UBS 2022 Strategy & Outlook - 211110 - 071116

ab YES
Power
UBS
ed by
Evidence L
ab Global Research | 8 November 2021
Global Economics & Markets Outlook 2022-2023 Economics

Global
For our pick of top charts & ideas, see accompanying summary 'The Skinny '22-'23'
Arend Kapteyn
Economist
From early to late cycle in 15 months
arend.kapteyn@ubs.com
As befitting a global pandemic, the recession in GDP growth was not only the most +44-20-7567 0531
internationally synchronised of the last 40 years, the rebound is also setting speed
Bhanu Baweja
records. We are just one year away from closing the gap to the pre-pandemic trend, Strategist
and if the current pace of employment improvement is maintained, the global bhanu.baweja@ubs.com
economy will start to look increasingly 'late cycle' by the second half of next year. +44-20-7568 6833
Conditional on continued 'expenditure switching', and bottlenecks easing from
Tao Wang
Q1, we see global growth running at +7% into year-end, stepping down to 5% in Economist
H1-22 and then 3½% late next year as we run out of labour market slack. We model wang.tao@ubs.com
three alternative scenarios as well: (a) a mutant virus that evades vaccines, (b) a +852-2971 7525
structural increase (100bp or higher) in inflation, and (c) an accelerated recovery.
Keith Parker
Strategist
Through 20 short essays we address the big questions—summary on p. 13-15 keith-j.parker@ubs.com
Here is a sampling: we show (i) how this cycle is different from all other recessions in +1-212-713 3296
the prior 40 years for 47 countries; (ii) why ERP helps forecast returns better than Reinhard Cluse
cyclically-adjusted P/Es, and why it's not all good news; (iii) why wage-price spiral Economist
arguments are largely a red herring; (iv) the impact of sustained inflation or stagflation reinhard.cluse@ubs.com
on returns; and (v) what the global impact of a more severe downturn in China is. +44-20-7568 6722
Michael Cloherty
Equities: Growth-Liquidity mix worsens. S&P 500 peaks at 5,000 in Q2 ‘22 Strategist
We see S&P 500 earnings coming in 9-10% above consensus till Q2, which is when mike.cloherty@ubs.com
we expect the index to reach a peak at 5,000. Subsequent earnings downgrades and +1-203-719 4281
higher real rates should make for a derating towards 4,850 by end-22. With few Jonathan Pingle
liquidity headwinds Europe should outperform US over the next 3-6 months, but fall Economist
behind as revisions turn. We see Stoxx 600 at 520 end ’22. Value's structural jonathan.pingle@ubs.com
challenges are set to return as inflation drops sharply from Q1 ‘22. Our simulations +1-212-713 2000
suggest that sustained inflation, even if mainly demand-driven, will see equities lose Manik Narain
10-15% cumulatively over three years. These losses likely amplify to 40-50% in the Strategist
unlikely event of 'stagflation'. Cheap skew on small-cap options provides manik.narain@ubs.com
opportunities to hedge. +44-20-7568 3635
Rafael De La Fuente
Fixed Income: US 10y to 2.1%. Real rates up most since ‘13. Sell EU inflation Economist
rafael.delafuente@ubs.com
We see US 10y real rates rising by 100bp to -10bp next year. Modestly lower inflation
+1-203-719 7127
breakevens would mean a smaller rise in nominals, taking them to 2.1% at end-22.
Front-end rates are dislocated from central bank guidance, particularly so EUR and James Malcolm
CHF rates. But belly and long-end yields should rise as a slower but longer hiking path Strategist
james.malcolm@ubs.com
comes into view. In credit, we see good risk-reward now in Asia HY; prefer US Levered
+44-20-7568 8924
Loans to US IG.
Edward Teather
FX: Fade EUR weakness and CNY strength. GBP, CAD & JPY likely winners Economist
edward.teather@ubs.com
There are some signs of FDI and portfolio outflows from the US accelerating as the +65-6495 5965
cycle deepens and broadens. We’d caution against a bearish EUR view, therefore.
Matthew Mish, CFA
Helped both by growth and improving carry, GBP and CAD should outperform.
Strategist
China's current account remains strong, but slowing export share and risk of capital matthew.mish@ubs.com
outflows argues in favour of modest weakness. +1-203-719 1242
EM: Equities underperform DM. ‘Taper-less tantrum’ a rates opportunity, not FX Alexandre de Azara
Economist
Less tight credit policy and stricter regulations getting priced should help end Chinese alexandre.azara@ubs.com
equities' sharp underperformance. Despite this, we see MSCI EM flat at 1,300 in ’22. +55-11-2767 6500
In '21, EM yields have risen more than they did in ‘13 despite US real yields not having
moved. EM inflation peak coincides with that of US inflation in Q1 ’22. Korea, Russia
& Brazil fixed income is more attractive than India & Indo. Slowing exports and higher
US rates should mean EM FX slide continues in ’22 with 4-5% GBI EM FX
depreciation.
This report has been prepared by UBS AG London Branch ANALYST CERTIFICATION AND REQUIRED DISCLOSURES,
including information on the Quantitative Research Review published by UBS, begin on page 291.
Contents
Key Economic Indicators . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7 Gyorgy Kovacs

Economist
UBS versus consensus . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8 gyorgy.kovacs@ubs.com
+44-20-7568 7563
Market Forecasts. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10 Rohan Khanna
Strategist
rohan.khanna@ubs.com
The Big Questions for 2022 . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12 +44-20-7568-0745
Alan Detmeister
Summary of Essays . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13 Economist
alan.detmeister@ubs.com
How worried should you be about a wage-price spiral? . . . . . . . . . . . . 16 +1-212-713 1222
Stuart Kaiser, CFA
What kind of returns will 'expensive' equities deliver?. . . . . . . . . . . . . . 18 Strategist
stuart.kaiser@ubs.com
Where are we in the cycle? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21 +1-212-821 2069
Will the S&P 500 finally tire in 2022? . . . . . . . . . . . . . . . . . . . . . . . . . . 25 Masamichi Adachi

Economist
masamichi.adachi@ubs.com
Sustained inflation & stagflation: Return impact and hedges . . . . . . . . . 28 +81-3-5208 6214
What would make the Fed dovish and the ECB hawkish in 2022? . . . . . 31 Jess Eagel
Strategist
Could China's property downturn threaten global growth? . . . . . . . . . 33 jess.eagel@ubs.com
1-212-713-2000
How much can US real yields rise? . . . . . . . . . . . . . . . . . . . . . . . . . . . . 35 George Tharenou
Economist
Is global capex about to take off? . . . . . . . . . . . . . . . . . . . . . . . . . . . . 37 george.tharenou@ubs.com
+61-2-9324 3520
How far are goods and services from normalising? . . . . . . . . . . . . . . . . 39 Lefteris Farmakis
Strategist
China equities: Un-investible or finally cheap? . . . . . . . . . . . . . . . . . . . 41 lefteris.farmakis@ubs.com
+44-20-7568 8305
Does the dollar cycle end with the business cycle? . . . . . . . . . . . . . . . . 43 Pierre Lafourcade
Economist
What lies ahead for EM rates after a 'taper-less' tantrum?. . . . . . . . . . . 45 pierre.lafourcade@ubs.com
+1-203-719 8921
Cryptocurrencies coming of age or going to seed? . . . . . . . . . . . . . . . . 47
Kamil Amin, CFA
Strategist
European equities: Operating leverage vs higher input prices – which will kamil.amin@ubs.com
+44-20-7568 2225
win out? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 49
Anna Zadornova
Economist
What is the outlook for global volatility? . . . . . . . . . . . . . . . . . . . . . . . 51
anna.zadornova@ubs.com
+44-20-7567 4212
Will APP anchor European yields as PEPP did?. . . . . . . . . . . . . . . . . . . . 53
Niall MacLeod
How are gold's drivers changing? . . . . . . . . . . . . . . . . . . . . . . . . . . . . 55 Strategist
niall.macleod@ubs.com
+852-2971 6186
Is the valuation gap between ESG haves and have-nots too wide?. . . . . 57
Felix Huefner
Will commodity currencies catch up in 2022?. . . . . . . . . . . . . . . . . . . . 59 Economist
felix.huefner@ubs.com
+49-69-1369 8280
Top Investment Ideas for 2022 . . . . . . . . . . . . . . . . . . . . . . . . . . 61 Philip Finch
Strategist
1. Long US Financials over US Industrials . . . . . . . . . . . . . . . . . . . . . . . 62 philip.finch@ubs.com
+44-20-7568 3456
2. Long China over India . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 63 Anna Titareva
Economist
3. Long Germany over Japan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 64 anna.titareva@ubs.com
+44-20-7568 5083
Global Economics & Markets Outlook 8 November 2021 ab 2

4. Long Growth over Value . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 65 Nick Nelson
Strategist
5. Sell 5y US TIPS. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 67 nick.nelson@ubs.com
+44-20-756 81960
6. Receive Dec-22 Euribor (fade ECB rate hike pricing) . . . . . . . . . . . . . 68 Tanvee Gupta Jain
Economist
7. Long US 5y5y inflation vs Europe 5y5y inflation . . . . . . . . . . . . . . . . 69 tanvee.guptajain@ubs.com
+91-22-6155 6070
8. AUD 2s5s flattener vs UK steepener . . . . . . . . . . . . . . . . . . . . . . . . . 70 Rohit Arora
Strategist
9. Sell CNY NEER. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 71 rohit-b.arora@ubs.com
+65-6495 5232
10. Long JPY vs CHF . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 72 Ning Zhang
Economist
11. Short EURGBP. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 73 ning.zhang@ubs.com
+852-2971 8135
12. Short USDCAD . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 74
Joni Teves
Strategist
13. Receive Jan-23 DIs. Long USDBRL. . . . . . . . . . . . . . . . . . . . . . . . . . 75 joni.teves@ubs.com
+65-6495 6851
14. Long USD and EUR vs ZAR. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 76
Samuel D. Coffin
15. Receive 3y Korea vs Pay 3y India rates. . . . . . . . . . . . . . . . . . . . . . . 77 Economist
samuel.coffin@ubs.com
+1-203-719 1252
16. Long 10 Russia OFZs vs IndoGBs. . . . . . . . . . . . . . . . . . . . . . . . . . . 78
Alexey Ostapchuk
17. Long Asia HY . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 79 Strategist
alexey.ostapchuk@ubs.com
18. Long US Levered Loans v US IG . . . . . . . . . . . . . . . . . . . . . . . . . . . 80 +44-20-7567 0239
Nicolas Le Roux
19. Buy Puts in US Small Caps . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 81 Strategist
nicolas.le-roux@ubs.com
20. Buy MSCI EM calls. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 82 +44-20 7567 0161
William Deng
21. European Financials. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 83 Economist
william-w.deng@ubs.com
+852-2971 6765
Alternative Economic Scenarios. . . . . . . . . . . . . . . . . . . . . . . . . 84 Artour Danilov
Strategist
Economic Outcome Ranges. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 85 artour.danilov@ubs.com
+44-20-7567 5203
Alternative scenarios for markets. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 89
Andrew Dubinsky
Economist
andrew.dubinsky@ubs.com
Regional Economic Views. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 98 +1-212-713 4670
USA & Canada . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 99 Alastair Pinder

Strategist
alastair.pinder@ubs.com
Latin America . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 115
+1-212-713 3430
Western Europe . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 141 Pablo Villanueva
Economist
Emerging Europe . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 190 pablo.villanueva@ubs.com
+1-212-713 4074
China. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 216 Vassili Serebriakov
Strategist
Asia ex China . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 227 vassili.serebriakov@ubs.com
+1-212-713 1850
Japan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 261 Robin Clements
Economist
Australia and New Zealand . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 271 robin.clements@ubs.com
+64-3-359 0602
Moritz Diller
Political Calendar . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 281 Strategist
moritz.diller@ubs.com
+41-44-239 89 22
Global Economic Research Contacts. . . . . . . . . . . . . . . . . . . . . 287

Andrea Casaverde
Global Strategy Research Contacts . . . . . . . . . . . . . . . . . . . . . 288 Economist
andrea.casaverde@ubs.com
+1-203-713-2515
Required Disclosures. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 291 Giulia Specchia
Strategist
giulia.specchia@ubs.com
Global Disclaimer . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 294 +61-29-324 2437
Nic Guesnon
Economist
nic.guesnon@ubs.com
+61-2-9324 2192
Roque Montero
Strategist
We would like to acknowledge Tulika Poddar, Garima Jaiswal, Sonam Jagga, roque.montero@ubs.com
Daksh Gupta, Arjun Varma, Chandan Kishore, Shyam Dontaraju and Mihir +1-203-719 2112
Phansalkar for assistance in preparing this report. Teck Quan Koh
Strategist
teck-quan.koh@ubs.com
+65-6495 4416
Jennifer Zhong
Economist
S1460516050002
jennifer-a.zhong@ubs.com
+86-10-5832 8324
Alireza Kharazi
Strategist
alireza.kharazi@ubs.com
+44-20 7567 8000
Go Kurihara
Associate Economist
go.kurihara@ubs.com
Sean Simonds
Associate Strategist
sean.simonds@ubs.com
+1-212-713 2851
Katharine Jiang
Economist
katharine.jiang@ubs.com
+852-2971 7004
Karen Hizon
Strategist
karen.hizon@ubs.com
+852-2971 6741
Aaron Luo
Economist
S1460520090002
aaron.luo@ubs.com
+86-21-3866 8887
Joao Toniato, PhD
Strategist
joao.toniato@ubs.com
+44-20-756 74657
Mary Xia, CFA
Strategist
S1460512040001
mary.xia@ubs.com
+86-10-5832 8508
Sutanya Chedda
Associate Strategist
sutanya.chedda@ubs.com
+44-20-7567 8155
Jiamin Shen
Strategist
jiamin.shen@ubs.com
+852-3712 3126

Global Economics & Markets Outlook UBS Research
Top Investment Ideas for 2022

Equities
1. Long US Financials over US Industrials
2. Long China over India
3. Long Germany over Japan
4. Long Growth over Value
Rates
5. Sell 5y US TIPS
6. Receive Dec-22 Euribor
7. Long US 5y5y inflation vs Europe 5y5y inflation
8. AUD 2s5s flattener vs UK steepener
FX
9. Sell CNY NEER
10. Long JPY vs CHF
11. Short EURGBP
12. Short USDCAD
EM
13. Receive Jan-23 DIs. Long USDBRL
14. Long USD and EUR vs ZAR
15. Receive 3y Korea vs Pay 3y India rates
16. Long 10y Russia OFZs vs IndoGBs
Credit
17. Long Asia HY
18. Long US Levered Loans v US IG
Sustained inflation hedge
19. Buy puts in US Small Caps
Accelerated recovery hedge
20. Buy MSCI EM calls

UBS Research THESIS MAP a guide to our thinking and what´s where in this report
Pivotal Questions Q: Where are we in the cycle?

Goods spending is at or above pre-pandemic trends in about half of all countries, while services
spending is below trend in all countries. Employment-to-population ratios are still 1½pp below their
pre-pandemic trend, with both goods and services employment generally falling short. However,
economic and market outcomes are generally significantly less dispersed than in prior recessions, and
employment, trade, investment and (house price and goods) inflation are all rebounding much more
quickly, consistent with output gaps closing over the next few quarters.
Q: Is Capex about to take off?

Investment has fallen half as much as consumption in this pandemic (the opposite of a typical
recession), and recovered much more rapidly, but the stock of capital is below where it would have
been without the pandemic. Forward-looking indicators for capex suggest firms may be responding
to bottlenecks, or extrapolating from the (temporary) expenditure-switching induced strong demand
(capex intentions in the US are at a 20y high).
Q: Should we worry about a wage/price spiral?

No. Although each 1pp decline in unemployment would tend to push up wages by 42bp (median for
our DM and EM sample), prices tend to increase much less (15bp on avg). Moreover, the feedback
from wages to prices is even smaller: 100bp of wage growth generate only 4bp of incremental price
growth. So while directionally it is true that labour markets will tighten and wages will increase,
evidence is scant that this will cause strong price effects. Being wrong on the duration of bottlenecks
will be orders of magnitude more important than being wrong on wage growth next year.
UBS VIEW We expect rapid employment gains and opening-up dynamics to sustain global growth above 7%
into year-end and around 5% in the first half of '22. Thereafter, slack diminishes and growth reverts
to trend (3.5%). Headline inflation should fall sharply by Q4-22 (2pp globally, 3pp in DM), as
commodity prices level out and supply bottlenecks start to dissipate in the first quarter. The Fed and
ECB (as well as other DM central banks) keep interest rates unchanged next year. EM ex-China seems
caught between China's slowdown and hawkish central banks fighting to control an inflation shock
largely outside their control – quarterly growth, consequently should be below that of DM next year.
EVIDENCE Inflation is still concentrated in the tails of the CPI distribution (top/bottom 10% by weight), with little
evidence that pressures are broadening in DM. Inflation expectations remain contained and capex in
certain industries (semi-conductors) has increased significantly, which will help reduce bottlenecks.
However, we see few signs of relief in port congestion and shipping imbalances – so risks remain that
bottlenecks will drag on longer.
What's priced? Markets are pricing some central banks (ECB, SNB, Fed) to lift policy rates too early, while pricing
terminal rates that are too low if inflation does move structurally higher. Inflation swaps in Europe are
too elevated relative to where inflation is likely to settle in 2022/2023 (below central bank targets).
RISK We see three main risks: (i) a mutant virus evades vaccines (cutting 2pp off of global growth in '22),
(ii) inflation moves structurally higher by 100bp (leading the Fed to hike to 2.75% and create a
financial conditions shock); and (iii) the recovery is swifter than expected (accelerated expenditure-
switching + excess savings drawdown adds +1½pp growth in '22 and +1pp in '23). Separately, a
sharp slowdown in the Chinese property sector could trim China's growth by 2½ pp and global
growth by a bit over 1pp, but our baseline already takes half of that risk on board.
% QoQ saar Global - GDP % Global - Policy rate
9.0 3.5 Baseline

8.0
Scenario 1: mutant virus
7.0
3.0 Scenario 2: structural shift higher in inflation
6.0
5.0 Scenario 3: Accelerated recovery
4.0 2.5
3.0
2.0 2.0
1.0 Baseline
0.0 Scenario 1: mutant virus

1.5
-1.0 Scenario 2: structural shift higher in inflation
-2.0 Scenario 3: Accelerated recovery
-3.0 1.0
Sep-21 Mar-22 Sep-22 Mar-23 Sep-23 Dec-19 Jun-20 Dec-20 Jun-21 Dec-21 Jun-22 Dec-22 Jun-23 Dec-23
Source : UBS, Haver

