Rapid and widespread inflation, caused by supply-chain issues during the pandemic and higher demand for goods and services as interest rates fell, has clobbered the global economy over the last three years. Resulting interest rate rises to help get inflation under control have further challenged economies.

Countries around the world are focused on recovering from these challenging economic conditions, but recent performance and future expectations have been mixed. The United States looks set for a soft landing, while the Euro Zone grapples with persistently higher energy prices and languishing growth. In this article, we highlight the central factors causing this disparity and what it means for the New Zealand outlook.

Before diving into the key contributors to economic growth expectations, it’s worth illustrating just how strong the US economic growth outlook is compared to other key economies. Back in January 2023, Consensus forecasts showed that the Euro Zone economy was actually projected to grow 0.1 percentage points faster than the United States (see Chart 1).

However, growth expectations for the United States have become increasingly optimistic over the second half of 2023 and into 2024, while expectations for growth in the Euro Zone have continually declined. As of January 2024, the United States economy is expected to grow 1.4%pa over the 2024 calendar year, 0.9 percentage points ahead of the Euro Zone.

This divergence in economic fortunes has many reasons, but three key drivers help explain some of the different outcomes.

The United States poured significantly more fiscal stimulus into their economy compared to Europe during 2021, reducing the short-term economic hit and contributing to a stronger post-Covid rebound.

Financial Times reported in March 2021 that the United States Covid-19 fiscal response amounted to 12-14% of GDP. In contrast, fiscal support measures during the pandemic across Euro Zone countries, including the EU’s €750 billion recovery fund, made up 6-8% Europe’s GDP.

The distribution of relief also varied between the US and Europe. Both the US and many European countries increased spending on benefits, with Europe bolstering preexisting social welfare, while the US boosted benefits for those laid-off. But while Europe paid companies to keep workers on and extended loan guarantees to support businesses (which would ultimately need to be paid back), the US offered direct payments to households,. The differences in approaches saw a worse hit to unemployment in the US compared to other developed economies (see Chart 2), but also enabled more cash-in-hand for households.

This more direct and sizeable approach from the US gave people the ability to keep spending, despite (and in fact contributing to) high inflation – and is still recognised for supporting the country’s robust consumer spending results.

New Zealand’s fiscal response to Covid-19 was concentrated around support to keep people employed to their business (through the Wage Subsidy) alongside benefit support (the COVID-19 Income Relief Payment and doubling the Winter Energy Payment) plus general investment stimulus. However, New Zealand considered but directly rejected direct cash payments (often discussed as “helicopter payments”) during the pandemic.

In addition to COVID-19 supply chain disruptions, the Russian invasion of Ukraine and resulting G7 sanctions on Russia’s oil and gas exports in 2022 sent energy prices skyrocketing. After peaking in mid-2022, energy prices trended down in the United States, but continued climbing across the Euro Zone.

On average over 2019 (pre-pandemic), European natural gas prices were just shy of double US natural gas prices. The margin blew out in 2022, and in August 2022 when prices peaked in Europe, European prices were nearly 8 times higher than US prices (see Chart 3).

At the start of 2024, European prices were tripe US prices, the smallest margin since April 2021.

Crucial to the US’s resilience against these rising prices is its relative energy independence. Russia has historically supplied 30-40% of natural gas imports in Europe, whereas just 8% of all US petroleum imports in 2021 were Russian-supplied.

Production of oil in the United States has increased massively since 2022, bringing them to the top of the world’s energy-exporting nations. Less dependence on Russian oil has helped to insulate the US from supply shocks, and helped them to lower prices by boosting supply. Europe has been comparatively more vulnerable, with sanctions against Russia dramatically reducing their oil and gas supplies, putting sustained upward pressure on prices.

Although the worst of energy cost inflation in Europe has passed, prices remain high and the region is still vulnerable to shocks, including OPEC production cuts. Disruptions in the Red Sea are further restricting oil supply in Europe, setting the stage for persistently high energy costs over 2024.

Accelerating energy costs have prolonged Europe’s battle against inflation, risking interest rates remaining higher for longer. Higher household utility costs are also forcing a reprioritization of budgets, leading to weaker demand.

The third key factor behind economic resilience in the US is its robust labour market. Both earnings and employment data from the US have outperformed market expectations, with just over 350,000 jobs added in January 2024 (see Chart 4).

Strong consumer spending in the US, fuelled by pandemic-era payments, has supported business activity – the resulting healthy demand for labour has bolstered employment, further stimulating spending in a positive cycle. Although some of this jobs growth is a catch-up from mass lay-offs over the pandemic, rising immigration is making a key contribution to larger payrolls.

Like New Zealand, the US has benefitted from simultaneous labour market tightness and strong employment growth, which keeps wages and business activity high. The US will face a similar problem to New Zealand over 2024, as resilience in the labour market risks enough upward pressure on wages that interest rates may need to remain higher for longer.

Reflecting on the economic trajectories of the United States and Europe, it is clear that crisis management and fiscal policy decisions play pivotal roles in shaping economic outcomes. We will continue to monitor the development of economic trends in Europe and the US, using these insights to better understand how the post-Covid recovery pathway in New Zealand could unfold. Trends across these major economies also have important implications for global growth and trade dynamics, which in turn will impact New Zealand’s economic outlook.