Simon Ballard, chief economist at First Abu Dhabi Bank, spoke to Moneycontrol about the US Federal Reserve’s rates, China, and opportunities for India and the Gulf Cooperation Council amid challenging global macros. Edited excerpts:

What were your takeaways from the recent Fed meeting at Jackson Hole? Will there be any change in the September meeting?

It was a very interesting speech that was largely as anticipated. If you look at it in the context of the aggressive tightening cycle that the Fed has taken over the last 16-18 months, then it would be wrong to assume that the Fed is now going to pivot prematurely towards a more dovish stance. The fact that he is advocating a data-dependent meeting-by-meeting approach to the monetary policy going forward is correct. It is my view that the Fed rate is at its peak and that we will now be at a prolonged pause. It is important that he keeps that bias in his narrative so he can convince markets that they are going to remain aggressively on top of the inflation story.

I think they will leave it unchanged in the September meeting. The risk is to the upside. But I think if you look at the lag effect – there is a 12- to 18-month lag between policy implementation, the full effects of the policy happening in the economy, and inflation coming down. I think the Fed will be prepared to leave the rates where they are and let that lag effect kick in. Jerome Powell has been talking about needing to allow the previous medicine to take effect but at the same time, watching hawkishly and carefully and reminding us that they can increase the rates if needed. But now I think the markets and numbers will work in their favour and they can stay where they are for a prolonged period.

How far are we from the 2 percent target of the Fed Chairman and how sacrosanct is that visibility of 2 percent for rates to come off?

I think the 2 percent is something that the central banks will be reluctant to relinquish. The structure of inflation will remain higher than during the pandemic. If we look at the difference between headline inflation and core inflation, then even as food and energy prices, the base effect looks more favourable. Core inflation remains higher. Wage growth is driving inflation in many parts of the global economy. I think for that reason, a 2.5-3 percent long-term, medium- to long-term inflation expectation is what we should be looking for now, rather than a resolution return to 2 percent. In the absence of recession, 2 percent will probably be a difficult target to get to in the near term. I think central banks will continue to talk 2 percent, but be more than happy to see us down in the 3 percent territory, given how high and costly inflation has been over the last couple of years.

Is recession completely off the table?

If the Fed continues to talk aggressively in terms of additional hikes in September or subsequent months, wanting to firmly get inflation down to that of 2 percent level, then the risk is that it will trigger recession. If we get the Fed pausing now, talking more data-dependent, meeting-by-meeting, then I believe a soft landing scenario is feasible. While inflation remains structurally higher than before, we will avoid recession in the medium term. But that’s not to say that we’re not going to go through a slower growth period. Clearly, we are going to see that and we’re starting to see some weakness coming into the labour market. But nevertheless, the spectre of recession is still very much there and the Fed has to be very careful how it trends going forward.

After an escalation in interest rates over 11 months, there haven’t been any financial accidents except for the SVB crisis. Is this an unfounded fear?

This is going to come down to the Fed and other central bank’s narrative over the coming months. If they continue to push the envelope towards tighter monetary policy in order to be convincing on inflation, then from a debt service perspective, many of the companies over the last couple of years that have taken out financing at a zero rate are going to feel that increasingly painful in terms of their monthly outgoings. Again, that’s when central banks perhaps risk fueling and driving a policy accident. Again, it comes back to that lag between monetary policy implementation and the full effects being felt in the economy. It’s only after the event that central banks realise that they’ve gone too far and therein lies the key risk that we now need them to be more data-dependent, more nuanced, more idiosyncratic in their meeting-by-meeting approach in order to avoid that accident.

Perhaps in Europe it’s a greater risk than we’re seeing in the US. If we look at the mortgage market in the UK, we have a big transition between now and the early part of 2024 from a fixed-to-floating rate. So all those short-term fixed rate mortgages that will reset under a floating rate liability much higher than they were then, there’s a big default issue perhaps on the back burner in the UK. These are one of the many considerations that we will be looking at and that the central banks need to be considerate of over the coming quarters

What is the sense you are getting on China? At what time would you call the bottom in China?

More stimulatory support will be needed from the government… the manufacturing PMIs are likely to dip further into the red from 49.3 to 49.0 when that data is released on Wednesday. That’s highlighting continued “anemic” qualities of the Chinese economy reopening. We got too optimistic about the Chinese economic recovery post the pandemic, but clearly they are struggling. More stimulus and support would be needed over the next couple of months.

Rather than looking at the bottom in China, we will have to look at calling the bottom in the global economy and if the Fed pauses in September and continues to talk hawkishly but talks about leaving rates where they are and being more data dependent, perhaps that soft landing scenario looks more feasible, in which case the low point for China is probably within sight, but we are probably not there yet. But if the Chinese government does step up with support, that will probably be late Q3 or early Q4 for China. All of it depends on how aggressive the Fed and the central banks are. If we continue to tighten, the reverberation felt throughout the global economy including China will be a lot more painful for longer.

What is your view on India’s growth and the impact of any deceleration in the global economy?

Compared to the situation in the global economy, when it comes to India, it is far more optimistic and buoyant. We have seen the GDP pushing higher, growth at around 6, 6.5 percent. That could be around 7 percent in 2023-24. We have seen improvements in external accounts due to falling import bills and oil prices easing. So, I think it is easy to have a sort of stronger constructive view on the India macro outlook at this stage, but that will be dependent to a certain extent on global metrics, and if we do get a sort of softer view on recovery and a harder landing scenario playing out in the US, then that will reverberate into India as well. For the time being, economic activity is gaining momentum amid global uncertainties, which will put it on a pedestal. Here in the GCC, we are also seeing opportunities to growth. Alongside India, both regions will continue to benefit over the coming quarters.

If you look at the last three years from an equity market standpoint, where are we from a risk-reward perspective?

The volatility over the last three years has been extreme and we have gone from pockets of despair to pockets of complete optimism as central banks have stepped forward with their balance sheets. In terms of risk-rewards, I think where we are at is levels where we will still have attractive valuations out there in the market – India, the GCC region; sectorally selective through the UK and the US, very much more idiosyncratic and bottom-up in approach in terms of investment strategies and again on the basis of a soft landing playing out in the US, from a risk-reward perspective, there are gains still to be had but definitely not the outsized returns that we saw through 2021, when stimulus really kicked in. It is a question of being selective and idiosyncratic in your approach. When it comes to India, it is definitely a strong recovery story in terms of macroeconomics and pointing towards potential 7 percent GDP growth over the next two years where it will stand out as a bastion of strength against those global uncertainties.