Key Economic indicators
Current account (% Fiscal balance

Real GDP 1/ CPI (% avg) GDP) (% GDP)
2021F 2022F 2023F 2021F 2022F 2023F 2021F 2022F 2023F 2021F 2022F 2023F
US 5.5 4.2 3.0 4.6 4.2 1.4 -3.5 -4.0 -4.2 -12.2 -6.5 -4.4
Japan 2.1 3.1 1.4 -0.2 0.5 0.8 2.6 2.0 2.2 -8.0 -6.9 -5.1
Canada 5.3 5.8 3.5 3.4 3.5 1.5 -0.6 0.0 0.6 -6.2 -5.0 -0.1
UK 7.0 4.6 1.5 2.4 3.4 1.8 -2.6 -2.9 -2.9 -7.7 -4.3 -2.8
Switzerland 3.1 3.1 1.7 0.6 0.7 0.6 7.2 7.5 7.2 -2.1 -0.3 -0.1
Eurozone 5.1 4.8 2.0 2.5 2.2 1.5 2.2 2.2 2.1 -7.5 -4.0 -2.6
Germany 2.8 4.9 1.8 3.1 2.1 1.4 7.1 6.7 7.0 -6.3 -2.8 -1.4
France 6.7 3.8 1.7 2.0 1.4 1.0 -0.9 -1.0 -0.9 -8.1 -5.0 -3.9
Italy 6.2 4.5 1.5 1.8 1.5 0.8 3.3 2.7 2.8 -9.5 -5.8 -3.9
Spain 4.6 6.1 3.3 2.9 2.5 0.8 0.9 1.5 1.4 -8.4 -5.3 -4.3
Greece 7.9 5.0 4.7 0.5 1.8 1.3 -2.2 -1.6 -2.5 -9.5 -3.5 -2.5
EMEA 5.6 3.8 3.0 8.5 8.2 5.5 3.5 2.8 1.8 -2.1 -1.5 -2.0
Turkey 9.4 3.8 3.4 17.7 16.5 10.9 -2.7 -1.2 -0.4 -3.0 -3.5 -3.0
South Africa 5.3 3.2 2.4 4.5 5.1 4.3 3.7 1.2 -0.2 -6.7 -6.0 -5.0
Kazakhstan 3.4 3.8 4.5 8.0 6.9 4.9 -4.0 -3.9 -4.9 -4.5 -1.8 -1.2
Czech 3.0 4.6 3.0 3.6 5.0 2.4 1.9 1.2 0.4 -7.0 -5.0 -4.5
Hungary 7.1 5.1 3.4 4.9 3.9 3.2 -0.1 0.5 0.7 -7.0 -5.5 -3.7
Poland 5.1 5.5 3.2 4.9 4.9 2.9 0.4 -0.5 1.0 -0.6 -2.8 -3.0
Russia 4.4 3.0 2.1 6.6 6.3 4.1 7.3 5.8 3.0 -0.2 1.2 -0.1
UAE 1.4 4.1 5.0 0.1 2.0 1.9 10.1 10.6 9.6 -0.4 1.4 -1.7
Asia (ex Japan) 6.8 5.7 5.0 2.1 2.7 2.3 2.3 2.1 1.9 -5.2 -4.7 -4.3
Australia 3.8 3.4 2.6 2.8 2.9 2.3 3.9 2.3 0.9 -5.7 -4.8 -4.0
New Zealand 4.5 5.5 2.3 3.8 3.8 2.2 -4.8 -3.5 -3.5 4.8 -2.0 -0.2
Hong Kong 6.6 4.1 3.5 1.6 1.8 2.3 4.8 4.9 5.0 -4.9 -0.7 2.1
Singapore 6.7 5.0 2.8 1.9 2.0 2.0 19.8 15.8 15.1 -2.1 0.0 0.2
Korea 3.9 3.0 2.9 2.3 2.0 1.3 4.5 4.0 4.0 -4.4 -2.6 -2.9
Taiwan 5.9 3.1 2.9 2.0 1.5 0.9 13.3 13.5 13.4 -3.1 -2.0 -0.8
Malaysia 2.3 6.0 5.1 2.4 1.9 2.1 4.0 4.4 3.5 -6.5 -6.0 -5.0
Thailand 1.0 6.0 3.5 1.1 1.4 1.0 -3.2 0.3 3.0 -3.9 -4.0 -4.0
Indonesia 3.5 5.4 5.1 1.6 3.3 3.8 0.1 -0.6 -2.1 -5.6 -4.5 -3.0
Philippines 4.1 7.5 5.9 4.3 2.9 3.0 -1.1 -2.1 -2.2 -9.0 -7.5 -6.0
India 9.5 7.7 6.0 5.4 4.8 4.3 -1.3 -1.6 -1.8 -9.9 -8.8 -8.0
Vietnam 1.0 6.0 6.2 2.1 2.5 3.0 0.5 0.0 -0.6 -4.9 -4.5 -4.5
China 7.6 5.4 5.0 0.9 2.0 1.6 2.1 2.2 2.0 -4.6 -4.4 -4.3
Latin America* 6.4 2.1 2.2 11.3 10.6 8.4 -0.8 -0.9 -1.2 -5.3 -5.1 -5.0
Argentina 7.9 2.2 2.0 48.5 50.7 45.5 0.8 0.4 -0.1 -5.5 -4.9 -3.5
Mexico 5.3 2.6 2.0 5.6 4.2 3.8 0.4 0.1 -0.4 -2.7 -3.2 -3.4
Brazil 5.1 1.2 2.2 8.1 6.8 3.6 -0.9 -1.0 -1.5 -6.2 -6.6 -6.8
Venezuela -1.0 4.0 5.0 2.0 950.0 700.0 -1.8 3.5 1.8 -9.0 -8.0 -7.0
Chile 10.7 2.3 1.3 4.2 5.3 3.4 -2.3 -3.0 -2.2 -8.2 -4.0 -4.2
Colombia 9.1 3.7 3.4 3.4 4.4 3.3 -4.9 -4.6 -4.2 -8.6 -7.0 -5.2
Peru 12.6 2.4 2.0 5.3 3.1 2.5 -1.2 -0.4 -0.7 -3.9 -3.9 -3.7
G7 5.0 4.2 2.4 3.3 3.1 1.3 -0.9 -1.4 -1.3 -10.0 -5.8 -3.8
DM 4.9 4.2 2.5 3.1 2.9 1.3 0.0 -0.4 -0.5 -9.2 -5.4 -3.6
EM 6.8 5.1 4.5 4.4 4.7 3.7 1.4 1.3 1.0 -4.9 -4.6 -4.4
World* 6.0 4.7 3.6 3.8 3.9 2.7 0.4 0.1 0.0 -7.6 -5.0 -3.9
Source : Haver, CEIC, National Statistics, UBS forecasts 1/calendar year average * For CPI, excludes Venezuela. **For budget balance, central govt.***India numbers based
on Fiscal year ending March
Global assumptions
end '22 end '23 end '22 end '23

EUR/USD 1.25 1.30 10y US Treasury yield 2.10 2.25
USD/JPY 105.0 100.0 10y Bund yield 0.25 0.50
GBP/USD 1.56 1.63 10y JGB 0.20 0.25
EUR/CHF 1.12 1.18 10y Gilts 1.45 1.70
USD/RMB 6.50 6.50 Brent oil price (avg) 67.5 68.5
Source : UBS

UBS versus consensus
Real GDP 1/ CPI (% avg) Policy rate (end period) FX vs USD (end period)
UBS-current UBS vs UBS-current UBS vs UBS-current UBS vs UBS-current UBS vs

forecasts Consensus forecasts Consensus forecasts Consensus forecasts Consensus
22F 23F 22F 23F 22F 23F 22F 23F 22F 23F 22F 23F 22F 23F 22F 23F
US^ 4.2 3.0 0.2 0.6 4.2 1.4 0.9 -0.9 0.25 0.50 0.0 -0.5 - - - -
Japan 3.1 1.4 0.5 0.1 0.5 0.8 0.0 0.2 -0.10 -0.10 0.0 0.0 105.0 100.0 -7.0 -12.5
Canada 5.8 3.5 1.8 1.1 3.5 1.5 0.9 -0.7 1.00 1.75 0.5 0.5 1.18 1.15 0.0 0.0
UK 4.6 1.5 -0.4 -0.5 3.4 1.8 0.2 -0.2 0.75 1.25 0.3 0.5 1.56 1.63 0.2 0.2
Switzerland 3.1 1.7 0.1 0.1 0.7 0.6 0.1 -0.1 -0.75 -0.75 0.0 0.0 0.90 0.91 0.0 0.0
Eurozone^^ 4.8 2.0 0.5 -0.1 2.2 1.5 0.2 0.0 -0.50 -0.50 0.0 0.0 1.25 1.30 0.1 0.1
Germany^^ 4.9 1.8 0.6 -0.2 2.1 1.4 0.0 -0.3 -0.50 -0.50 - - - - - -
France^^ 3.8 1.7 -0.2 -0.5 1.4 1.0 -0.4 -0.5 -0.50 -0.50 - - - - - -
Italy^^ 4.5 1.5 0.2 -0.4 1.5 0.8 -0.1 -0.4 -0.50 -0.50 - - - - - -
Spain^^ 6.1 3.3 0.3 0.2 2.5 0.8 0.7 -0.6 -0.50 -0.50 - - - - - -
Greece^^ 5.0 4.7 1.0 1.6 1.8 1.3 0.7 0.1 -0.50 -0.50 - - - - - -
EMEA 3.8 3.0 0.3 -0.1 8.2 5.5 1.4 0.0 - - - - - - - -
Turkey 3.8 3.4 0.0 -0.6 16.5 10.9 2.5 -0.1 14.50 12.00 0.5 -2.0 10.50 10.50 0.3 0.1
South Africa 3.2 2.4 1.1 0.4 5.1 4.3 0.6 -0.2 4.75 5.75 0.5 0.8 15.75 16.50 -0.2 0.7
Kazakhstan 3.8 4.5 -0.4 0.3 6.9 4.9 0.1 -1.4 9.50 9.00 - - 425.0 427.0 - -
Czech 4.6 3.0 0.1 -0.5 5.0 2.4 2.2 0.2 3.25 2.75 0.8 0.5 21.19 19.60 -0.5 -1.2
Hungary 5.1 3.4 0.1 -0.5 3.9 3.2 0.2 0.0 2.40 3.00 0.3 0.8 313.6 288.0 8.1 -18.0
Poland 5.5 3.2 0.5 -1.1 4.9 2.9 0.5 -0.4 2.25 2.25 0.8 0.8 3.60 3.38 -0.2 -0.4
Russia 3.0 2.1 0.5 0.0 6.3 4.1 1.4 0.1 6.75 5.50 -0.3 -0.3 70.00 72.00 0.0 -0.7
UAE 4.1 5.0 -0.4 1.5 2.0 1.9 0.2 0.1 1.25 1.50 - - 3.67 3.67 - -
Asia (ex Japan) 5.7 5.0 0.1 -0.2 2.7 2.3 -0.1 -0.3 - - - - - - - -
Australia 3.4 2.6 -0.3 -0.4 2.9 2.3 0.8 0.1 0.10 0.50 0.0 0.1 0.78 0.80 0.0 0.0
New Zealand 5.5 2.3 2.0 -0.5 3.8 2.2 1.3 0.1 1.75 2.00 0.3 0.5 0.73 0.75 0.0 0.1
Hong Kong" 4.1 3.5 1.1 0.8 1.8 2.3 -0.2 0.1 0.60 0.80 0.2 0.0 7.77 7.77 0.0 0.0
Singapore 5.0 2.8 1.0 -0.5 2.0 2.0 0.5 0.5 0.25 0.70 -0.3 -0.1 1.30 1.30 0.0 0.0
Korea 3.0 2.9 0.0 0.4 2.0 1.3 0.4 -0.3 1.00 1.00 -0.3 -0.5 1175 1190 25.0 50.0
Taiwan 3.1 2.9 -0.2 0.2 1.5 0.9 0.1 -0.4 1.25 1.25 0.1 -0.1 27.30 27.00 -0.3 -0.5
Malaysia 6.0 5.1 0.4 0.2 1.9 2.1 0.1 0.2 2.25 2.75 0.3 0.5 4.05 4.00 0.0 0.0
Thailand 6.0 3.5 2.0 -1.0 1.4 1.0 0.2 -0.2 0.75 1.00 0.3 0.5 31.00 31.00 -1.1 0.0
Indonesia 5.4 5.1 0.2 -0.1 3.3 3.8 0.4 0.9 4.50 5.00 0.5 1.0 15000 15000 750.0 600.0
Philippines 7.5 5.9 0.9 -0.5 2.9 3.0 -0.3 -0.1 2.75 3.25 0.5 0.8 54.00 54.00 3.5 2.1
India** 7.7 6.0 0.3 0.0 4.8 4.3 -0.2 0.0 4.50 5.00 -0.3 0.0 76.00 78.00 0.9 3.3
Vietnam 6.0 6.2 -1.0 -0.8 2.5 3.0 -1.0 -0.1 4.50 4.50 0.5 0.3 22500 22500 -800.0 -180.0
China"" 5.4 5.0 -0.1 -0.4 2.0 1.6 -0.2 -0.6 1.50 1.50 0.0 0.0 6.50 6.50 0.1 0.1
Latin America* 2.1 2.2 -0.4 -0.2 10.6 8.4 - - - - - - - - - -
Argentina 2.2 2.0 0.0 0.0 50.7 45.5 4.2 7.5 50.00 50.00 9.0 13.0 165.00 220.00 24.9 69.5
Mexico 2.6 2.0 -0.4 -0.2 4.2 3.8 0.1 0.2 6.25 6.75 0.5 0.8 21.00 21.50 0.0 0.1
Brazil 1.2 2.2 -0.6 -0.1 6.8 3.6 1.7 0.1 11.50 6.50 2.5 -0.5 5.80 5.20 0.3 -0.5
Venezuela""" 4.0 5.0 0.1 2.0 950.0 700.0 - - NA NA - - 105 840 - -
Chile 2.3 1.3 -0.2 -0.7 5.3 3.4 0.6 0.3 5.25 5.25 0.3 0.8 835.0 845.0 25.0 27.5
Colombia 3.7 3.4 -0.1 0.1 4.4 3.3 0.7 -0.1 5.00 5.50 1.0 0.8 3800 3800 41.5 0.0
Peru 2.4 2.0 -1.1 -1.3 3.1 2.5 -0.4 -0.2 3.25 3.75 0.0 0.0 3.90 3.90 -0.2 -0.4
G7*** 4.2 2.4 0.3 0.3 3.1 1.3 0.5 -0.6 - - - - - - - -
DM 4.2 2.5 0.3 0.2 2.9 1.3 0.5 -0.5 - - - - - - - -
EM 5.1 4.5 0.1 -0.2 4.7 3.7 0.3 -0.1 - - - - - - - -
World* 4.7 3.6 0.2 0.0 3.9 2.7 0.4 -0.2 - - - - - - - -
Source : Haver, CEIC, National Statistics, UBS forecasts, Bloomberg consensus median forecasts. 1/ calendar year average. * For CPI, excludes Venezuela. **Forecasts for India
relate to fiscal years 2023 and 2024, with FY ending March. FY 2024 consensus is made equal to FY2024 UBS forecast as consensus is unavailable.*** G8 aggregate forecast
for consensus . ^ Fed policy rates are upper bound target rate. ^^ ECB effective policy rate (the deposit rate). " 3M HIBOR. It is the benchmark interest rate used by the Hong
Kong central bank. "" 1- year -deposit rate. """ For FX, blended weighted average of several available FX rates.

Equities Growth-Liquidity mix worsens. S&P 500 peaks at 5,000 in Q2 ‘22. Value’s window closes
Through a maturing cycle, we see S&P 500 earnings coming in 9-10% above consensus till Q2, which
is when we expect the index to put in a peak at 5,000. Subsequent earnings downgrades and higher
real rates should make for a derating towards 4,850 by end-22. Strong operating leverage with less
intense liquidity headwinds would mean Europe outperforms US over the next three months,
potentially six months, but falls behind as revisions turn. We forecast Stoxx 600 at 520 end ’22.
Growth stocks are at risk near term as real rates begin to rise, but Value’s structural challenges are set
to return as inflation drops sharply from Q1 ‘22.
FIXED INCOME US 10y to 2.1%, Real rates up most since ‘13. Sell EU Inflation. Steeper UK, flatter AU
We see US 10y real rates rising by 100bp to -10bp next year. This would be the largest rise since the
151bp climb in 2013. Modestly lower inflation breakevens should mean the change in nominal yields
is smaller, taking them to 2.1% at end-22. Front-end rates are dislocated from central bank guidance,
particularly so EUR and CHF rates. But belly and long ends yields should rise as a slower but longer
hiking path comes into view. 2s5s is likely to steepen in the UK as BoE’s terminal rate gets repriced,
but flatten in Australia as the market questions RBA’s dovish narrative. In credit, we see good risk-
reward now in Asia HY; we prefer US Levered Loans to US IG.
FOREIGN EXCHANGE Fade EUR weakness and CNY strength. GBP, CAD & JPY likely winners
Real-rate gaps may not be the only prism to look at currencies through. There are some signs of FDI &
portfolio outflows from the US accelerating as the cycle deepens and broadens; we’d caution against
a bearish EUR view, therefore. Helped both by growth and improving carry, GBP and CAD should
outperform. Fears of SNB tightening and speculative JPY shorts have meant that CHF has failed to sell
off while JPY has failed to rally. Both aberrations should reverse in ‘22. China’s current account
remains strong, but slowing export share and risk of capital outflows argues in favour of modest
weakness.
EMERGING MARKETS Equities to underperform. ‘Taper-less tantrum’ a rates opportunity. Use low vol to hedge FX
We see MSCI EM flat at 1300 in ’22 but there will be a lot going on under the surface. Credit policy
getting less tight and stricter regulations getting priced should help turn Chinese equities’ sharp
underperformance to outperformance of rest of EM. YTD ‘21, EM yields have risen more than they
did in ‘13 despite US real yields not having moved. EM inflation peak coincides with that of US
inflation in Q1 ’22 – a trigger to get long. Korea, Russia & Brazil fixed income is more attractive than
India and Indo. Slowing exports & higher US rates will mean that, similar to EM equities, EM FX
underperformance continues in ’22 with 4-5% GBI EM FX depreciation. EM FX vol & skew have
mimicked the inertia in DM FX, not the mayhem in EM bonds, and are ripe to express downside
protection in ZAR, BRL, & IDR.
HEDGING RISKS Small Cap puts to hedge sustained inflation/stagflation; EM for accelerated recovery
Liquidity has been twice more important than growth as a driver of returns since the market bottom
in March 2020. Our simulations suggest that sustained inflation, even if mainly demand-driven,
would see equities lose 10-15% cumulatively over 3y, given a greater tightening of financial
conditions it implies (US 10y to 3.25%). 3y losses likely amplify to 40-45% in the unlikely event of
‘stagflation’. Cheap skew on small caps (IWM) options provides an opportunity to hedge. In the right
tail event of an accelerated recovery without inflation, MSCI EM screens as the cleanest expression,
with FX alone like to bring 15-20% gains over two years.
UBS market forecasts

for 2021-2023 4Q 21 2021 1Q 22 2Q 22 3Q 22 4Q 22 2022 1Q 23 2Q 23 3Q 23 4Q 23 2023
Global real GDP* 7.2 6.0 4.8 5.1 3.8 3.2 4.7 3.3 3.6 3.2 3.0 3.6
Fed policy rate** (bp) 25 25 25 25 25 25 25 25 25 25 50 50
US 10y (bp) 180 180 205 210 205 210 210 225 225 225 225 225
Germany 10y (bp) -10 -10 10 15 20 25 25 25 30 40 50 50
EURUSD 1.18 1.18 1.20 1.22 1.23 1.25 1.25 1.26 1.28 1.29 1.30 1.30
S&P 500 4,650 4,650 4,850 5,000 4,950 4,850 4,850 4,900 4,950 4,975 5,000 5,000
STOXX 600 485 485 510 535 530 520 520 520 520 525 525 525
US IG (bp) 85 85 90 95 95 100 100 105 105 105 105 105
US HY (bp) 270 270 285 300 310 330 330 340 350 360 370 370
MSCI EM 1,300 1,300 1,275 1,250 1,275 1,300 1,300 1,325 1,300 1,325 1,350 1,350
EM FX*** 99 99 96 94 95 96 96 96 96 95 94 94
Source: Bloomberg, UBS estimates. *Quarterly data is qoq saar, yearly data is yoy. **Fed Funds rate forecasts indicate the upper end of the range. ***EM FX
is GBI-weighted versus USD, higher values indicate stronger EM FX, Current = 100

Market Forecasts
Figure 1: S&P 500 Figure 2: Quarterly change in S&P 500 (%)
5200 5.0%
5000
5000 4.0%
3.0%
4800
4850
2.0%
4600 Current: 4625 4650
1.0%
4400
0.0%
4200
-1.0%
4000
-2.0%
3800
-3.0%
3600 4Q21 1Q22 2Q22 3Q22 4Q22 1Q23 2Q23 3Q23 4Q23
Dec-20 Jun-21 Dec-21 Jun-22 Dec-22 Jun-23
Source : Bloomberg, UBS Source : UBS. Note: Q4 2021 change denotes change from current level
Figure 3: EUR USD Figure 4: Quarterly change in EUR USD (%)
1.35 2.1%
1.30 1.8%
1.30
1.5%
1.25 1.2%
1.25
0.9%
1.20
0.6%
1.18
1.15
0.3%
Current: 1.16
0.0%
1.10 4Q21 1Q22 2Q22 3Q22 4Q22 1Q23 2Q23 3Q23 4Q23
Figure 5: 10y UST yield Figure 6: Quarterly change in 10y UST yield (bp)
250 (bps) 30
225 25
225
20
200 210
15
175
180 10
150 Current: 157 5
125 0
-5
100
-10
75 4Q21 1Q22 2Q22 3Q22 4Q22 1Q23 2Q23 3Q23 4Q23
Figure 7: 10y Bund yield Figure 8: Quarterly change in 10y Bund yield (bp)
65 (bps) 25
50
45
20
25
25 15
5
-10
-15
10
Current: -16
-35 5
-55
0
-75 4Q21 1Q22 2Q22 3Q22 4Q22 1Q23 2Q23 3Q23 4Q23

