and credit spreads wider. The result: a recession at the start of 2023.

Fed Liftoff And Emerging Markets
Fed liftoff could mean a crash landing for emerging markets. Higher U.S. rates typically boost the dollar and trigger capital outflows—and sometimes currency crises—in developing economies.

Some are more vulnerable than others. In 2013 and 2018 it was Argentina, South Africa and Turkey that suffered most. Add on Brazil and Egypt—call them the BEASTs—to get the list of five at-risk economies in 2022, based on a range of measures compiled by Bloomberg Economics.

Saudi Arabia, Russia and Taiwan, with little debt and strong current-account balances, appear least exposed to capital flight in the emerging world.

China Could Hit A Great Wall
In the third quarter of 2021, China’s economy ground to a halt. The accumulated weight of the Evergrande real estate slump, repeated Covid lockdowns and energy shortages dragged annualized economic growth down to 0.8%—way below the 6% pace to which the world has become accustomed.

While the energy crunch should ease in 2022, the other two problems may not. Beijing’s zero-Covid strategy could mean omicron lockdowns. And with demand weak and financing constrained, property construction—which drives about 25% of China’s economy—may have further to fall.

Bloomberg Economics’ base case is for China to grow 5.7% in 2022. A slowdown to 3% would send ripples around the world, leaving commodity exporters short of buyers and potentially derailing the Fed’s plans, just like the Chinese stocks crash did in 2015.

Political Turmoil In Europe
Solidarity among leaders who back the European project, and European Central Bank activism to keep government borrowing costs under control, helped Europe weather the Covid crisis. In the year ahead, both could fade.

A fight over the Italian presidency in January could upend the fragile coalition in Rome. France heads to the polls in April with President Emmanuel Macron facing challenges from the right. If euro-skeptics gain power in the bloc’s key economies, it could shatter the calm on European bond markets and deprive the ECB of the political support required to respond.