On this week’s episode of Free Lunch by The Peak, we sat down with Roger Aliaga-Díaz, Vanguard's Global Head of Portfolio Construction and Chief Economist for the Americas, to talk about his outlook for the economy in the year ahead and how the last cycle is shaping his thinking.
Q: What do you see for Canada's economy in the year ahead?
A: The Canadian economy has been already experiencing the impact of the higher rates from the Bank of Canada. We saw Q3 negative. We expect Q4 also to come negative and that probably will persist through the first half of the year.
Q: How are markets making sense of what's happening in the economy? Have any investment themes emerged for 2024?
A: The question has been, as the central banks cut rates, at what level are we going to settle? What will be the normal level of interest rates going forward? Are we going back to the pre-COVID era of zero rates? Or have we entered a new regime of higher rates that is here to stay? Our view is that it is the latter. We call it the return to sound money. We expect that beyond the recession and beyond 2024, inflation-adjusted interest rates will be positive. And that's a very important development for investors and for savers in financial markets.
Q: What are the big factors that will drive that longer-term elevation of rates?
A: The interest rate is really the balance between supply and demand forces in the capital markets, and after COVID, we saw many things changing. The most important driver of this is really on the demand side. The biggest borrowers of capital globally are governments, and budget deficits are a key driver that is very different from the previous decade. We saw during COVID governments step up to help their economies recover from the pandemic with large stimulus programs. Debt globally jumped by almost 20 percentage points of global GDP.
But going forward, we're seeing defence budgets increasing across most economies. We saw a commitment to green investments that will be funded publicly as well. And the whole process of strengthening supply chains, particularly in strategic sectors, is becoming more common. Those are fiscal priorities that have become almost national strategic priorities.
So that is pushing rates higher on a permanent basis.
This interview has been edited for clarity and length. Listen to the full conversation here.