Figure 9: STOXX 600 Figure 10: Quarterly change in STOXX 600 (%)
555 6.0%
535 525
4.5%
515
520
3.0%
495
Current: 480
475 485 1.5%
455
0.0%
435
415
-1.5%
395 -3.0%
375 4Q21 1Q22 2Q22 3Q22 4Q22 1Q23 2Q23 3Q23 4Q23
Figure 11: US HY spread Figure 12: Quarterly change in US HY spread (bp)
390 (bps) 30
370
370 20
350 10
330 0
330
310
Current: 294 -10
290
-20
270
270 -30
250 4Q21 1Q22 2Q22 3Q22 4Q22 1Q23 2Q23 3Q23 4Q23
Figure 13: MSCI EM Figure 14: Quarterly change in MSCI EM (%)
1450 4.0%
3.0%
1400
2.0%
1350
1350 1.0%
1300 0.0%
1300
1300 -1.0%
1250
-2.0%
Current: 1264
-3.0%
1200 4Q21 1Q22 2Q22 3Q22 4Q22 1Q23 2Q23 3Q23 4Q23
Source : MSCI, Bloomberg, UBS Source : UBS. Note: Q4 2021 change denotes change from current level
Figure 15: EM FX Figure 16: Quarterly change in EM FX (%)
106 2.0%
104 1.0%
102 0.0%
100 -1.0%
Current: 100
98 99 -2.0%
96
-3.0%
96 94
94
-4.0%
92
4Q21 1Q22 2Q22 3Q22 4Q22 1Q23 2Q23 3Q23 4Q23
Source : Bloomberg, UBS. Note: EM FX (GBI weighted) vs. USD, Latest value=100 Source : UBS. Note: Q4 2021 change denotes change from current level
(higher values = EM FX appreciation)

The Big Questions for 2022

Summary of essays
1. How worried should you be about a wage-price spiral? (Page 16)
There is a concern of an incipient wage-price spiral as labour shortages have increased
sharply. However, aggregate employment has yet to fully recover, and wage growth has
fallen in about as many economies as it has risen. We estimate wage and price Phillips
curves across EM and DM and show that while each 1pp decline in unemployment drives
up wages (43bp on average), it does little to push up prices (15bp on average). And the
feedback from wages to prices seems even smaller: you need to generate 100bp of
wage growth to generate 4bp of inflation (see the country detail within). Being wrong
on the duration of bottlenecks will be orders of magnitude more important than being
wrong on next year's average wage growth.
2. What kind of returns will 'expensive' equities deliver? (Page 18)

We find that when real rates are in the bottom tercile of their distribution, the relative
valuation between stocks and bonds, or the equity risk premium (ERP), is a better
predictor of medium-term equity returns than are absolute equity valuation metrics like
the forward P/E or cyclically-adjusted P/E. The good news is that while other metrics are
at extremes (and forecast near-zero or outright negative returns), the ERP is not far from
its median and predicts 9-10% gains per annum for S&P 500 over the next five years.
The bad news is that some of the ERP on offer today may be illusory. ERP may shrink not
due to equity markets re-rating but due to rates moving towards their forwards. Our
models suggest 4-6% trend returns are much more likely ahead. That's roughly half of
the 11% annualised returns crystallised over the last three decades.
3. Where are we in the cycle? (Page 21)

Investment and employment are recovering much more quickly than in a typical
recession, while consumption (after an initial sharp fall) is now in line (140 pre-pandemic
recessions since 1980 for 47 economies). There is significantly less dispersion in
economic and market outcomes than compared to the GFC or other recessions, and
some indicators (savings, house price inflation, goods inflation) even have the wrong
sign (they moved up rather than down). Although the global economy is still 2pp below
its pre-pandemic trend, at the current pace that gap will be closed in 2022.
4. Will the S&P 500 finally tire in 2022? (Page 25)

We target 4,650 for the S&P 500 at end '21 and 4,850 for end '22 with a sizeable rally
into Q2 next year and consolidation in H2. Still strong growth puts Q2 '22 S&P EPS at ~
$60 in our framework, or nearly 9% above consensus including a -2.2% tax hit. That
$240 of annualized EPS points to 5,000+ for the S&P 500 by Q2 on a 21x P/E. However,
further tightening of financial conditions, continued cost pressures and slower growth in
H2 '22 point to a flattening of EPS growth thereafter to below trend levels (sub-6%) and
a more notable multiple de-rating in H2 '22.
5. Sustained inflation & stagflation: Return impact & hedges (Page 28)
We calculate inflation 'pain thresholds' – the points at which returns' beta to inflation
goes from positive to negative for major markets and industries. We find that sustained
inflation, even if demand-driven, should see negative equity returns of 10-15% over a
three-year period. As rates rise aggressively, Growth, Tech and the US hurt more than
Value, Financials and Europe. In the unlikely event of stagflation, our model simulates
three-year cumulative equity returns at -40% to -50%, with small caps likely seeing
more aggressive drawdowns. SMH (SOX Semiconductors index) and IWM (Small caps)
puts offer cheap protection today.
6. What would make the Fed dovish and the ECB hawkish in 2022? (Page 31)
Inflation could shift the stance of the Fed and the ECB. The Fed could become more
dovish if Core PCE inflation declines or is on track to decline below the 2.0% target (we
forecast 1.6% for Q4-22 vs their median forecast of 2.3%YoY). We expect this to begin
during the first half of 2022 due to softening growth of demand for goods and rising
labour force participation. The ECB could become more hawkish should inflation be
seen at or above 2% in 2023 and 2024. This could be due to stronger services price
adjustments, tighter-than-expected post-pandemic labour markets, or stronger wage
growth fueled by the recent spike in inflation.

7. Could China's property downturn threaten global growth? (Page 33)
Both structural and cyclical factors are behind China’s property downturn. A 10%
decline in total construction output could drag China’s GDP growth lower by 2.5ppts, or
1¼ppts lower than our baseline. This could lead to a significant impact on commodities
(mainly minerals and metals) and related EM economies, and take a little over 1pp off of
global growth (one third reduction in China's own growth contribution and the rest
'beta' effects from other countries). Economies most exposed to China’s domestic
demand include Chile, Australia, Vietnam, Malaysia and Taiwan. Given that we have
part of this risk already in our baseline, the incremental drag of this scenario
materializing is worth about 50bp of global growth.
8. How much can US real yields rise? (Page 35)

Rising forward inflation expectations at a time when global central bank rhetoric has
been decidedly hawkish is among the greatest disconnects we see in financial markets.
We think US 10y real yields can rise to -10bps by year-end 2022, which represents a 70
basis point sell-off above forward rates. UBS Economists expect monthly inflation gains
to cool and headline CPI to fall to 1.5% by December '22. Stalling headline readings
should reduce investor demand for inflation protection, particularly from nontraditional
buyers. At the same time as demand is easing, the TIPS market will be contending with
positive net supply for the first time since 2019.
9. Is global capex about to take off? (Page 37)

Investment has fallen by half as much as consumption in this pandemic (the opposite of
typical recession dynamics) and recovered much more rapidly. Even so, the stock of
capital is below where it would have been without the pandemic. Global capital/labour
ratios have been thrown out of whack, mainly because of labour shedding, suggesting
capacity and productivity will partly increase via rehiring. However, the judgment that
firms appear to be making is that they need more investment, and that a good portion
of current demand strength is sustainable (or that bottlenecks are evidencing structural
capacity shortfalls). Forward looking capex indicators for the US are at 20-year highs.
10. How far are goods and services from normalising? (Page 39)
Globally the slowdown in goods consumption has been short-lived, but goods spending
is still below its pre-pandemic trend in half of countries while services spending (11%
below) has not returned to trend in any country. Employment has similarly fared better in
goods than services, but both remain below their pre-pandemic trend in all but a few
countries. Differences in disposable income growth, which stemmed from different
fiscal stimulus strategies, appear to explain a good part of the cross-country variation in
goods vs service spending.
11. China equities: Un-investible or finally cheap? (Page 41)

Chinese equities have underperformed MSCI World by 28% by end October and
valuations have de-rated toward the lowest relative levels over the last five years. Two
factors have largely driven this: policy tightening/and the related domestic slowdown,
and regulation. Our baseline has policy in neutral mode and a gradually improving
economy in 2022. We also think investor concerns on regulation are likely to ease, not
least given greater evidence that most interventions have been broadly in line with
global best practice. We think this combination and current valuations set Chinese
equities up for a relative rebound in 2022.
12. Does the dollar cycle end with the business cycle? (Page 43)
Dollar cycles do not coincide with business cycles, but instead hinge on shifts in the price
making FX flows. Persistent demand for 'safe' US assets has depressed US investment
outflows for quite a while but there are signs of a pick-up lately. The deepening of the
post-COVID recovery should reignite the dollar down-cycle.
13. What lies ahead for EM rates after a 'taper-less' tantrum? (Page 45)
EM local rates have sold off far more aggressively this year than in 2013. In contrast to
the US and Europe, market pricing of terminal rates implies that EM ex China’s inflation
headache will be far from transitory. Meanwhile FX volatility and credit risk have barely
budged. We expect this gap to narrow in 2022. We see value in Korea and Russia
duration, as well as Brazil’s front end. We’d hold duration hedges in Poland, Indonesia
and India.

14. Cryptocurrencies coming of age or going to seed? (Page 47)
More regulation is inevitable but will legitimize the space for rising institutional
participation in the US and Europe. Meanwhile blockchain technology will make faster
inroads to many areas of public and private finance, forcing even sceptics to reconcile
themselves to a radically different future. Interoperability projects will also make
mainstream tokens more substitutable, creating scope for more traditional and
comparative analysis.
15. European equities: Operating leverage vs higher input prices – which will
win out? (Page 49)
Operating leverage for corporate Europe is set to hit an 18 year high in 2021, but
consensus sees little to no operating leverage in 2022. We disagree and forecast almost
double consensus EPS growth in 2022. Corporate pricing power sentiment is running
close to a decade high and this is enabling companies to pass on higher input prices and
protect profitability.
16. What is the outlook for global volatility? (Page 51)

Our 2022 economic outlook is fairly benign for volatility which should allow risk
premiums such as high skew and a steep turn structure to grind lower but 1Q could be
rocky on slower growth and rising inflation; higher data and policy dispersion may
exacerbate that trend or create regional differences.
17. Will APP anchor European yields as PEPP did? (Page 53)
APP lacks the PEPP's firepower and flexibility. The ECB would need to make design
changes to the current €20bn/m open-ended APP in order to increase its effectiveness
and push back on market pricing. While QE-adjusted net EGB supply would swing into
positive by €200bn next year, what would matter the most for the medium-term
direction of European yields is if inflation is transitory or not. We see 10y Bunds at 25bp
and BTP-Bunds at 150bp by end-22.
18. How are gold's drivers changing? (Page 55)

Investors have recently questioned gold's relationships with macro drivers and its role in
portfolios. Investigating this, we note two key takeaways. First, rates remain dominant
and their level affects gold's sensitivity to them. That sensitivity is asymmetric, such that
a 1% rates decline drives a bigger gold rally than the correction that a 1% rates increase
would. Second, gold's relationship with inflation expectations is inconsistent over time
and has weakened recently. Silver has a stronger link with inflation than gold, given its
industrial usage, but Bitcoin has been more closely related to inflation than both metals
since mid-2020.
19. Is the valuation gap between ESG haves and have-nots too wide? (Page 57)
ESG-dedicated equity fund penetration remains low at c7% of AuM. We see ESG-
dedicated funds growing to c15% in five years on data standardization, regulation and
investment. Historically, ESG's overall impact on excess return performance is flat to
positive across equity and credit markets. Looking ahead, we expect a greater impact of
ESG factors on valuation, particularly in sectors where differentiation is low (e.g., US, EU
large caps, US IG credit). Conversely, investors should fade or be patient in segments
where differentiation is high (e.g., European IG, global clean energy stocks).
20. Will commodity currencies catch up in 2022? (Page 59)

Commodity currencies have lagged their surging terms of trade in the context of supply
distortions, impeded labour mobility, narrowing growth differentials against the US,
weak export volumes, and financial account leakage. We see better prospects for
bounce-back in the AUD and CAD than most EM currencies in 2022. Within EM we’re
positioned for RUB outperformance vs. IDR and ZAR.

Alan Detmeister
1. How worried should you be about a wage-price spiral? Felix Huefner
Reports of labour shortages have increased sharply in recent months (Figure 17). In the Anna Titareva
US, Australia, and more recently Eurozone, labour shortages are notably worse than
Rafael DeLaFuente
they were pre-pandemic (in both manufacturing and services according to the Eurozone
data), and are occurring despite an overall weakness in employment, where the rebound Gyorgy Kovacs
has faded after an initial sharp bounce back (Figure 18). Overall, the employment Andrea Casaverde
population ratio in both the DM and EM economies has recovered about ⅔rds of the
loss at the pandemic trough, but remains about 1½ pp below its pre-pandemic level.
Labour shortages have increased
With the employment rebound remaining incomplete, the pickup in wage growth has despite employment only recovering
been mixed. Among the DM economies wage growth has moved up the most in the UK, about ⅔rds of the fall during the
US, and Japan (where wage growth remains quite low), but wages have not seen a worst point of the pandemic
notable pickup elsewhere. In fact, wage growth has slowed in more DM economies than
it has risen (Figure 19). The diverse DM outcomes may reflect differences in wage setting Wage growth has fallen in about as
cultures; for example, in Germany, wage settlements tend to have a long duration and many economies as it has risen
higher wages may only feed through with a substantial lag. In the EM rising wage
growth has been more pronounced, but even there the results are mixed. At first blush,
the mixed wage data suggest that there is little evidence of an incipient global surge in
wages that could lead to higher price inflation.
That is not to say that a wage-price spiral is out of the question. Even at the year-over- The annual correlation of wage and
year frequency, where volatile energy prices might be expected to weaken the price inflation is not strong in low
relationship, there is a clear correlation between price and hourly wage inflation across inflation periods, but increases as
OECD countries since 2000 (Figure 20). Over the annual changes shown in Figure 16 the inflation rises, and over longer time
correlation of price inflation and hourly wage inflation is 0.53. When taken over a longer periods.
(1)
period, such as 5-year changes, the correlation increases further, to 0.75. But this
correlation is heavily driven by periods with higher inflation, and those correlations
decline notably at low levels of inflation. For example, when price and wage inflation
average below 5%, roughly the top of the current range for all except a handful of EM
economies that we cover, the correlation of price and wage inflation drops to 0.19 at the
1-year horizon and 0.43 at the 5-year horizon — suggesting that it is hard to start a
wage-price spiral until inflation picks up.
Further, it may not be that increasing wage growth begets increasing price inflation (or Phillips curves suggest falling
vice versa). It could simply be that both wages and prices react to the same underlying unemployment drives up wages
forces in the economy. For example, simple Phillips curves suggest declining much more than prices in most
unemployment drives up wages more than prices in most countries (Figure 21). The countries
median effect across countries is a 1pp decline in unemployment pushes up wages by
42bp, but prices by 15bp, so solid wage increases as unemployment continues to
decline toward pre-pandemic levels might be expected.
But a wage-price spiral is not about a tight economy pushing up both prices and wages. The feedback from prices to wages
It is about wage inflation and price inflation feeding off each other and pushing each appears small, and from wages to
other ever higher. Here the evidence is quite mixed. Adding the change in wages to our prices even smaller. The largest pass-
price inflation Phillips curve, and the change in prices to our wage inflation Phillips curve, through is in Demark, Poland,
shows an increase in price inflation is correlated with higher wage inflation in the next Mexico, and Sweden where 1pp
year, but the results are quite variable, and the median effect across countries is quite increases in wages push up prices by
small, such that a 1 percentage point increase in price inflation leads to only 11bp higher 0.4pp.
wage inflation (Figure 22). Going the other way the effect is even smaller, with the
median effect of a 1 percentage point increase in wage inflation leading to only 4bp in
higher price inflation in the next year.
That said, there is some research to suggest that wages may have a greater effect on
(2)
prices when inflation and growth are strong. As a result, while the current lack of
widespread wage inflation suggests that a global wage-price spiral is unlikely, the
possibility of strong wage growth passing through to price increases is likely to remain a
concern of central banks in both the DM and EM.
1.
The figure, and the correlation, exclude 3 outliers for Turkey from 2000 to 2003 when hourly wage inflation was above 30% each year and
price inflation was above 50%.
2.
For example see ECB working papers by Hahn (October 2020) and Bobeica, Ciccarelli, and Vansteenkiste (2019)

Figure 17: Reports of labour shortages in business surveys Figure 18: The employment recovery has slowed at a low
have increased employment-population ratio
4 58 46
US Eurozone
CE3 Australia 57 45
3
Mexico
2 56 44
1 55 43
54 42
0
53 41
-1 DM (left)
52 40
-2 EM (right)
51 39
-3 Mar-18 Mar-19 Mar-20 Mar-21 Mar-22 Mar-23
Jan-03 Jan-06 Jan-09 Jan-12 Jan-15 Jan-18 Jan-21
Source : Haver, NFIB, NAB, INEGI, UBS. Share of firms reporting shortages except for Source : National statistical agencies, UBS
Mexico, where it is the net balance of firms reporting higher/lower shortages
relative to prior period. All series normalised by subtracting mean and dividing by
standard deviation. Data to Q4 2021 for the Eurozone and Q3 2021 for all others.
Figure 19: Hourly wage growth is above where it was 2 Figure 20: Price and wage inflation are highly correlated,
years ago in only about half of the economies we cover but the correlation is weaker at lower inflation levels
14
30%
12
Sep-19
CPI inflation (year-over-year)
10 25%
Sep-21
8 20%
6 15%
4
10%
2
5%
0
0%
-2
Russia
Singapore
Mexico
Australia
South Africa
Poland
Indonesia
South Korea
Taiwan
Switzerland
Hong Kong
Japan
Thailand
Eurozone
Malaysia
Brazil
UK
US
Canada
Vietnam
Turkey
-5%
-10%
-10% 0% 10% 20% 30%
Hourly wage inflation (year-over-year)
Source : National statistical agencies, UBS. For UK chart shows average weekly Source : OECD, UBS
earnings. Bank of England estimates suggest that adjusting for the furlough scheme
would lower wage growth around 1pp.
Figure 21: In most countries a tightening economy drives Figure 22: Estimates suggest a greater effect of prices on
up wages more than prices wages than wages on prices
Percentage points Percentage points

1.5 Effect of 1pp of decline in unemployment on: 1.5 Effect of 1pp increase in:
price inflation on future wage inflation
wage inflation
1.0 1.0 wage inflation on future price inflation
price inflation
0.5 0.5
0.0 0.0
-0.5 -0.5
Jap
Nor
Aut
Mex
Hun
Aus
Den
Fra
Lux
Net
Ita
Ire
Cze
Lat
Slv
Swe
Slk
Ice
Esp
Fin
Pol
Bel
NZ
Ger
CR
UK
US
Tur
Aut
Mex
Jap
Por
Lux
Aus
Hun
Nor
Net
Ire
Fra
Den
Ita
Esp
Swe
Slk
Slv
CR
NZ
Ger
Fin
US
UK
Tur
Bel
Pol
Por
Source : UBS. Estimates from regression over past 20 years of 4-qtr change in prices Source : UBS
or hourly wages on time trend, prior change in dependent variable, 4-qtr average
unemployment rate, and 4-qtr changes in crude oil prices and the trade-weighted
exchange rate (along with their prior 4-qtr changes).

