As we get ready to move into 2019, the macro backdrop points to a less favorable mix of growth and inflation at a time when central bank balance sheets are starting to shrink. Even if growth is simply returning to trend, the year ahead is likely to be more challenging—with populism and China looming as key downside risks.

Optimism Gives Way to Volatility During 2018

Entering 2018, there were high hopes that the global economy had finally shaken off the hangover from the global financial crisis (GFC) a decade earlier. Most cyclical indicators looked promising, and growth was highly synchronized across countries and regions.

This optimism didn’t last long. As early as the first quarter, cracks started to show in European economic data—cracks that have since spread to countries beyond Europe. Even stronger-than-expected US growth hasn’t been enough to keep global growth estimates from shifting to the downside. More worrying still, there’s now growing concern about China.

Why has the global economy slowed, and what lessons can we learn as we turn our thoughts toward 2019?

Slower Growth Ahead, but Simply Returning to Trend-Like

2017 was the first year since the GFC in which the global economy wasn’t rattled by some form of economic, political or financial shock. The relative calm helped growth move onto a firmer footing. Monetary policy remained supportive and the global trade multiplier was rising sharply, helping output growth to move to above-trend rates in many countries.

This year, those positive factors have gradually been eroded. The global trade multiplier has fallen back, and last year’s calm backdrop has given way to a period of advancing populist pressure—most notably in the form of rising trade tensions. And even though the overall mix of global policy still favors expansion, a shift toward more fiscal stimulus and less monetary accommodation in the US has pushed US Treasury yields and the US dollar higher. This situation creates headwinds for emerging markets.

Against this backdrop, it’s not surprising that growth has slowed almost everywhere outside the US. But it’s important to keep things in perspective: What we’re talking about for now is not a sharp slowdown or recession. It’s just growth returning to a more trend-like pace.

For many investors, a key question is what this step down in the pace of global growth is likely to mean for inflation and central banks?