Bhanu Baweja
2. What kind of returns will 'expensive' equities deliver? Nicolas Le Roux
Over the last 30y, global equities have delivered annualised returns of 10.9%, supported
as they were by a) globalisation, b) looser financial conditions, and c) a shift away from
the material to the intellectual. We believe the first two megatrends are tiring and the Current P/E and CAPE suggest close
third is accelerating. What will this mean for returns in the future? Current valuations to flat returns for the future
should be a good starting point to to assess medium-term returns. But which valuation
metric should one look at? The S&P500’s earnings yield (EY= inverse of P/E) sits at 9%ile
of its 100yr distribution, while the cyclically adjusted earnings yield (CAEY) is at 2%ile
(Figure 24). The prognosis from both is grim: the model suggests an average annualised
5y return of -0.7% based on EY and 1.0% based on CAEY today.
However, we think relative valuations between stocks and bonds, or the Equity risk ERP provides a better fit into future
premium (ERP), provide a more robust way of thinking about medium-term returns than returns than does P/E or cyclically
do absolute equity valuations. This is especially true at lower levels of real rates. For the adjusted P/E, especially so at lower
full sample (since 1925) CAEY and ERP do as well as one other in predicting future levels of bond yields
returns (correlation with t+5 avg returns of 55% and 53% respectively). However, when
real rates are in the bottom third of their distribution (11 %ile today), the fit of 5y
forward returns is stronger with current ERP (correlation 56%) than with current CAEY
(correlation 42%) (Figure 25). The relationship between ERP and future returns is the
strongest for US and Europe, is middling for Japan and UK, and is the weakest for EM
countries.
So, what does the level of the ERP today, at 57%ile of its last 30yr distribution, say about ERP models predict around 9.4%
future equity returns? We estimate future returns using regressions per market, and also annualised returns for the US, and
in a panel across major markets globally, and use an average of their results, weighted by 6.0% for Europe. But these will likely
Rsq of the respective models. These point to a healthy 9.4% annualised return for US prove to be too high
equities over the next 5y, 8.3% for Japan, 6.0% for Europe and 6.0% for China. The
model suggests better returns for the US despite higher valuations because it takes into
account positive fixed effect (the alpha picked up by the model) while this is negative for
all other major markets, none more so than Germany, Spain, UK and most EM countries.
We think these alpha (or fixed/level) effects on future estimated returns are being
created by the interaction of two megatrends – a shift towards the intellectual away
from the material, and slowing globalisation. Together these have driven returns in
favour of indices which are Tech, Communication Services and Consumer Discretionary
heavy (S&P500), and away from indices which are Industrials Financials, Industrials,
Materials and Energy heavy (UK, Spain, Germany).
This forecast sounds like a continuation of the patterns seen in recent years - strong While ERP is at a healthy level, this is
equity returns and strong US outperformance. While we would agree with the model’s entirely because of low real rates,
verdict of the US as winner over the medium to long term horizon, we believe the which will likely move higher. Based
realised returns are likely to be significantly lower than model forecast returns for most on interest rate forwards, 4-6%
countries, the US in particular. Why? A decline in global real interest rates has been and annualised returns are more likely for
important driver of higher ERP over the last 3 decades (Figure 26), but over the last 5y US and Europe.
this trend has become particularly pronounced, especially so in the US. Even a modest
normalisation of real rates will be a drag on ERP and make for weaker future returns for
equities. We recalculate our model incorporating forward yields for real rates – we see
expected annualised returns drop to 5.9% in the US, 3.9% in Europe, but remain almost
unchanged at 7.7% in Japan and marginally better in China at 7.0% (Figure 23)
To a degree the market has been anticipating this – over the last 3 decades, steadily In the coming years higher rates will
higher ex ante equity risk premium (cheaper equities relative to bonds) has been needed very likely comprise at least a part of
to generate the same degree of future equity returns (Figure 27). Put another way, the the ERP on offer, leaving less room
same ex ante ERP has generated lower returns through these 3 decades. Investors have for equity valuations to rise
not pushed equity valuations too aggressively, seeing some of the ERP as optical or
illusory, expecting it to be compromised by a pick-up in real rates. They were wrong thus
far: real rates continued lower and allowed for higher equity valuations while
maintaining the same or higher ERP. But we feel strongly that not only are real yields
bottoming now, most measures of risk premia (vol, credit spreads) are bottoming too. At
4-6%, forward 5y returns in developed market equities are likely to be half the 10.9%
annualised returns realised over the last 30y.

Figure 23: ERP model based equity returns forecast : A big step down in forecast returns if we take into account the future
path of rates
Beta impact (direct impact Cash (added back to
Alpha impact (drift
Ann. 5y expected return (based on forward rates) Ann. 5y expected return (based on current rates) of current ERP on future back out total return
of the model)
excess returns) from excess returns)
GE 6.7 9.3 GE -8.2 17.6 -0.1
US 5.9 9.4
US 0.8 7.6 1.1
FR 4.7 7.1 Strong model fit
FR -1.7 8.9 -0.1
EU 3.9 6.0
EU -2.1 8.2 -0.1
JP 7.7 8.3
JP 0.2 8.1 0.0
CH 6.0 7.0
CH -3.8 7.3 2.6
SP 5.4 7.7
Medium model fit SP -6.3 14.2 -0.1
UK 4.7 7.3
UK -4.6 11.2 0.7
RU -2.0 6.3
AU 5.7 8.5
RU -11.8 9.7 8.4
KR 5.4 7.6
AU 2.2 5.1 1.2
CA 5.3 8.3 KR 0.2 5.8 1.7
TW 5.3 8.1 Weak model fit CA 0.5 6.5 1.4
EM 3.2 5.3 TW -2.3 10.0 0.4
IT 1.9 3.9 EM -3.4 7.6 1.1
MX 0.5 7.3 IT -0.1 4.2 -0.1
BR -1.2 13.0 MX -4.2 4.6 6.5
IN -2.8 6.2 BR -1.8 4.0 10.7
-4.0 -2.0 0.0 2.0 4.0 6.0 8.0 10.0 12.0 14.0 IN -0.8 1.5 5.6
Source : Bloomberg, UBS
Figure 24: Different valuation measures for the S&P 500 Figure 25: Fit between current valuations & future returns
of S&P500: A stronger fit between ERP and future returns
(than CAPE) at low rates
P\E (x) ERP (from 1920s) CAEY (from 1920s)
40 -5 Correlation
CAPE 12m fwd PE ERP (inverted, rhs) 80% ERP (post Greenspan) CAEY (post Greenspan)
Latest: 34.1 (98%ile)
35 69%
-2 70% 67%
Current environment 62% 63%
60%
30 60% 56% 55%
1 52% 53%
25 50% 47% 47% 46%

4 42%
39% 39%
20 40%
7 27%
30%
15
10 20%
10
10%
5 13
0%
0 16 Bottom 1/3rd %ile Mid 1/3rd %ile Top 1/3rd %ile All real rates distribution
1919 1933 1947 1961 1974 1988 2002 2015 real rates real rates real rates
Source : Bloomberg, UBS Source : Bloomberg, UBS
Figure 26: Contribution to ERP volatility: S&P 500's ERP Figure 27: Higher ERP needed now to generate the same
volatility is driven by declining rates today future returns
S&P subsequent 5y
CAEY Vol contribution 10y real rates Vol contribution ERP 3y rolling Vol 1990s 2000s
2.5 30 annualized total returns
2010s 3.82%
25
2.0
20
1.5 15
10
1.0
5
0.5
0
0.0 -5
-10
-0.5 ERP (t)
-15
-2.0 -1.0 0.0 1.0 2.0 3.0 4.0 5.0 6.0 7.0 8.0
-1.0
45 50 55 60 65 70 75 80 85 90 95 00 05 10 15 20

Figure 28: US: ERP model says 9.4% (ann) 5y forecast Figure 29: Germany: ERP model says 9.3% (ann) 5y forecast
returns if rates don't change. 5.9% ann returns if rate returns if rates don't change. 6.7% ann returns if rate
forwards are realised forwards are realised
% US forecast Alpha impact US forecast Beta impact Cash return % GE forecast Alpha impact GE forecast Beta impact Cash return
25 US realized 5y return US forecast 5y return US real rate adjusted 5y return 25 GE realized 5y return GE forecast 5y return GE real rate adjusted 5y return
20 20
15 15
10 9.4 10 9.3
5 5 6.7
5.9
0 0
-5 -5
-10 -10
00 02 04 06 08 10 12 14 16 18 20 22 24 26 99 01 03 05 07 09 11 13 15 17 19 21 23 25
Figure 30: UK: ERP model says 7.3% (ann) 5y forecast Figure 31: Japan: ERP model says 8.3% (ann) 5y forecast
% UK forecast Alpha impact UK forecast Beta impact Cash return % JP forecast Alpha impact JP forecast Beta impact Cash return
18 UK realized 5y return UK forecast 5y return UK real rate adjusted 5y return 24 JP realized 5y return JP forecast 5y return JP real rate adjusted 5y return
15 19
12 14
9 9 8.3
7.3
7.7
6 4
4.7
3 -1
0 -6
-3 -11
-6 -16
00 02 04 06 08 10 12 14 16 18 20 22 24 26 00 02 04 06 08 10 12 14 16 18 20 22 24 26
Figure 32: China: ERP model says 6.0% (ann) 5y forecast Figure 33: EM: ERP model says 5.3% (ann) 5y forecast
% CH forecast Alpha impact CH forecast Beta impact Cash return % EM forecast Alpha impact EM forecast Beta impact Cash return
20 CH realized 5y return CH forecast 5y return CH real rate adjusted 5y return 40 EM realized 5y return EM forecast 5y return EM real rate adjusted 5y return
35
15
30
25
10
7.0 20
5 6.0 15
10
0 5.3
5
3.2
0
-5
-5
-10 -10
07 09 11 13 15 17 19 21 23 25 03 05 07 09 11 13 15 17 19 21 23 25

Pierre Lafourcade
3. Where are we in the cycle? Arend Kapteyn
As befitting a global pandemic, the recession in GDP growth was without a doubt the Alan Detmeister
most internationally synchronized of any during the past 40 years (Figure 34). By our
estimates only Chile, Taiwan, Turkey, and New Zealand have already recovered to or
above their pre-pandemic GDP trend based on what we were forecasting in 19Q4 The only economies back at their pre-
(Figure 35), and aggregating countries globally we estimate that world GDP is still 2pp pandemic growth trend are Chile,
short of the pre-Covid trend (Figure 36). Growth 2pp above the long-run average implies Taiwan, Turkey and New Zealand, but
just one more year of about 5½% global growth — an increase that's roughly in line gaps elsewhere are closing fast
with our forecast — would put world GDP back to its pre-pandemic trend.
How is the Covid recession different from past recessions? We look at 14 key variables How is the pandemic recovery
for a sample of 47 economies and examine how the Covid recession and recovery different? 1. The investment rebound
compares to the 140 recessions for those countries from 1980 to 2019. We split the is much sharper than in past
sample of recessions into the pandemic era (the grey bands in the charts), the Global recessions; 2. Consumption is
Financial Crisis (pink), and all other recessions (blue). (The bands are inter-quartile ranges weaker; 3. Saving is higher; 4. Credit
(25th to 75th percentile), and shading is purple where the red GFC and blue 'other' growth is stronger; 5. Services
recessions overlap.) To control for faster-growing countries climbing out of holes more inflation is 'normal' but goods
quickly than slower ones (see China's quicker return compared to the US in Figure 37), inflation is multiple standard
we filter variables with a slow-moving trend and express them in standard deviation deviations higher; 6. Imports are
units. We also show the pandemic response for the Eurozone and US separately. growing faster; 7. The employment
recovery is much faster; 8. Equity
How is the Covid recession different? markets have rebounded faster and
in a narrower range; 9. House price
The GDP downturn and recovery (Figure 38) has been much more rapid than in past inflation, savings, trade and bank
recessions: after an initial decline that was double the GFC hole, and triple the credit have all (almost) moved in the
average 'normal' trough, GDP has already pulled level with standard recessions. Note opposite direction of what you
how the Eurozone has climbed from the bottom to the top of the global pandemic normally see in a recession.
GDP growth distribution and now pulled level with the US.
Consumption (Figure 39) initially was much weaker than normal — lockdowns and
social distancing did much more damage than in normal recessions — but
consumption has now returned to about usual for a recovery. It has been significantly
stronger in the US than in the Eurozone and most other countries thanks to stimulus
that was skewed to increasing disposable income (stimulus checks, generous
unemployment insurance — see also Figure 96). Further, saving has increased
significantly more than in prior recessions (Figure 40) with US and Eurozone saving
converging to the average from opposite sides.
Compensating for the weakness in consumption is investment (Figure 41), which has
rebounded much more strongly than in past recessions, perhaps helped by much
more resilient credit growth (Figure 42), though note the relative US weakness) and
manufacturing responding to capacity constraints.
The recovery in imports is faster than in past recessions (Figure 43), likely reflecting
expenditure switching rather than aggregate consumption strength (as per above).
Employment (Figure 44) collapsed in the US and the Eurozone (amended for
furlough schemes), far beyond the average experience in the sample, both in Covid
times and in earlier recessions. But the recovery is that much faster, and the
employment gap is close to closing. Productivity (Figure 45) reflects the relative
dynamics of output and employment.
Goods price inflation is about 3 standard deviations above normal (Figure 46), and
even more so in the US and Eurozone, while service price inflation has moved back to
normal after a sudden stop in spending early in the pandemic led to an initial sharp
fall (Figure 47). As a result core inflation (Figure 48) is more elevated than prior
recessions though, except for the US, not excessively so.
Stock markets have performed a bit better than during past recession rebounds
(Figure 49), but curves are much flatter than normal (Figure 50), likely reflecting zero-
lower-bound dynamics and a decade of QE. House price inflation is also significantly
more elevated than in prior recessions (Figure 51) and a notable contrast to the GFC.
Overall, three aspects stand out. First, the Covid recession clearly does not fit the pattern Conclusion: there is significantly less
of previous downturns, neither in terms of depth (deeper), nor recovery speed (faster) or dispersion in economic and market
even sign of responses for many variables (e.g., saving, house price inflation, goods outcomes than in past recessions.
inflation). Importantly, we verify that for 47 countries, not just the US and the Eurozone. The speed of everything (falls and
Second, these two regions' experiences are often themselves outliers: in most charts, rebounds) is quicker; and the US and
they fall far beyond the interquartile ranges. Third, the dispersion of outcomes is much Eurozone are outliers on many
narrower than past recessions (see the employment & equity charts) — mirroring the variables.
commonality of the shock, policy responses and vaccine-aided opening up dynamics.

Figure 34: Recessions since 1980 (47 economies) Figure 35: Cross-country GDP shortfalls vs pre pandemic
forecast
change level (%)

15
10
-5
-10
Shortfall GDP vs what was forecast pre-pandemic (Q4-19)
-15
Realized change GDP level between Q4-21 and Q4-19
-20
Phi
Jap
Indo
India
Mex
Hun
HK
Pol
Swi
NZ
Tai
Mal
Spa
Kaz
Bra
Ger
Ita
SA
Aud
Kor
China
Chile
Tha
Vie
Cze
Sin
UK
Can
Fra
US
Tur
Source : UBS, Haver [Recession set developed for the '19-'20 Global Outlook (redux) Source : UBS, Haver
using the Bry-Broschan algorithm and augmented with Covid dates.]
Figure 36: Contributions to global GDP shortfall vs pre- Figure 37: When countries return to pre-pandemic GDP
pandemic trend level will depend heavily on underlying growth rates
Contribution to world GDP shortfall (in levels) relative to the pre- US & China- pre-pandemic forecast vs actual
pandemic (Q4-19) forecast 130
Forecasts
2
120
0
-2 110
-4
Percent
US 100
EZ
-6 Japan
DMother 90 US 19Q4 fcst
China
-8 China 19Q4 fcst
India
Asia ex JCI 80 US realized+forecast
-10 Latam
EMEA China realized + forecast
World
-12 70
2020-Q1 2020-Q2 2020-Q3 2020-Q4 2021-Q1 2021-Q2 2021-Q3 2021-Q4 Dec-19 Jun-20 Dec-20 Jun-21 Dec-21 Jun-22 Dec-22 Jun-23 Dec-23
Source : UBS, Haver Source : UBS, Haver
Figure 38: GDP Figure 39: Consumption

Figure 40: Saving: GDP minus consumption (log) Figure 41: Investment
Figure 42: Bank credit to private sector Figure 43: Imports
Figure 44: Employment Figure 45: Productivity

Figure 46: Goods inflation Figure 47: Services inflation
Figure 48: Core inflation Figure 49: Equity markets
Figure 50: Steepness yield curve Figure 51: House price inflation

Keith Parker
4. Will the S&P 500 finally tire in 2022? Alastair Pinder
We target 4650 for the S&P 500 at end '21 and 4850 for end '22 with another Sean Simonds
meaningful market high in Q2 next year before another round of consolidation (Figure
52). The S&P 500 rally has further to run in our view driven by: 1) a 10%+ rise in forward
earnings over the next 6mo, 2) still strong growth activity, 3) a continued fall in We target 4850 for end 2022 on EPS
COVID cases, and 4) a decline in the multiple as real yields rise that is more than offset by of $240, including a tax hit, and
higher earnings. Still strong growth puts Q2 '22 S&P EPS at ~$60 in our framework, or assuming a sizeable decline in the
nearly 9% above consensus including a tax hit, though corporate tax proposals remain multiple.
fluid (Figure 53). That $240 of annualized EPS points to 5000+ for the S&P 500 by Q2 on
a 21x P/E. However, further tightening of financial conditions, continued cost pressures
and slower growth in H2 '22 points to a flattening of EPS growth thereafter to below
trend levels (sub 6%) and a more notable multiple de-rating in H2 '22.
Earnings: strong growth to Q2 '22, then trend/below trend growth thereafter. A slowing of earnings growth points
UBS Economists forecast nearly 5% avg US real GDP growth through Q2 '22 to likely downgrades in H2 '22 and
(>8% nominal), which leads to Q2 '22 EPS up ~13% y/y in our model as operating thus heightened de-rating risk.
leverage still offsets cost pressures (including tax). However, Q4 2022 EPS would only be
up 8%+ y/y (and up ~5% q/q saar) as demand growth slows and margin pressures
continue. EPS growth of 10%y/y is a key threshold after growth peaked, with <10% EPS
growth coinciding with much weaker returns (Figure 54). Earnings would be 25%+
above trend levels the middle of next year, which means above 6% trend growth will
likely be very difficult assuming the historical paradigm holds. Thus, a slower EPS growth
trajectory likely means heightened de-rating risk later next year. Additionally, average
cycle timing would point to the ISM mfg falling below the median of 52.5 around May
'22, which is the point where equities have tended to struggle.
Earnings momentum, business cycles and de-ratings: The S&P has been weakest
when the level of 12m forward earnings momentum was low and falling (bottom
20pctl), with a low/falling revision ratio key for big de-ratings as well (Figure 55). Our
earnings forecast suggests downgrades are likely after Q2 '22, and thus weaker returns
for H2 '22. In terms of cycles, the P/E fell 8-9% on avg from the ISM peak to 12-18mo
after (i.e. next year after Mar ISM peak), which would put the S&P fwd P/E at ~20x
(Figure 56). Larger de-ratings have coincided with bigger jumps in Baa yields (>25bp)
amid faster ISM declines (<-3pt chg). Lastly, earnings vs trend is a variable in our P/E
model as investors typically put a lower multiple on "over earning" such that the S&P
price rises by roughly 40% of the earnings gain (i.e. 4% up for 10% EPS growth).
Valuations: de-rating likely to be notable. One of the biggest downside risks stems Our valuation frameworks and
from valuations amid the prospect of higher yields/ERPs, less liquidity and slower models support our forecast for an 8-
growth. Leveraging our valuation frameworks and 8 resulting models we try and 9% decline in the multiple which
quantify the potential downside for S&P 500 valuations. On average our models point to would act as a sizeable headwind for
a -4% to -11% decline in the 12m fwd P/E, in line with our own 8-9% de-rating forecast the S&P 500 through next year.
by the end of next year (Figure 57).
Equity risk premium: We use a modified dividend discount model to back out the
ERP implied by the market, which we currently estimate is around 5%. The ERP has
likely bottomed based on the inputs of equity/bond volatility, yield curve, consumer
confidence and credit spreads, a view supported further by a backdrop of peak
liquidity and peak growth. Using a multi-variate regression we also estimate a
"justified" ERP, which should be close to 5.15%, 15bps higher than current levels.
Given higher earnings, we believe a US10y yield around 2.2% and an ERP of 5.25%
would still accommodate an S&P 500 level of ~4850 by next year.
Rates and duration: Higher interest rates are a headwind to valuations. Our P/
E model suggests that a 50bps rise in the US10y would knock the P/E lower by 3%.
Macro and quality models: Our third valuation measure is a macro regression
model for the 12m fwd P/E and a quality model for the price to book. Current
readings imply the 12m fwd P/E should be moving lower towards 19x as a result of
slowing liquidity growth.
Industry group (IG), bottom-up valuation risk: Using the three valuation
methods based on the above (ERP vs. fair, rates/duration, macro/quality), our analysis
of industry group valuations vs. fair would imply that the 12m fwd P/E for Semis,
Software & Svcs, and Food & Staples Retail have ~10% downside. Insurance and
Materials are moderately more sheltered from valuation headwinds.

Figure 52: S&P 500 EPS forecasts and price targets Figure 53: S&P 500 quarterly EPS profile (UBS forecast
seasonally adjusted)
Current 70
2018 2019 2020 2021E 2022E 2023E Slower EPS growth after
/ LTM 65 Q2 '22
Price $4,680 $2,507 $3,231 $3,756 $4,650 $4,850 $5,000 60
% yoy -6.2% 28.9% 16.3% 23.8% 4.3% 3.1% 55
% chg vs current -0.6% 3.6% 6.8%
50
Earnings per share $193.0 $161.6 $163.1 $140.5 $213.0 $239.0 $252.0 45 Est tax hit of 2.2%
on '22 EPS
% growth 22.7% 0.6% -13.9% 51.6% 12.2% 5.4% 40
35
P/E multiple (trailing) 24.3x 15.5x 19.8x 26.7x 21.8x 20.3x 19.8x
30 S&P 500 EPS quarterly
% change -23.6% 28.1% 35.0% -18.4% -7.0% -2.2%
25
P/E forward (implied) 21.5x 14.4x 18.2x 22.4x 19.5x 19.2x 18.9x Q1 Q3 Q1 Q3 Q1 Q3 Q1 Q3 Q1 Q3
% change -23.6% 28.1% 23.6% -13.3% -1.1% -1.8% 19 19 20 20 21 21 22 22 23 23
Source : FactSet, UBS Source : FactSet, Bloomberg, UBS
Figure 54: S&P 500 performance following peak growth Figure 55: S&P 500 performance vs. earnings momentum
conditional on how long EPS growth remains strong level and change
(>10%)
12% S&P 500 3m % change Earnings momentum change (3mon)

(median) Bottom 25 to 50 50 to 75
Top quintile
10% quintile %tile %tile
8%
Top quintile (high) -1.5% 2.6% 5.5% 0.0%
6%
Earnings momentum level
4% 50 to 75 %tile -1.2% 4.3% 2.7% 4.2%
2%
0% 25 to 50 %tile -2.4% 3.7% 3.6% 4.9%
-2%
Bottom 25 %tile -10.2% 2.1% 2.7% 4.2%
-4%
6mo or less 6-12mo >12mo
Source : FactSet, UBS Source : FactSet, UBS
Figure 56: S&P 500 forward P/E multiple around ISM cycle Figure 57: Implied change in S&P 500 valuations according
to our models
65 NTM P/E : 20/80 percentile band 125 Implied change in S&P 500 valuations based on different frameworks
ISM mfg. average around the cycle 120 UBS Forecast (PE model) -8%
60 NTM P/E average (indexed at peak) 115
Current NTM P/E (indexed) S&P 500 PB quality model -8%
110
55
S&P 500 PE macro model -11%
105
Equity risk premium model -6%
50 100
ISM cycle and de-ratings -8%
95
45
90 IG macro & quality model -4%
S&P 500 forward P/E 85 IG Duration sensitivity -4%
40 declines by average
80 IG equity risk premium -4%
8% from peak to
35
mid trough 75 -12% -10% -8% -6% -4% -2% 0%
Mid ISM Mid Trou Mid Peak
Peak Peak Trou gh Peak
gh
Source : Haver, FactSet, UBS Source : UBS

Sector, style and sub-industry views/scorecard
To better assess relative performance potential, we standardize different data results by For further details please see Peak
calculating a z-score for key themes - across styles, sectors and industry groups based growth, not peak equities: themes to
on: 1) New momentum using earnings momentum, revision ratios and price play
momentum, 2) Quality level+change based on our composite quality measures, and
low volatility, 3) Growth based on forward EPS and sales growth, 4) Value based on
PEG ratio, composite value score, forward FCF yield and proprietary ERP model, 5) Cycle
focuses on returns during the high but falling phase of the ISM cycle, 6) Pricing power
based on our proprietary score which includes variables such as input costs, pricing
strength, markups and margin momentum (link), 7) Fiscal stimulus and taxes includes
potential tax impacts on EPS (link) and sensitivities to fiscal stimulus news sentiment, 8)
Dividend growth uses dividend growth probabilities from our machine learning model
(link), 9) Consumer upside/Covid sensitivities includes sensitivities to Covid cases
and vaccines as well as exposure to our category spending inflection estimates (link), and
10) Financial conditions based on sensitivities to real yields and Fed liquidity.
Energy, Financials and parts of TMT over defensives and Materials. As the Overweight: Comm Svcs, Tech,
expansion takes hold, our frameworks support staying long parts of growth and value Energy, Financials, Small Caps
while maintaining underweights in defensives (link). We remain overweight Comm Svcs (tactically)
and Tech on strong growth+momentum and pricing power as well as historically strong
returns at this stage of the cycle, preferring Media, Interactive Media & Svcs, Tech Hdwr
& Equip and Application Software. We stay o/w Financials and Energy as asymmetries to
a "growth stays high" and rising rates scenario points to a tactical catch up that has
further to run. We stay u/w Materials given downside risks to a slowing durable goods
and property investment backdrop (China, commercial). Industrials and Consumer
Discretionary are a neutral+, as pockets of those sectors look attractive such as Autos,
Apparel, Machinery and Airlines. We remain tactically overweight small caps as relative
valuations (vs large) fell to historical lows and earnings momentum remains strong.
Figure 58: Sector and industry group summary recommendations and scoring across themes
Quality -
Composite New Pricing Fiscal stim Covid Fin
level and Growth Value Cycle Div Growth
score (Z-score) Momentum Power and taxes Sensitivity conditions
change
Comm Svcs
Energy
Financials
Technology
Industrials
Cons Disc
Real Estate
Materials
Health Care
Cons Staples
Utilities
Cons Dur & App

Autos & Comp
Banks
Media & Entertain
Capital Goods
Div Financials
Energy
Tech Hdwr & Equip
Insurance
Consumer Svcs
Semis & Equip
Software & Svcs
Transportation
Comm & Prof Svcs
Real Estate
Pharma Biotech & LS
Materials
Retailing
Food Bev & Tob
HC Equip & Svcs
Telecom
Food & Stap Retail
HH & Personal Prod
Utilities
Source : UBS

Bhanu Baweja
5. Sustained inflation & stagflation: Return impact & hedges Artour Danilov
We see DM inflation above 2.5% as being transitory. But what if we are wrong? How Stuart Kaiser
sustained inflation impacts returns will depend on the broader context of growth, rates
and credit spreads. These influences, in turn, will be driven by what causes inflation
expectations to rise - supply constraints or excess demand. In the real world, the driver
won't exclusively be one or the other; the most likely path to sustained inflation is a long
spell of strong growth, compounded by a few supply worries. But in this essay we model
a more extreme stagflationary scenario as well. Our assumptions are in Figure 59.
First, we calculate the inflation pain thresholds for each market (Figure 60): the A 50 bps rise in inflation from a level
point, where inflation goes from helping to hurting returns. Where exactly does that of 1% y/y impacts the market
beta flip? For the S&P 500, higher inflation turned into a negative influence at a level of differently than does a similar rise
5-year inflation breakeven of 2.8% (currently 2.9%), other things being equal. Other from 4% y/y. For each market, we
things were not equal, however, – real rates fell, growth improved, and credit spreads identify the threshold of inflation
contracted – and the index has continued to rise. In contrast to the US, higher inflation is expectations where it flips from a
likely to remain a positive influence on European equities till inflation expectations positive to a negative influence on
exceed 3.1%. As we anticipate inflation expectations to remain elevated over the returns.
coming 3 months, we see European equities outperforming US over this time frame.
Second, we lay out the current inflation and real rate sensitivities of each Europe still likes higher rates and
market and across industries (Figures 62, 63, 64 and 65). These sensitivities will inflation, as does US Value.
change as growth, credit spreads, real rates and inflation interact in more extreme US Growth, EM Retailing, Consumer
scenarios, like sustained inflation and stagflation (being able to anticipate these changes Durables, Semiconductors and Tech
is the advantage of the model), but today's numbers show Italy, Spain and France have Hardware like neither.
the highest positive betas to inflation and real rate increases, while EM is the most
impacted on both, especially real rates. US Small cap can cope for a while with higher
inflation, but no longer with higher real rates. US Value still likes both, and US Growth
likes neither.
Third, sustained inflation, even if it is demand-driven, will likely lead to 3y Even demand-pull inflation, if
cumulative equity returns being down 10-15% (Figure 66). Our return attribution sustained, will likely mean 3-year
analysis for S&P 500 (Figure 61) shows that since the bottom in March '20 the liquidity returns are 10-15% below the
contribution to gains (49%) has been twice that of growth (25%). Amidst sustainably baseline. Nasdaq or SOX puts provide
higher inflation we will likely see the Fed taking rates well through neutral towards cheap protection today.
3.25%. Even modestly stronger growth than the baseline won't be able to compensate
for this liquidity hit. Higher rates will hit Tech-heavy SOX and Nasdaq modestly more
than the S&P 500, which in turn would underperform Europe. Value will likely
outperform Growth, but Small Cap will likely underperform Large Cap. With the
ECB lagging, the USD is likely to be bid against the EUR and EM. G10 Commodity
currencies AUD, CAD and NOK will likely be the winners.
Fourth, in a stagflationary state 3y cumulative equity returns are likely to be In the unlikley event of stagflation,
down 40-50% (Figure 66), according to our model. Small Caps & EM equites, where equities will likely see returns 40-
margins were comparatively weak to begin with, would be hit the most. Real rates are 50% below the baseline.
likely to stay deeply negative, but a blow-up in credit spreads will tighten financial
conditions significantly, which should hurt Value stocks more than Growth stocks. As
betas to inflation flip for European equities at higher levels of inflation, Europe would
underperform the US strongly under this outcome.
Fifth, puts on the SMH (Semiconductors) and IWM (Small Cap) would be our Low vol. and skew makes puts on
preferred hedges for higher inflation (worry about rates) and stagflation SMH, Small Caps and EM attractive.
(worry about negative margins among other things), respectively (Figure 67). Long USD call against ZAR should
EM puts work under both scenarios. Both Nasdaq (QQQ) and Semis (SMH) 3-month well work in the base case and better
implied volatility screens low on a relative value basis to global/sector peers, while under the inflation risk case
normalized skew is below its 5-year average in both cases. IWM and EEM equity implied
volatility screens fair, while skew is attractive enough that one can hedge via puts, rather
than put spreads, despite this being a low probability event. Most major central banks
will likely keep rates unchanged, while EM central banks will have to hike into recessions
to keep FX and inflation expectations from becoming unhinged. The USD is likely to be
bid strongly and broadly, as vol. spikes. We've picked long USD calls against the
ZAR among our top trades for next year. This should perform particularly well in a
stagflationary environment.

Figure 59: Inflation scenarios: US real yields, inflation expectations, corporate high yield spreads and growth expectations
5 year US real yield 5 year US inflation expectations US Corporate HY spread US Expected Growth Index
Base-case Sustained inflation Base-case Sustained inflation Base-case Sustained inflation Base-case Sustained inflation
Stagflation 20 year average Stagflation 20 year average Stagflation 20 year average Stagflation 20 year average
5.5% 9% 1.40
0.5%
1.35
5.0% 8%
0.0%
1.30
4.5% 7%
-0.5% 1.25
4.0% 1.20
-1.0% 6%
3.5% 1.15
-1.5% 5%
1.10
3.0%
4% 1.05
-2.0%
2.5%
1.00
-2.5% 2.0% 3%
0.95
-3.0% 1.5% 2% 0.90

21 22 23 24 21 22 23 24 21 22 23 24 21 22 23 24
Source : UBS. Note: a) US real yields are based on 5 year TIPS yields, b) inflation expectations are based on 5 year TIPS breakeven inflation rate, c) expected growth index based
on model to fit US Manufacturing ISM.
Figure 60: Inflation pain points: levels where return betas Figure 61: Contributions to S&P 500 cumulative changes
to inflation expectations flip from positive to negative since April 2020
6% Contributions to S&P 500 cum change since Apr 2020
4,950
5.3%
5% Other factors Growth Liquidity S&P 500

4,450
4%
3.3%
3.1% 3.1% 3.1% 3.0% 2.9% 2.9% Current = 2.9%
3,950
2.8% 2.7%
3% 2.8% 2.8%
2.1% 2.0%
2% 3,450
1.1%
1%
2,950
0%
SOX Spain France Italy US Value Euro Stoxx US Small UK Germany Euro Stoxx S&P 500 US Large US EM Nasdaq
50 Cap 600 Cap Growth 100 2,450
Apr-20 Jun-20 Sep-20 Dec-20 Mar-21 May-21 Aug-21
Source : Bloomberg, Datastream, UBS. Note: based on 5 year TIPS breakeven Source : Bloomberg, Datastream, UBS
inflation rates, monthly data since 2001.
Figure 62: Sensitivity to inflation: Countries Figure 63: Sensitivity to inflation: Industries & Regions
Country/region return betas to 5 year TIPS inflation breakeven rate US EUROPE EM Regional industry group return betas to 5 year TIPS inflation breakeven rates
Negative returns to marginally higher inflation expectations Positive returns to marginally higher inflation expectations Negative returns to marginally higher inflation expectations Positive returns to marginally higher inflation expectations
-3.5 -3.0 -2.5 -2.0 -1.5 -1.0 -0.5 0.0 0.5 1.0 1.5 2.0 2.5 3.0 3.5 4.0
-15 -13 -10 -8 -5 -3 0 3 5 8 10 13 15 18 20
S&P 500 -0.1 Energy 9.4 13.5 18.7
Materials 3.2 4.2 4.7
Nasdaq 100 -3.3
Cap Gds -3.9 -0.9 2.5
SOX -3.4 Insurance -3.9 2.3 7.5

Media & Ent -4.5 0.5 2.1
Spain 3.8 0.5 1.7
Utilities 1.4
Telecom Serv -2.5 -0.7 0.9
Italy 2.5
Software & Svs -7.3 -2.2 0.6
France 2.3 Transportation -10.5 -5.8 -0.3
Coml/Prof Svs -1.0 -0.7 3.6
Euro Stoxx 50 1.6
Banks -1.4 1.5 11.9
Euro Stoxx 600 -0.2

H/H & Personal Prod -4.6 -2.0 -0.8
Div Financials -2.3 -0.8 6.2
Germany 0.1 Food Bev & Tobacco -2.1 -1.0 -0.9
Cons Svs -3.6 -3.5 2.1
UK 0.9
Tech Hware & Eq -12.2 -3.6
EM -1.0 HTC Equip & Serv -11.4 -3.8 -3.1

Real Estate -4.4 -2.4 1.9
US Large Cap -0.5
Auto & Comp -8.5 -4.9 -4.0
Pharm Bio-T & Life Sciences -7.0 -5.2 -4.6
US Small Cap 0.8
Fd/Staples Rtl -6.4 2.3 3.7
US Growth -2.2 Cons Durb & App -12.5 -6.5 -4.1
S/Con & S/Con Eq -13.0 -8.2 -6.5
US Value 1.3
Retailing -7.7 -2.6 -0.5
Source : Bloomberg, Datastream, UBS. Note: a) based on betas to changes in 5 year Source : Bloomberg, Datastream, UBS. Note: a) based on betas to changes in 5 year
TIPS breakeven inflation rates since 2001, b) a beta of -3.3 implies a hit of -3.3% for TIPS breakeven inflation rates since 2001, b) a beta of 18.7 implies an increase of
a +1pp rise in inflation breakevens. These betas change with the level of inflation +18.7% for a +1pp rise in inflation breakevens. These betas change with the level
breakevens, real rates, HY spreads and growth. of inflation breakevens, real rates, HY spreads and growth.

Figure 64: Sensitivity to real rates: Countries Figure 65: Sensitivity to real rates: Industries and Regions
Country/region return betas to US 5 year real rates US EUROPE EM Regional industry group return betas to US 5 year real rates
Negative returns to marginally higher real rates Positive returns to marginally higher real rates Negative returns to marginally higher real rates Positive returns to marginally higher real rates
-7.5 -7.0 -6.5 -6.0 -5.5 -5.0 -4.5 -4.0 -3.5 -3.0 -2.5 -2.0 -1.5 -1.0 -0.5 0.0 0.5 1.0 1.5 2.0 2.5 3.0 3.5 4.0 4.5 5.0
-15 -13 -10 -8 -5 -3 0 3 5 8 10 13 15 18 20
S&P 500 -0.1 Energy -3.1 -0.9 6.8
Materials -6.7 -1.4 -1.4
Nasdaq 100 -1.9
Cap Gds -4.6 0.0 2.8
SOX -3.1 Insurance -5.9 4.5 7.4

Media & Ent -3.7 -0.3
-2.2
Spain 3.1 Utilities -2.6 0.4 4.3
Telecom Serv -6.3 0.6 3.2
Italy 3.5
Software & Svs -8.9 -0.5 1.9
France 3.1 Transportation -6.0 -1.5 2.1
Coml/Prof Svs -6.3 -1.6 1.2
Euro Stoxx 50 2.7
Banks -5.2 4.7 5.1
Euro Stoxx 600 0.9

H/H & Personal Prod -3.1 0.2
2.3
Div Financials -5.2 4.1 6.5
Germany 1.3 Food Bev & Tobacco -3.0 0.9
0.5
Cons Svs -6.1 1.6 4.2
UK 1.4
Tech Hware & Eq -12.3 -3.6
EM -6.7 HTC Equip & Serv -12.8 -1.6 1.0

Real Estate -4.6 -1.6 -0.6
US Large Cap 0.5
Auto & Comp -5.9 1.9 2.4
Pharm Bio-T & Life Sciences -6.0 -0.6 1.4
US Small Cap -0.3
Fd/Staples Rtl -1.9 -0.8 6.1
US Growth -0.5 Cons Durb & App -10.5 -1.4 1.1
S/Con & S/Con Eq -12.1 -5.2 -4.0
US Value 1.3
Retailing -7.7 1.2 3.9
Source : Bloomberg, Datastream, UBS. Note: a) based on betas to changes in 5 year Source : Bloomberg, Datastream, UBS. Note: a) based on betas to changes in 5 year
TIPS yields since 2001, b) a beta of -1.9 implies a -1.9% hit for a +1pp rise in real TIPS yields since 2001, b) a beta of -0.9 implies a -0.9% hit for a +1pp rise in real
rates. These betas change with the level of inflation breakevens, real rates, HY rates. These betas change with the level of inflation breakevens, real rates, HY
spreads and growth. spreads and growth.
Figure 66: Model simulation: 3-year cumulative returns under a) sustained inflation & b) stagflation
Sustained inflation Stagflation
0%
-10% -7.0% -7.7%

-8.8%
-11% -12%
-13% -13% -13% -13%
-15% -16%
-17%
-20%
-20% -21%
-22%
-30%
-32%
-34%
-36%
-40% -37%
-39% -40%
-42% -42%
-46% -46% -46%

-50% -48%
-49%
-53% -54%
-60%
France Germany Euro Spain UK Euro US Large US Value S&P 500 US Italy Nasdaq SOX US Small EM SOX Germany Nasdaq US US Large S&P 500 UK US Value Euro Spain EM France Euro US Small Italy
Stoxx 50 Stoxx 600 Cap Growth 100 Cap 100 Growth Cap Stoxx 50 Stoxx 600 Cap
Source : Bloomberg, Datastream, UBS. Note: to simulate future returns we use a conditional beta state-space model. This estimates return betas to changes in inflation
breakevens, real rates, high yield credit spreads and growth as a functions of the levels of these variables. These betas therefore change, in some cases aggressively, as the
underlying variables become more extreme.
Figure 67: 5-year percentiles for 3-month implied volatility and skew across equity indices
100
90
80
70
60
50
40
30
20
10
0
Nasdaq 100
Nasdaq 100
Semiconductor
FSTE China 50
Semiconductor
FSTE China 50
Technology
Nikkei 225
DAX
DAX
Technology
Nikkei 225
MSCI EM
MSCI EM
Russell 2000
MSCI Taiwan
MSCI Taiwan
Russell 2000
S&P 500
S&P 500
MSCI World
Hangseng
MSCI S Korea
MSCI S Korea
MSCI World
Hangseng
S&P ASX 200

EuroStoxx 50
S&P ASX 200
EuroStoxx 50
3m implied volatility 3m 95/105 normalized skew
Source : Bloomberg, UBS. Note: SMH US and XLK US used for Semiconductor and Technology respectively.

Jonathan Pingle
6. What would make the Fed dovish and the ECB hawkish in Samuel Coffin
Andrew Dubinsky
2022? Pablo Villanueva
Sharply slowing inflation is the single most likely reason for a dovish Fed next year. In our Reinhard Cluse
forecast, core PCE price inflation softens from 4.2% in Q4 2021 to 1.6% in Q4 2022. Anna Titareva
This contrasts with the Fed's median forecast of 2.3% inflation in 2022. Our view rests
upon a rise in labour force participation which eases wage pressures, and a rotation of
consumption away from goods and toward services which reduces other supply chain
pressures. Low inflation will likely make the Fed
dovish next year
Labour force participation is pro-cyclical and a strengthening economy should lead it to The rise in labor force participation
rise in 2022. In the most recent two recoveries prime-age participation rose 40bp in the that we expect would likely ease
12 months after the unemployment rate fell below 5%. In contrast it only rose 10bp in wage pressures
the prior 12 months. In other words, participation increases much more sharply once the
unemployment rate falls below 5%. Another sign of a likely increase in participation is
that the percentage of people out of the labour force who want a job remains higher
than in 2019 when participation was rising.
We also expect that the rotation of consumption away from goods will intensify next Below-trend growth of consumption
year. Goods consumption surged in the US during the pandemic as services of goods should put downward
consumption was greatly reduced. As the economy continues to normalize, goods pressure on inflation
consumption should slow — a rotation that should be intensified by recent abnormally
large price increases in core goods. Also, transfer payments are falling, which should
lessen growth of demand for goods disproportionately. Beyond those immediate
influences, there is also a long-term downtrend in consumption of durables. Already,
consumer surveys suggest demand for these is set to soften.
The other factor that could lead to a dovish Fed in 2022 is the external sector. For A China shock that tightens global
example, in 2016 rising growth concerns from China contributed to elevated financial financial conditions, would likely
market volatility. Rising credit spreads linked to low commodity prices led the Fed to put make the Fed dovish
the hiking cycle on hold during most of 2016. Back then, the main channel of
transmission was the oil sector. Investment in this sector represented over 1.2% of US
GDP. This is less of a concern now given a significant decline of this share. Therefore, the
main channel of transmission this time around would likely be a tightening of global
financial conditions.
With its new monetary policy strategy and forward guidance from July 2021, the PEPP forecast to end after March
ECB has raised the hurdle for policy normalisation. The ECB expects that following its 2022, but APP to continue at least
current spike, inflation will fall back below its 2% target in 2022 and stay there in 2023; until 2023
our own forecast also assumes that the current spike in inflation will be transitory.
Hence, we forecast that the ECB will switch off its Pandemic Emergency Purchase
Programme (PEPP) after March 2022, but continue with its Asset Purchases Programme
(APP) – and keep the depo rate at -0.5% – at least until the end of 2023.
But what could make the ECB more hawkish in 2022? We believe such a shift could The ECB could become more hawkish
ensue if the ECB were to grow more confident that inflation will be at or above 2% in should inflation be at or above 2% in
2023 and 2024 – which, in turn, could be due to the following three developments: 2023 and 2024. This could be due to
First, the post-pandemic normalisation of services prices (i.e. service price increases stronger services price adjustments,
following price declines earlier in the crisis) might be more forceful and sustained than tighter-than-expected post-pandemic
anticipated. We have estimated that this could raise inflation by an additional 40-50bps, labour markets, or stronger wage
which could trigger pro-inflationary second-round effects (Figure 71). Second, Eurozone growth
labour markets might turn out to be tighter, and hence produce more wage growth,
than the ECB anticipates. Labour market slack might be overestimated because of a
permanently lower participation rate or because the reallocation of labour between
different sectors that has been triggered by the crisis might be more time-consuming
than expected (Figure 72). And third, and closely related to the previous point, wage
growth might pick up substantially, lifting the medium-term (core) inflation outlook. The
current inflation spike has pushed real wage growth well into negative territory (Figure
73) and could trigger much higher wage demands by the unions next year.
As a result, the ECB might have to tighten its communication as of spring 2022, taper Sequence of ECB tightening: asset
the APP during H2 2022 and hike rates as of early 2023 (or even late 2022). Eurozone purchases to end first, then rate
sovereign bond markets and other risk markets might well face difficult adjustments. hikes

Figure 68: Our forecast of Core PCE inflation in Q4 2022 is Figure 69: In the last two recoveries, participation rose
70bp lower than the Fed's median forecast once the unemployment rate hit the four handle
US Core PCE y/y quarterly, % LFPR changes relative to month in which U-3 falls below 5.0%
(period 0), basis points
4.0
60
UBS Fed 40
3.0
20
0
2.0 -12 -10 -8 -6 -4 -2 0 2 4 6 8 10 12
-20
-40
1.0
-60
1Q21
2Q21
3Q21
4Q21
1Q22
2Q22
3Q22
4Q22
1Q23
2Q23
3Q23
4Q23
2005-06 2015-16
Source : Federal Reserve Board of Governors, BEA, UBS. Note: Forecasts start in 3Q Source : BLS, UBS
21.
Figure 70: Energy investment is much smaller in the US as a Figure 71: Eurozone - Impact of the pandemic on service
% of GDP than in 2015-16 following the decline in oil prices prices and apparel
102.5
US Oil Structures and Machinery Inv. % of GDP Index, Dec-19=100
1.4% 102.0
1.2% 101.5
1.0% 101.0
A return to the pre-Covid
100.5
0.8% trend would add 0.45pp to
headline inflation
100.0
0.6%
99.5
0.4%
99.0
0.2%
98.5
0.0%
98.0
Mar-95
Mar-97
Mar-99
Mar-01
Mar-03
Mar-05
Mar-07
Mar-09
Mar-11
Mar-13
Mar-15
Mar-19
Mar-21
Mar-17
Jan-19 May-19 Sep-19 Jan-20 May-20 Sep-20 Jan-21 May-21 Sep-21

Below trend items (trend) Below trend items (Index)
Source : BEA, UBS Source : UBS,Haver. Note: Our calculations attempt to remove changes in the timing
of sales (and the VAT holiday in Germany), which has created large temporary
swings in some prices.
Figure 72: Eurozone labour market recovery has outpaced Figure 73: Eurozone nominal and real negotiated wages
that in the US and UK (% y/y)
index Loss of employment vs pre-Covid 3.0

(adj U3 or shadow unemployment) % y/y
2.5
105
Eurozone (98.3) US (95.3) UK (93.9) 2.0
100 1.5
95 1.0
0.5
90
0.0
85 -0.5
-1.0
80
-1.5
75 -2.0
Jan-12 Jan-13 Jan-14 Jan-15 Jan-16 Jan-17 Jan-18 Jan-19 Jan-20 Jan-21
70 Nominal negotiated wages Real negotiated wage growth
Jan Mar May Jul Sep Nov Jan Mar May Jul Sep
Source : Haver, UBS Source : Haver, UBS calculations

Tao Wang
7. Could China's property downturn threaten global Arend Kapteyn
growth?
China has entered a property downturn due to ongoing structural changes and The fundamentals supporting China’s
recent policy tightening. In the past two decades, China’s property boom, boosted by two-decade property boom are
rapid growth and urbanization, has been a key growth engine (Figure 74). However, the waning, and the government’s credit
growth contribution has declined over time, contributing only 1pp to annual growth on tightening set off a property
average in the 5 years before the pandemic compared to 3.3pp between 2000-2010. downturn, which has been amplified
Even so, property-related credit has continued to dominate China’s credit cycle, and by recent market events
currently accounts for a disproportionate amount of the slowdown in China's credit
impulse (Figure 75). With population growth and rural-urban migration slowing, urban
housing ownership already high at 90% and household leverage rising to 100% of
disposable income, fundamentals supporting China’s underlying property demand
continue to weaken. The government’s use of cash subsidies to replace shanty-town
housing pushed up demand in 2016-18 but that is now over. The post-Covid property
boom has also faded as the government tightened property developer financing in
response to surging house prices in major cities, and earlier in 2021, mortgage
financing. Debt troubles at Evergrande, China’s largest developer, have also tightened
credit access for developers and weakened property market sentiment. This
combination of factors has led property sales and new starts to double-digit declines (-
12.5% and -17.4% y/y) in Q3, which will likely continue in Q4 and Q1 2022. Real estate
FAI is likely to drop by double digits in early 2022 and shrink by 5% in 2022.
A sharper property downturn could lower China’s GDP growth by a further 1¼ A 10% decline in property
ppts relative to our baseline forecast... China’s real estate FAI accounts for about a construction could lead to a 2.5ppts
quarter of total fixed investment, which in turn is almost 45% of GDP (Figure 76). drop in GDP growth, though policy
However, we estimate that the overall property sector drives 25% of the economy via easing and relatively low inventory
direct and indirect channels, with construction material sectors most linked (Figure 77). and excess capacity can help cushion
A 10% or more decline in total construction output (or real estate investment) could the blow
result from a combination of factors: a sector-wide credit crunch, wide-spread defaults,
a further drop in market confidence and delayed policy adjustments to stabilize
financing and property activities. This would lead to a >2.5ppts drop in GDP growth
including second round effects, half of which we already have in our baseline. On the
other hand, easing of credit and property policies and more rental housing construction
could help cushion the downturn. The relatively low unsold inventory levels and much
smaller excess capacity in the upstream sectors compared to the 2014-15 property
downturn will also likely help limit the downside and spill-over effect.
…affecting mainly global commodities and EM growth. Although both China’s China could affect global growth
total debt and property-related debt are high, they are predominantly financed through trade, commodity and
domestically. Defaults will likely rise on some of China’s $200+ bn offshore property financial channels, with outsized
bonds (as of Nov 2021), which would have a negative impact on EM high yield market. impacts on EM and commodities
The main channel of contagion of China’s property downturn is likely through trade,
especially imports of commodities (minerals and metals especially), as demand for
construction materials, machinery, appliances and automobiles drops (Figure 78).
Economies most exposed to China’s domestic demand are commodity producers
including Chile, Australia and Brazil, and Asian economies including Vietnam, Malaysia,
Taiwan, and Korea (Figure 79).
A rough estimate would be that for every 1pp slowdown in China, growth in The slowdown in China's property
trade partners declines by an average of 30bp. In our property slowdown scenario sector is likely already subtracting ½
that's worth about 60bp of global growth loss (2 ½pp*the beta *RoW PPP weight), but pp from global growth and in our
these estimates are very sensitive to the assumed commodity impact (China accounts for more severe downturn scenario that
over 20% of global energy consumption and >50% of metals) — some studies have could double
suggested each 1pp slowdown is worth 7% on oil prices and 8% on metals. Those
effects are arguably larger if the slowdown emanates from the most commodity
intensive sector. The impact also depends on whether Chinese developments affect
financial markets — various studies have suggested that this can double the impact.
With those caveats, if one adds the 'beta-effect' to China's own reduced contribution to
global growth (a 2½pp slowdown would lower it by 46bp) you end up with a combined
impact of 107bp. In any normal year, that's a very large number — it's a little under a
third of annual avg global growth (3.7%) and more than the combined contribution of
DM. But the strength of the pandemic rebound should provide a buffer (we forecast
close to 5% global growth), and half of the China scenario is already in our baseline.

Figure 74: Property was a key growth engine Figure 75: And a large part of China's credit cycles
Growth contribution (ppt) China - credit growth in the property sector and it's contribution to
%GDP
the credit impulse
7 25.0 80%
6 Property contribution CI 70%
20.0 Other credit contribution CI
5 Property credit YoY (rhs) 60%
15.0
4 50%
3 10.0 40%
2 5.0 30%
1 20%
0.0
0 10%
-5.0
-1 0%
-2 -10.0 -10%
-3 -15.0 -20%
00 02 04 06 08 10 12 14 16 18 20 22 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21
Source : CEIC, NBS, UBS estimates Source : CEIC, Wind, UBS estimates
Figure 76: Property investment is about 1/4 of total FAI Figure 77: Industries most affected by property downturn
Growth rate (% y/y 3mma) Impact of 10% decline in property activities on sector output (%)
50 Real estate development Metal mining
45
Infrastructure Non-metal minerals mining
40
35 Non-metal minerals product
Manufacturing
30 Metal product
25 Metal processing
20
Coal mining
15
10 Finance
5 Leasing & commercial services
0 Petro & coking processing
-5 Power & heat production & supply
-10
-15 Metal product & machinery repairing
-20 Wood mfg & furniture
-25 Transport & storage
-30
07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 -6% -5% -4% -3% -2% -1% 0%
Source : CEIC, UBS estimates Source : CEIC, NBS, UBS estimates
Figure 78: Property downturn would weigh on commodity Figure 79: Commodity producers and Asian economies are
imports most exposed to China demand
(%, 3mma)
14 Tai Vie
60
12
50 Construction index Sin
Mal
Exports to China as % GDP
10
Import growth of non-fuel mineral and metal
40 Chile
8
30 Kor Aud
6
20 Per Tha
NZ
4 Rus Bra
Indo
10 Safr.
Cze Ger
2 Euro Phi
0 Arg Can Jap
UK Tur Mex
(10)
0 Pol
US India
(20) -2
-0.5 0 0.5 1 1.5
(30) Beta to 1pp growth slowdown in China
2005 2007 2009 2011 2013 2015 2017 2019 2021
Source : CEIC, UBS estimates Source : CEIC, UBS estimates

Jess Eagel
8. How much can US real rates rise? Mike Cloherty
Rising forward inflation expectations at a time when global central bank rhetoric has Pablo Villanueva
been decidedly hawkish is among the greatest disconnects we see in financial markets.
We think US 10y real yields can rise to -10bps by year-end 2022, which represents a 70
basis point sell-off above forward rates. We think US 10y real yields can rise
to -10bps by year-end 2022, which
Key to our thinking is that UBS Economists expect monthly inflation gains to ebb and represents a 70 basis point sell-off
headline CPI to fall to 1.5% by December '22 (Figure 80). The 2021 inflation surge was above current forward rates.
largely driven by core goods, which were bolstered by supply chain bottlenecks and
resurging demand. However, while supply chain disruptions should continue to ease, UBS expects core CPI to fall to 1.9%
peak year-on-year inflation is still a few months away, keeping the Federal Reserve by December 2022 after peaking at
steadfast in their hawkish communication. 6.6% in January.
Stalling headline readings should reduce investor demand for inflation protection, Slowing headline inflation should
particularly from nontraditional buyers. TIPS ETFs have seen record net inflows in 2021 calm the media effect, curbing
(Figure 81). In fact, short duration TIPS ETFs, those that track the 0-5 year benchmark, nontraditional investor demand for
have not seen one week of net cumulative outflows. These flows have coincided with a real rates
surging media effect.
At the same time as demand is easing, the TIPS market will be contending with positive The supply/demand technicals, which
net supply for the first time since 2019. Under our baseline, we forecast net TIPS supply have been tailwinds in 2020/2021,
to be $43bn for 2022 and expect the net real duration to be absorbed by private should turn into headwinds
investors to be $62bn in 10y equivalents, after being $0bn in 2021 and negative $118bn
in 2020. In fact, we estimate this will be the largest TIPS duration issued to private
investors since 2015 (Figure 82). Reduced demand and rising supply should allow
inflation markets to find a clearing level more consistent with the Fed's FAIT framework,
first introduced in 2020.
Option-implied inflation outcomes endured a seismic shift since the start of the global The implied probability of persistent
pandemic. Inflation rates over the next 5 years implied by caps & floors show that the inflation overshoot is at the highest
probability of the Fed underachieving their inflation mandate is at the lowest level since levels in the last 5 years
2018. Moreover, the implied probability of an overshoot is at the highest levels in the last
5 years (Figure 83).
This correction should coincide with a normalization of inflation risk premium. There are Higher net supply and reduced final
material differences in inflation term structures globally, which we proxy from the demand should also help correct the
difference between 6y1y inflation rates and 9y1y inflation rates (Figure 84). The US and term structure of inflation curves
UK have premium significantly concentrated in the front end, whereas Europe, Canada,
and Australia continue to see upward-sloping term structures. If demand stalls for front-
end inflation protection due to disinflationary pressures, we'd expect that to coincide
with a steepening of the breakeven curve, which poses additional bearish concerns for
real yields given the concentration of positioning in short-dated TIPS.
With spot inflation elevated, carry on TIPS should be attractive over the next six months. Elevated front end rate sensitivity
However, we do not see this as comparable to the 2021 summer months, when short limits the attractiveness of carry in
rates were anchored globally, and front end rate volatility was particularly low. While TIPS
carry is compelling, the increased volatility associated with Central Bank hawkishness
and commodity prices is likely to keep investors more cautious.
Finally, forward real yields are below fair value. The median long-term dot is 2.5%, and 5y5y forward real yields are roughly
the Fed's implied CPI target is 2.4% (assuming 2% PCE and a 40bp CPI/PCE wedge), 35bps rich to fair value
making forward real rates fair at +10bps (Figure 85), though they are -25bps currently.
Even still, we would not expect a material overshoot from our target. This would likely
require overly tight monetary conditions or a very oversupplied real rate market, each of
which are unlikely in the near term.
The risk to our outlook is that domestic inflationary pressures persist but are exclusively Risks to outlook stem from continued
driven by supply side bottlenecks or commodity gains. Since Fed policy acts with a lag supply-side driven inflation that does
and is better targeted toward aggregate demand, the Committee might forgo rate not warrant a change in monetary
hikes, continuously hoping that supply chain efficiencies realign themselves. policy

Figure 80: UBS forecasts headline CPI inflation to fall Figure 81: Cumulative inflows into short-dated TIPS ETFs
($bn)
12%
3m Annualized 6m Annualized YoY 15

10%
y2016
13
8% y2017
11
y2018
6%
9 y2019
y2020
4% 7
y2021
2% 5
3
0%
1
-2%
(1)
-4%
(3)
-6%
(5)
Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec
Source : UBS Economics Source : Bloomberg
Figure 82: TIPS supply technicals should flip from a tailwind Figure 83: Option-implied inflation landing zones for 5y
to headwind in 2022 CPI
200 p(below target) p(within 50bps target) p(above target) 5y CPI Swap (rhs)
Gross Supply (notional $bn) Net Supply (notional $bn) 100% 4.5
150
100 90% 4
50
80%
3.5
0
UBS Forecast 70%
-50 3
-100 60%
2.5
-150 50%
2015 2016 2017 2018 2019 2020 2021 2022 2023
2
10 40%
Net TIPS Dv01($mm) Issued to Private Investors
5 1.5
30%
0 1
20%
-5
10% 0.5
-10
-15 0% 0
-20
2015 2016 2017 2018 2019 2020 2021 2022 2023
Source : UBS Economics, Haver, Federal Reserve, US Treasury Source : Bloomberg, UBS calculations
Figure 84: Global inflation risk premia (bps) - US & UK Figure 85: 5y5y real yields are ~35bps rich to fair value
inverted compared to CAD/AUD/EUR implied by the Fed targets
150
5y5y RY Median Fed Dot Less Implied Core Target
USD Premium Euro Premium (min/max Fed Dot Range Shaded)
GBP Premium CAD Premium
AUD Premium 2.5
100
50 1.5
0
0.5
0
-50
-0.5
-100 -1
Source : Bloomberg, UBS calculations Source : Bloomberg, UBS calculations

Pierre Lafourcade
9. Is global capex about to take off? Arend Kapteyn
In a typical business cycle, business investment (with an assist from residential Niall MacLeod
investment) falls much more sharply than consumption, which is buffered by savings
drawdowns. The pandemic recession, by contrast, is different in two respects: (i)
consumption fell twice as fast as investment (6 vs 3 standard deviations for the median Investment fell less than
country) while savings increased; and (ii) investment rebounded much sooner than in consumption during the pandemic
previous recessions. On average for our sample of countries, investment levels are (the opposite of typical recessions)
currently 5 pp above their pre-pandemic peaks (Figure 86), when on average they would and recovered much more rapidly
just be bottoming out 7 quarters after the start of a recession (Figure 41 in the first
essay). By these metrics, the investment recovery is already here.
Investment levels nonetheless have fallen short of where we thought they would be Despite the sharp rebound, the stock
before the pandemic hit (the blue bars in Figure 86) — many countries, especially in EM, of capital (and manufacturing
had high projected investment growth paths. Although investment levels currently capacity) is lower than where it
exceed pre-pandemic peaks, cumulating their shortfall relative to expectations implies would have been without the
the overall stock of capital (and, for instance, manufacturing capacity) is below where it pandemic
would have been without the pandemic (more on this below). Only Taiwan and Turkey
(and Australia marginally) have outperformed. Viewed through this lens, there is thus
potential pent-up investment demand to make up for lost ground, which can be
considerable for countries with high run rates (e.g. Vietnam).
Investment decisions are currently likely dominated by expectations of strong demand. Investment decisions are clouded by
But firms will be aware that at least a portion of the current strong demand is not uncertainty over whether the
sustainable if — as the pandemic dissipates — expenditure switches back from goods to pandemic-induced excess 'goods'
services. This should induce caution about capex plans. At the same time, capacity demand is sustainable, and whether
shortages in the production (and delivery) of goods are rife, suggesting that even if bottlenecks signal a structural
goods demand cools somewhat, current capacity may need to be augmented. shortage in manufacturing capacity
There has also been massive labour shedding, and each firm will need to make fresh The global capital labour ratio has
decisions on the optimal mix of capital (investment plans) and labour (rehiring plans). been thrown out of whack, but
The capital-labour ratio determines the path of future output and investment, as well as mostly because of labour shedding,
returns to capital and wages. This ratio has been thrown completely out of whack not capital decumulation. As
relative to trend at a global level, mostly from labour shedding (the denominator) and employment is not even back at
(3)
only a little from capital decumulation (Figure 88 and Figure 89). Across countries the trend in (excess demand) 'goods'
dispersion in experiences is large (Figure 89) with labour being shed relative to trend in sectors, part of the increased capacity
most countries, but capital accumulation or decumulation varying greatly. In particular, will come from labour market
the US and the Eurozone have lost only a little capital relative to trend, but far more healing
labour. Accordingly, their capital-labour ratio has shot up. With their weight (>60%) in
our sample (which does not include China for lack of data), they dominate in the global
profile in Figure 88. To the extent that the underlying TFP and population trends were
not permanently affected by Covid (a mild assumption), we should expect deviations to
wash out eventually. For countries with positive deviations, that implies bringing labour
back up to trend, or decumulating capital, or a mixture of both. For countries with
negative deviations, it heralds labour shedding, capital accumulation or both.
So what do we think happens? Our existing forecast is that global fixed investment next However, firms seem to be making
year increases by 5½%, which is 2pp more than the 5y average pre-pandemic. Our the call that they need more
equity analysts on the surface are a bit more optimistic (an 8% capex increase for listed investment. Forward-looking
companies), but historically they have actually been too conservative in their forecast. indicators for the US are running at
Forward-looking indicators for the US, for instance, are currently suggesting growing 20-year highs and Eurozone surveys
optimism and/or increasingly binding capacity constraints that may trigger investment show a sharp increase in capex
responses significantly larger than what we have pencilled in our forecasts. Fed surveys intentions — there is significant
of forward capex intentions have surged (Figure 90) to the highest levels since the early upside risk to our investment
'00s, and they tend to lead official fixed investment statistics by 3-6 months. Similarly, forecasts
UBS Evidence Lab capex intentions in the Eurozone have rebounded dramatically (Figure
91).
3.
We grow capital out from investment assuming the same depreciation rate for all countries — results are not sensitive to the value of
depreciation given the small window of analysis and de-trending. Figure 88 shows the PPP-weighted world aggregates for capital and
labour and their pre-pandemic trends, which essentially reflect TFP and population growth.

Figure 86: Investment shortfalls vs pre-pandemic forecasts Figure 87: Global capital and labour growth vs trend
Vietnam had the largest investment increase during World capital vs world labour
%
the pandemic but still fell 3% short vs our pre-Covid
15 104 world capital actual
forecast
world employment actual
102
world capital trend
10 world employment trend
100
log index (Q4-2019=100)

5 98
96
0
94
-5 92
90
Shortfall vs forecast in Q4-19
-10
88
Increase in investment during pandemic
-15 86
2014 2015 2016 2017 2018 2019 2020 2021
Jap
Tai
Phi
India
Ger
Mex
Indo
Euro
Swi
NZ
HK
Mal
Pol
Hun
Ita
SA
Sin
Vie
Spa
Kaz
China
Chil
Kor
Aud
UK
Bra
Can
Cze
Tha
Fra
US
Tur
Figure 88: Almost all of the global increase in the capital- Figure 89: Deviation capital/labour ratio from trend (by
labour ratio comes from labour shedding country & contribution)
Contributions to changes in the capital-labour ratio percentage points

16
15 labour shedding (red bar positive)
14
10
12 labor contribution
10 capital contribution 5
8 capital-labour ratio (deviation from trend)
0
6
4 -5 labor contribution
capital contribution
2 net capital labour ratio deviation from trend
-10
0 lack of investment (blue bar negative)
-2 -15
2014 2015 2016 2017 2018 2019 2020 2021
Tai
Euro
Jap
Swi
Mex
Phi
NZ
Indo
Pol
HK
Rus
Bra
Kor
Aud
Mal
US
Can
Thai
UK
Tur
Sin
SA
Figure 90: US capex intentions (1st principal component of Figure 91: Eurozone: hiring vs capex intentions
regional Fed surveys)
z-score
US capex intentions (surveys) vs actual investment Eurozone- net capex vs net hiring intention
3 Net % firms
50%
2
40%
1
30%
0
20%
-1 10%
-2 0%
-3 -10%
-4 investment cycle -20% % of firms planning to increase employment next 12m

1st principal component capex intention surveys (lagged 6m) -30% % of firms planning to increase capex next 12m
-5
99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22 15 16 17 18 19 20 21
Source : UBS, Haver Source : UBS Evidence Lab (> Access Dataset)

Alan Detmeister
10. How far are goods and services from normalising? Andrew Dubinsky
On a global scale, the slowdown in goods consumption upon the outbreak of the Covid
pandemic was short-lived. By the end of last year, we estimate that nominal spending on
goods had returned to its pre-pandemic trend, and in recent quarters has risen above Spending on goods is slightly above
trend (Figure 92). In contrast, only in Q2 of this year did nominal spending on services its pre-pandemic trend, but services
return close to its pre-pandemic level, but it nonetheless remains roughly 11 percent spending is 11% below
below what would be expected given its pre-pandemic trend.
The gap between the recovery in goods and services spending is also pronounced when Goods spending is at or above trend
looking across countries. Goods spending is at or above the pre-pandemic trend in half in roughly half of all economies (less
of the areas for which we have estimates. On the other hand, services spending has not than might be implied by the 'global
returned to trend in any country (Figure 93). The US and Singapore have seen the goods shortage' narrative), but
strongest goods spending, at 15 and 11% above trend, and Poland and the US the least services spending has not returned to
depressed services spending, at 2 and 4% below trend. In contrast, Malaysia is among trend in any country
the bottom in both the goods and services recovery. Goods spending is 15 to 27%
below trend in South Africa, Malaysia, and India, and services spending is less than 80%
of trend in Malaysia, Thailand, Philippines, Hong Kong, and India.
Looking at specific industries, retail visits based on Google data have mostly recovered While restaurant reservations and
from their pre-pandemic decline — consistent with the strong recovery of goods retail visits have largely recovered,
spending — but nonetheless remain roughly 4½ to 5% below their earlier level, which air travel remains moribund
likely reflects the considerable growth in online shopping (Figure 94). Restaurant
reservations have also recovered strongly despite the weakness in services consumption
and are back to their pre-pandemic levels, but this index from OpenTable does not
account for trend growth that would have occurred without the pandemic and likely is
heavily weighted toward countries, notably the US, where the services recovery has been
more robust. More tellingly, air travel remains moribund with revenue passenger
kilometers less than half of the pre-pandemic level despite a greater recovery in the
number of flights. Weakness in air travel is particularly apparent in international flights
(which generally are longer and therefore get more weight in the index shown in the
figure), and, even domestically, passenger loads per flight are below their 2019 levels.
The depressed services spending during the pandemic has fed through to employment: Employment in both the goods and
services employment is below trend in all except one country, and even there the services sectors remains below pre-
strength may be misleading as employment in Thailand was weak over the 2018q1 to pandemic trends in all except a few
(4)
2019q4 period we use to set the trend (Figure 95). While goods employment has countries, but services employment
fared better than services employment in 15 of our 19 countries, goods employment has has fared relatively better than
not been particulary strong either, with only 4 countries showing goods employment goods
above the pre-pandemic trend. The reallocation of employment across sectors during
the pandemic has been much less dramatic than changes to spending. For example, in
services the median country has services spending 11% below trend, but the median
services employment is only 4% below trend. For goods, it is reversed with median
spending right at trend, but employment 2% below.
The differences in spending and employment are partially a result of differences in Relatively strong DPI growth in the
disposable personal income (DPI), which itself is driven by the composition of fiscal US likely helped the recovery in both
stimulus. The greater focus on income support and stimulus checks in the US led DPI to goods and services spending, but
average nearly 5 percent above its pre-pandemic trend from 2020q1 to 2021q2, and supported goods spending more
that income strength fed into stronger goods and services spending in the US compared
(5)
to other countries (Figure 96). Similarly, average DPI during the pandemic has been
the lowest in South Africa and they also have the lowest goods spending relative to
trend. Further, for the handful of countries with both sectoral spending and quarterly
income data, the data suggests that stronger disposable income supported goods
spending more than services spending (Figure 97).
4.
We consider retail employment, along with other areas that clearly support the production and consumption of goods, as goods
employment. That said, there may be some business-to-business services that support goods consumption that are nonetheless classified
as services in our adding up.
5.
DPI is available only through 2021Q2 in all countries except for the US. In the US 2021Q3 DPI was 2.7% above its pre-pandemic trend.

Figure 92: Global goods spending is above its pre- Figure 93: In no country is services spending above trend,
pandemic trend; services spending is 10% below but it is closest in Poland and the US
Index (2019Q4=100) 120% 2021Q3 spending relative to pre-pandemic trend

110
105 100%
100
80%
95
Goods
90 Services
60%
Goods
South Korea
Mexico
Philippines
Poland
Russia
Taiwan
South Africa
India
Japan
Canada
Singapore
Hong Kong
Thailand
US
UK
Indonesia
Turkey
Eurozone
Malaysia
85 Services
80
2018Q1 2019Q1 2020Q1 2021Q1
Source : UBS. Trend based on average 2018Q1 to 2019Q4 growth Source : UBS. Trend based on average 2018Q1 to 2019Q4 growth
Figure 94: Retail visits and restaurant reservations have Figure 95: Employment supporting goods consumption
mostly recovered, but air travel is moribund has fared better than services employment in most
countries
Google Retail Visits, OpenTable Resv., IATA Passenger km 105% 2021Q3 employment relative to pre-pandemic trend
Retail Visits
20 100%
Restaurant Reservations
0 Air Travel 95%
-20
90%
-40
-60 85% Goods
Services
-80
80%
-100
Switzerland
Mexico
Thailand
Taiwan
India
Japan
Singapore
Hong Kong
South Korea
Brazil
Philippines
UK
Canada
Malaysia
Indonesia
South Africa
Eurozone
US
Vietnam
Source : Google, OpenTable, IATA, UBS Source : UBS. Trend based on average 2018Q1 to 2019Q4 growth
Figure 96: Canada and the US have seen the strongest Figure 97: Stronger disposable income supported goods
income growth spending more than services spending
108% DPI relative to pre-pandemic trend 2021q3 Goods spending/services spending (both
112% relative to pre-pandemic trend)
106% US
104%
102% 106%
100% Poland
Japan Canada
98%
100% UK
96%
94% 2021Q2 Eurozone
92% Average during pandemic 94%
90%
South Korea
South Africa
88%
92% 97% 102%
Average DPI since 2020q1 relative to pre-pandemic trend
Source : UBS Source : UBS

Niall MacLeod
11. China equities: Un-investible or finally cheap? Karen Hizon
By mid 2020, China was the first major economy to recover from Covid lockdowns. In
turn earnings had rebounded and been helped in relative terms by favourable offline-to-
online trends. In keeping with the recovery, valuations had become relatively expensive.
The excitement being priced-in to Chinese equities wasn’t to last: monetary tightening,
a slowing economy, disfavourable internet earnings trends and regulation have all taken
their toll. But with the market having now underperformed Global Equities by 28% year
to date, is there a case for a rebound in 2022?
We think so, yes. 16 months on, policy has already tightened and the effects of this have After a strong recovery in 2020,
been working through the economy, valuations and the broader market. Additional Chinese equities have
restrictions relating to the property sector have created risks, but we think they are underperformed by 25% versus
manageable. The worst of the credit impulse is likely behind us and policy looks more MSCI World this year as policy has
neutral from here. tightened, the economy has slowed,
earnings have disappointed and
While China has been slowing this year, a modest sequential improvement as various regulatory interventions have hit
headwinds fade should provide a better backdrop for earnings to improve in 2022. sentiment.
Regulatory headwinds abating should also provide some space for earnings - particularly
in the internet sectors - to rebound.
It would be wrong to pin all the blame for underperformance on cyclical factors. But many of these cyclical factors
Regulation has impacted sentiment most notably toward the internet sector. Some may be fading as headwinds. Key to
investors are concerned that the regulatory uncertainty makes China uninvestable. performance will be how investors
While there is always some degree of uncertainty, the difference today versus a year ago treat regulation from here.
is the degree to which this is being priced-in. With stocks having de-rated, more risk is
embedded. That alone will not be enough to restore confidence. However our work on
comparing regulations in China to those elsewhere in the region and the US/EU suggests
that some fears about government intervention may be overplayed: yes there's been a
lot of regulation over the last 12 months, but as far as anti-trust and data privacy rules
are concerned, rules, remedies and enforcement are broadly in line with global best
practice. As this becomes more apparent we think concerns around the motivation of
regulation are likely to fade, allowing risk premia to subside.
Which brings us to valuation: relatively expensive 12 months ago, valuations have now
derated. China has moved from its highest relative valuation to MSCI World in five years
by mid 2020, toward the lowest relative valuations today. This is also evident within the
market, where more than 60% of stocks now trade below their own five-year average
multiple.
In sum, a year ago, the economy and earnings had recovered, the equity market was With market valuations having de-
expensive and policy was set to tighten. The rest of the world was about to recover, rated from the highest relative levels
valuations were more attractive and policy remained easy. Into 2022, we think Chinese versus MSCI World toward the
growth is likely to bottom, policy remain neutral and valuations are trading below lowest in the last five years, any
regional averages. By contrast, global equities perhaps face some of the slowing and improvement in growth policy or
tightening policy that China faced in 2021. attitudes toward regulation provide
a better platform for outperformance

Figure 98: Chinese equities have substantially Figure 99: Having slowed earlier than most economies we
underperformed global equities this year expect China to rebound somewhat into 2022
120 9.0
MSCI China vs AxJ MSCI China vs World 8.0
110
7.0
6.0
100
5.0
4.0
90
3.0
2.0
80
China World
1.0
0.0
70
Q2 21E Q3 21E Q4 21E Q1 22E Q2 22E Q3 22E Q4 22E
01/01 02/01 03/01 04/01 05/01 06/01 07/01 08/01 09/01 10/01
Source : Refinitiv, UBS Source : Refinitiv, UBS
Figure 100: The credit impulse should turn less negative Figure 101: Regulatory remedies suggest that China's
next year actions are in line with global best practice
Amount (in % of prev yr
200 15 Violation
m) revenue
AA- 5Y credit spread (inverted) Credit impulse (6m lagged, RHS) US
250 Facebook 2019 US$ 5,000 9.0% Data privacy & protection
tight credit spreads 10 Citicorp 2017 US$ 925 1.6% Antitrust
Equifax 2019 US$ 700 20.5% Data privacy & protection
300 Barclays, PLC 2017 US$ 650 5.8% Antitrust
5 EU
Google 2018 € 4,340 4.6% Antitrust
350
Google 2017 € 2,400 3.0% Antitrust
0 Google 2019 € 1,490 1.3% Antitrust
Intel 2009 € 1,060 4.1% Antitrust
400
wide credit spreads China
Alibaba 2021 Rmb 18,228 3.6% Antitrust
-5
450 Meituan 2021 Rmb 3,442 3.0% Antitrust
Tencent 2021 Rmb 0.5 0.0% Antitrust (M&A)
Didi 2021 Rmb 0.5 0.0% Antitrust (M&A)
500 -10
11 12 13 14 15 16 17 18 19 20 21 22 23
Source : Refinitiv, UBS Source : US Federal Trade Commission, US Department of Justice, European
Commission, China State Administration for Market Regulation, press reports, UBS
Figure 102: Relative valuations have moved from Figure 103: It's not just an index composition issue: 60% of
expensive to inexpensive compared to MSCI World Chinese stocks are trading below their five-year average
forward multiples
1.1
70%
% of stocks trading above median P/E Average PE %ile relative to past 5yrs history
1.0 60%
50%
0.9
40%
0.8
30%
0.7
20%
MSCI China vs AxJ PE MSCI China vs World PE

0.6
07-16 07-17 07-18 07-19 07-20 07-21 10%
01-17 07-17 01-18 07-18 01-19 07-19 01-20 07-20 01-21 07-21
Source : Refinitiv, UBS Source : Refinitiv, UBS

Lefteris Farmakis
12. Does the dollar cycle end with the business cycle? James Malcolm
An unusually rapid post-COVID recovery and associated narrowing of the global output
gap raises the issue of whether we should worry about how the dollar behaves in late-
stage expansions. Figure 104 shows that, historically, dollar cycles do not coincide with The dollar cycle is distinct from the
business cycles. The greenback depreciated strongly twice as the economic cycle business cycle
matured (in the early '70s and late '00s), depreciated modestly also twice (in the late
'70s and late '80s), went more or less sideways pre-COVID, and appreciated strongly in
the late '90s.
Accordingly, one must come back to underlying drivers of the dollar cycle per se, and Fundamentals continue to point to
recognize that the greenback has already taken an unusually long pause during its first dollar downside...
leg lower. In last year's FX outlook we went through a checklist of fundamental
variables, from valuations to external imbalances and fiscal and monetary policy
settings. Their evolution still points to further downside in that the dollar remains
expensive, the Fed's AIT has kept US real yields depressed, and global growth is buoyant.
Fiscal settings remain supportive, moreover, and the current account deficit continues to
widen. The latter typically affects currencies with a lag and is yet to translate into the
price-making FX flows.
Figure 105 shows the evolution of US investment outflows (FDI and portfolio) from the ...even as price-making FX flows have
US Balance of Payments, which we have argued matter most for dollar trends. Although lagged
magnitudes are very different compared with fifty years ago, shifts in BoP flows still
match the evolution of the dollar cycle quite well. As of 2020, these flows had yet to pick
up noticeably, languishing instead at their lowest level since 1991: 1.4% of GDP on a 3y
rolling average basis. This is not down to COVID alone but marks the culmination of a
trend that began back in 2015 but took a short break during 2017.
The best explanation of this process is found in excess demand for 'safe' dollar assets. 'Safe' dollar asset demand explains
One can see this via a regression of the 10y term premium in UST on bond market free the lack of US investment outflows...
float, estimated between 2001-10 and fitted out of sample thereafter. This reveals a
substantial build-up of dollar-supportive negative risk premia (hereby defined as the
residual of that regression, per Figure 106). The post-COVID rebound appears to have
weakened this dynamic somewhat, but there remains some way before reversion to
more normal levels.
The implication is that a deepening and maturing of the recovery may hold the key to a ...which should accelerate as the
rotation of investment flows outside the US and resumption of the dollar down-cycle. post-COVID recovery deepens...
Encouraging albeit preliminary signs can be found in the latest BoP data from the US and
Eurozone, where a sharp rise in US equity inflows conceals a marked increase in both
equity and FDI outflows through Q2 2021 (the latest BoP data point available - Figure
107). More timely TIC data suggest this trend extended with a pickup in US purchases of
foreign equities, including for the Eurozone, alongside a cooling down of foreign flows
into US equities. Similarly, monthly BoP data from the Eurozone through August confirm
the resilience of inward equity investment in particular, which has tracked the euro quite
closely during the last decade or so.
So what of faster sequencing of Fed versus ECB policy normalisation and the potential ...and the Eurozone reflates
for bigger real yields divergence? We have already demonstrated that this empirical link
is much looser than commonly believed, with a sub-50% 'hit ratio' between US relative
tightening and dollar strength. Instead, a relentless rise in Eurozone inflation
expectations, now hovering around 2% and standing within 30 bp of pre-GFC (and
therefore target-consistent) levels implies hawkish risks for the ECB, particularly as
financial conditions remain exceptionally easy and real yields are well below -2% (Figure
108).

Figure 104: The dollar cycle does not coincide with the business cycle
NBER US recessions US GDP growth y/y (%)

US Output Gap as Percent of Potential GDP (%) Advanced economies outout gap
10 Real USD (rhs)
150
8
6 140
4 130
2 120
0
110
-2
100
-4
-6 90
-8 80
66 68 70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 12 14 16 18 20 22
Source : Haver, IMF, UBS
Figure 105: Investment outflows key to unlocking the USD Figure 106: A dollar boost from excess 'safe' asset demand
NBER US recessions
5y Δ in Portfolio + FDI outflows (% of GDP) 1.5 10y UST risk premium (%) 1.7
Real USD (rhs, inv.) EURUSD (rhs)
4% 80
1.0
1.6
3% 90 0.5
2% 1.5
100 0.0
1%
-0.5 1.4
110
0%
-1.0 1.3
-1% 120
-1.5
-2% 130 1.2
-2.0
-3% 140 1.1
-2.5
-4%
150
-5% -3.0 1.0
66 71 76 81 86 91 96 01 06 11 16 21 04 06 08 10 12 14 16 18 20
Figure 107: US capital account and the broad dollar Figure 108: Eurozone inflation expectations on rise
Equity out FDI out 5y5y ILS, %, both scales

Equity in FDI in USD
Total (USDbio, 4qms) USD NEER (rhs) EUR
1,000 140 3.5 GBP (rhs) 4.5
GBP, RPI Reform adj.* (rhs) 4.3
750
130 3.0
4.1
500
3.9
120 2.5
250 3.7
0 110 2.0 3.5
-250 3.3
100 1.5
3.1
-500
2.9
90 1.0
-750
2.7
-1,000 80 0.5 2.5
00 02 04 06 08 10 12 14 16 18 20 06 08 10 12 14 16 18 20 22
Source : Bloomberg, UBS Source : Bloomberg, UBS * For the RPI adjustment in GBP 5y5y ILS see here.

Manik Narain
13. What lies ahead for EM rates after a 'taper-less' Rohit Arora
Roque Montero
tantrum? Alireza Kharazi
The ink is barely dry on the Fed's decision to begin tapering, but EM local yields have Teck-Quan Koh
experienced a serious tantrum this year. 10y EM local yields (GBI weighted) have risen by
190bps in 2021 ytd (vs. 130bps between April-Dec 2013), a 120bps underperformance
relative to USTs (vs. zero underperformance in 2013). Moves have been more dramatic
EM local rates have performed far
still in the belly of the curve, as inflation expectations management has motivated most
worse this year than in 2013. Unlike
EM central banks to tighten policy earlier and more aggressively than expected. The
the US and Europe, markets appear
median EM economy is priced for 175bp of tightening over the coming 12m, a post-
to be pricing in non-transitory
GFC high, while market expectations for terminal rates (5y forward 3m rates) are back to
inflation pressures in EM.
2013 levels. This constitutes a sharp divergence to the US, Euro area and China where
rates are priced to land at roughly pre-Covid levels (lower in the case of China).
The underperformance of EM rates this year has been broad based, but particularly Amid high volatility in rates, the
acute in: a) CEEMEA and Latam, reflecting the highest divergence in inflation gaps in silence in EM credit spreads and
these regions relative to Asia in roughly two decades (in part due to divergent food FX vol has been loud. We expect this
inflation) and b) specifically, sub-investment grade markets. The texture of this year’s gap to narrow in 2022, and hold a
rates selloff – flatter curves, tighter asset swap spreads, range-bound EM FX implied vol preference for EM IG over HY
and credit spreads – suggests that inflation has been the market’s primary focus this duration.
year, not credit risk. We worry that, just as inflation fears start to dissipate, concerns
about credit quality in weaker balance sheet EM bond markets may increase. Our
caution stems from our expectations from two factors: 1) weaker nominal EM GDP
growth - due to the impact of recent monetary tightening in EM, weakness in China’s
housing market still feeding through to EM exports, and slowing gains from mobility
normalisation; 2) rising US real interest rates - our US rates strategists project a c.70bp
widening in 10y US real rates between now and mid-2022. These factors are likely to
erode debt servicing dynamics (growth - real rates) in EM. Indeed we project this gap to
turn negative again in Brazil and South Africa next year, and fall to barely 1% in Mexico.
We thus prefer to keep rates exposure in these markets focussed on the front end, if at
all.
For the rest of EM, however, selected receiving exposure likely does present EM inflation should slow, unless oil
opportunities in 2022. UBS’ baseline forecasts envisage a moderation in GBI and MSCI- marches on to $120/bl. Food prices
weighted EM inflation from 5.1% and 2.8% today to 3.6% and 2.5% by end-22 (Asia is are the key risk factor we are
more likely to see upward pressure from food inflation normalisation). PCA metrics watching.
indicate that c.70% of the variation in EM inflation over the last 12m can be explained
by a single common factor (10y average: 50%): this suggests that global influences,
rather than idiosyncratic EM policy, have been key to today’s high inflation in EM. Indeed
the spread between EM and DM inflation is close to record lows. A key variable to
monitor will be food prices given their 5x greater weight vs. fuel in EM CPI baskets. So
far these have generally been much more sedate than energy prices. Using a simple
model we project that even if oil prices rise to $95/bl in the next 3m and decelerate
slowly towards $80/bl over 12m, and EM currencies slide 3-5%, EM inflation should see
a notable shift lower from Q2 next year and end the year more than 100bp below
today's levels, so long as food prices are stable. To sustain today's inflation rates, oil
prices likely need to rise towards $125/bl and the UN's Food and Agriculture Index
(currently near 10y highs) needs to shift up 10%.
We believe duration in Russia, Korea, and the Czech Republic offer value and, at slightly Overweight Russia, Korea, Czech
better levels, we believe China would too (10y CGBs were our top pick this time a year duration. But for now at least, hold
ago). In these markets, credit risks are among the lowest in EM, policy rates are priced to duration hedges elsewhere.
be at or above our economists’ estimates of neutral, and real rates on a forward-looking
basis are positive. Only the CBR is seen easing policy in 2022 in UBS' baseline scenario
but we believe that if signs of global inflation moderation build from Q2, that today's
market pricing in the countries mentioned implies asymmetric skew in favour of
receivers. Among higher beta markets, we see value in Brazil Jan 23s (against holding
long USDBRL exposure via options) and FX-hedged 2026 bonds in South Africa, but
prefer to avoid duration. Against this, we would hold inflation hedges in Poland,
Indonesia, and India rates, where a combination of valuation, sticky core inflation and
reduced central bank support for bond markets will likely keep rates markets laggards
over the next 3-6m.

Figure 109: Median EM inflation - projections under Figure 110: EM vs DM inflation - no EM-specific problem
different oil price assumptions here
(%y/y) Median 10%
7.5 yoy, % Spread (EM GBI weighted, DM GDP weighted)
Assuming flat FAO food prices, 4% weaker EM FX (linear move), Brent oil peaks in EM (GBI weighted)
Q4 at $95, eases to $80/bl in 12m DM (GDP weighted)
Assuming 10% higher food prices, 4% weaker EM FX, $125/bl Brent in 12m (all 8%
6.5
linear moves)
Spread Percentile (10y): 9.1%
6%
5.5
4.5
4%
3.5 2%
2.5 0%
1.5 -2%
06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14 Jan-16 Jan-18 Jan-20
Source : Haver, UBS Source : Haver, UBS
Figure 111: Terminal rate expectations (5y forward, 3m Figure 112: Rates pain has been an inflation-specific
rates) in the US, EA, China, and EM ex China pricing; FX vol and CDS premia has stayed low
Start of Pandemic 15.5 210
7.5 Median EM FX vol ex China
EM ex China (median) China
US Euro area
Median EM ex China 5y CDS (rhs)
6.5 13.5 180
5.5
11.5 150
4.5
3.5 9.5 120
2.5
7.5 90
1.5
5.5 60
0.5
-0.5 3.5 30
13 14 15 16 17 18 19 20 21 13 14 15 16 17 18 19 20 21
Figure 113: Local currency term premia, filtered by credit Figure 114: Deteriorating g-r could keep long-end rates in
rating quality weaker balance sheet economies elevated
230 110
2022E nominal GDP growth – effective
Spread between GBI-EM and average of US and EU (rhs)
8.5% interest rate on govt debt TR
GBI-EM 90 IN
EM HY (median) MY
180 7.0%
EM IG (median) HU
70 PL CN
5.5% CL
CZ PH
50
130 ID
4.0% TH
30 PE
2.5% RU CO
80
10
1.0% MX
BR
-10
30 -0.5%
-30 ZA
-2.0%
0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%
-20 -50
General Government Gross Debt (% of GDP, 2021E)
10 11 12 13 14 15 16 17 18 19 20 21
Source : Bloomberg, UBS. We define term premia here as 10y yield over expected Source : Haver, IMF, UBS
monetary policy path over the term (i.e. average of 3m rate and 5y rate). For details
see Box 13. "Where is EM term..." in EM Outlook 2019.

James Malcolm
14. Cryptocurrencies coming of age or going to seed? Alexey Ostapchuk
Nobody could have predicted such a roller-coaster ride for a representative index of
major cryptocurrencies like the BGCI last November (Figure 115). Yet one year on, bulls
and bears can both claim a measure of success: Overall market cap is up fivefold, during Crypto is here to stay and constitutes
the course of which prices plunged several times with a peak-to-trough loss of well over a nascent asset class
50%. That sounds confusing, but we believe the contours of future development are
much clearer as a result. One can now assert with considerable confidence that private
digital currencies are here to stay and constitute a nascent asset class. They provide
growing opportunities for mainstream portfolio diversification if approached cautiously.
And their underlying technologies are set to transform many areas of traditional finance
for years to come through trends like tokenization.
The good news as we approach year-end 2021 is that there is much less froth on display Correlations with traditional assets
than there was six months ago. May's stomach-churning correction, COVID's gradual for mainstream coins should
passing and China's outright ban on private sector activity have curtailed much gradually rise and volatility should
speculative retail activity (Figure 116). Participation by older cohorts and traditional asset decline over time
managers, primarily in Europe and the US, should eventually take up the baton. But so
far the gap has been bridged by long-term crypto natives who characteristically buy dips
and sell spikes (Figure 117). Based on observed past patterns, the expectation is that
they start unloading some holdings as prices print new all-time highs, which may further
constrain activity. Gradually, correlations with traditional assets should rise as crypto
markets become more integrated with traditional ones (Figure 118). But for now
measures sensitivities remain pretty unstable and have relatively low mean levels.
Anecdotally, too, we can observe that large moves in crypto prices tend to be driven
almost exclusively by sector-specific news, much of it related to regulation. The latter
matters, but is becoming less of an existential threat if for no other reason that radical
action by authorities in the West is increasingly constrained by politics and well-funded
lobbying. Meanwhile, uncooperative behaviour by native service providers is curbed by
the fact that they have much more to lose from being sanctioned.
Crypto entrepreneurs' primary concern is competing to build out better infrastructure The space remains a hot-bed for
and get more users on board because network effects basically determine the value of innovation, spurred on by economic
their projects, personal stakes and reputations. This is good from the perspective of incentives that must be controlled
innovation yet has a darker side in manipulative promotions to inflate transaction
volumes. Scrutiny of so-called airdrops should increase transparency and throw the
spotlight on underlying credit risk in growth-drivers like staking. The development of
clearer rules and industry standards should gradually see off zombified notions that
private digital assets are beyond the law. At best they are supplements not substitutes
for sovereign currencies.
Our expectation is that three trends could shape the coming twelve months. First, efforts More regulation will legitimize the
to level the playing field with 'TradFi' via stablecoin oversight and mandatory compliance space for institutional participation
with existing rules for unregulated exchanges and DeFi platforms. Initiatives are just as ordinary markets are
advanced across all major countries, even if some aspects remain tricky and will require becoming more digitally integrated.
fresh legislation and/or technology solutions. Resolution is likely to be positive, paving Technological advances will make
the way for widespread adoption and broader participation. Second, we will see more coins more substitutable and create
crypto IPOs now the number of unicorns and USD500mio+ players has risen into the more scope for RV and comparative
hundreds. This should heighten the sectors' swelling influence and force conventional analysis
investment managers to figure out where it fits into existing mandates. Finally, we'd
wager that blockchain interoperability, often touted as the next big thing after scaling,
heightens substitutability and starts to break down the remarkably linear relationship
that exists between blockchain activity and token prices. This would bring about a new
emphasis on relative value, shifting the spotlight back to things like coin supply and
ownership structures, which differ greatly and have so far evaded the limelight.
The flip side is what we anticipate not happening. We don't think progress with CBDCs Central Bank Digital Currencies are
will affect ordinary people's lives or the conduct of monetary policy any time soon. We'd still a long way from affecting the
be surprised, too, to see existing tech behemoths like Facebook, Google and conduct of monetary policy and retail
Amazon.com competing head-on, though each will press ahead with forays that banking
recognise the relevance of crypto to their core businesses. And we suspect ETH could
catch up with BTC and other major stablecoins after spending six months in the
doldrums as observers refocus on its more established position relative to other altcoins
in the race to attract ETF inflows and activity is reinvigorated by belated tech upgrades
including ETH 2.0 (Figures 119 & 120).

Figure 115: BGCI and volatility in major coins* Figure 116: Bitcoin's biggest moves and major news
30% 1. Tesla makes $1.5bn BTC purchase

4,000 90d volatility range* (rhs) 400
3. Coindesk reports JPMorgan BTC fund plans
BGCI 6. Amazon.com post a senior crypto-related job advert
20% 9. Powell confirms no intent to ban crypto
10. SEC reportedly ok with ETFs on BTC futures
3,000 300
10%
2,000 200 0%
-10%
1,000 100
2. Powell cool on digital USD, Musk says prices high
-20% 4. China tells fin inst to stop providing crypto services
5. China cracks down on mining
7. SEC warns Coinbase not to launch Lend product
0 0 8. China bans all crypto trading
-30%
19 20 21
Jan-21 Apr-21 Jul-21 Oct-21
Source : Bloomberg, UBS. *ADA, BCH, BTC, EOS, ETC, ETH, LTC, XLM, XMR & XRP Source : Bloomberg, various sources, UBS
Figure 117: Insiders buy dips and sell spikes Figure 118: BGCI correlations
1m LT holder position change ('000 BTC) +1stdev High Low

1,000 Price (log, rhs) 62,500
75%
50%
500 12,500
25%
0%
0 2,500
-25%
-500 500 -50%
-75%
FANG+
MicroCaps
CRB
US HY
US 10y BE
Gold
S&P 500
USD index
10Y UST
Brent oil
-1,000 100
15 16 17 18 19 20 21
Source : Glassnode, UBS Source : Bloomberg, UBS. *Measured on 2d chg, 3m window, 3y history
Figure 119: ETH interest has ebbed Figure 120: … while BTC trades rich to transactions
65 BTC/ETH (lhs) 3.3

BTC (USD bio)
30 ETH Relative coins traded,
55 3.0
Others rebased, log terms)
45 2.7
20
35 2.4
25 2.1
10
15 1.8
0 5 1.5
Jan-20 Jul-20 Jan-21 Jul-21 Jan-19 Jul-19 Jan-20 Jul-20 Jan-21 Jul-21
Source : Bloomberg, UBS. *Cumulative flows in approximately 100 exchange-listed Source : Bloomberg, UBS
funds

Nick Nelson
15. European equities: Operating leverage vs higher input Joao Toniato
Sutanya Chedda
prices – which will win out?
2021 is set to show the highest operating leverage for European Equities in 18 years and
is one of the key positive drivers for the overall market. We measure operating leverage 2021 is set to show the highest
as the ratio of EBIT growth to Sales growth and estimate it to be 4.3x in 2021. operating leverage for European
Historically, operating leverage has been most powerful in year 1 of the recovery and Equities in 18 years
then gradually fades as the cycle matures (Figure 121). We forecast it to fall to 1.8x in
2022, but that still points to c.15% EPS growth - close to double where the bottom-up
consensus is.
Bottom-up consensus estimates for 2022 EPS growth have been falling steadily Consensus is now looking for very
throughout the year from 17% at the beginning of the year to 8.6% currently (Figure little to no operating leverage in
122). The bottom-up consensus has been bringing forward growth into 2021 and is 2022 - we see this as overly
now looking for very little to no operating leverage in 2022. pessimistic
In our view, this is the key debate for European equities that will shape the returns for
next year. We disagree with consensus and still see some operating leverage carrying
into 2022: we assume operating leverage falls to 1.8x in 2022 - close to the 30-year
average. Unpicking the consensus estimates points to 5.5% top-line growth and EPS
growth of 8.6%. This suggests earnings growing just 1.6x faster than the top line
compared to a long-run average of 2.6x. Given the historical relationship between sales
growth and EPS growth, this magnitude of top-line growth would normally point to just
over 14% EPS growth.
Europe has displayed slightly higher operating leverage than the US equity market in the
current recovery. This is due to two factors: i) the make-up and sector mix of the
European equity market has higher exposure to the economic cycle, and ii) the fall in
profits in 2020 was far larger than the US, allowing for a sharper bounce-back. The
European profit cycle is also slightly behind that of the US - European earnings
momentum peaked in August while for the US it was May (Figure 123). When we look
at the relative earnings momentum of Europe to the US (which has been a key driver of
performance) there has been some improvement in recent months during the recovery
(Figure 124).
What are the risks to our non-consensus view? Higher costs and supply chain issues are Market concerns focus on higher
common concerns over corporate profitability. However, we suspect that the input costs input costs and supply chain issues,
can be managed. In Q2, the overall market posted higher margins than expected, and but corporates are beating on
this was broad-based with 18 out of the 24 sectors beating consensus expectations. We margins and forecasts are being
are over halfway through the Q3 results season and so far companies have again beaten revised up
on margins with earnings beats running at the 5th best level in the last decade.
Additionally, the starting point for European corporate margins is relatively high
compared to recent history - suggesting some resilience to external shocks, such as
higher prices (Figure 125).
Interestingly, corporate sentiment around pricing power is close to a decade high. We Corporate pricing power in Europe is
utilise UBS Evidence Lab's Deep Theme Explorer to track the corporate sector's running close to a decade high -
sentiment around pricing using A.I. tools mapping company transcripts (Figure 126). For offsetting higher input prices and
more details please see "Who has Pricing Power?" protecting margins
Finally, European earnings do not seem extended on absolute levels. On consensus

estimates for 2023 we are still 7.5% below the long-run trend. This trend assumes 4.5%
nominal growth over time. This suggests that there is more to come from European
corporates and that strong top-line growth in 2022 will deliver a second year of above-
consensus EPS growth.

Figure 121: European Operating Leverage* at an 18 year Figure 122: Bottom-up Consensus EPS growth estimates -
high Bringing growth forward to 2021
Operating Leverage EPS Growth (Consensus, rhs) 60

59.1 ((2021)
50%
5 40
40%
4 30%
20
20% 8.6 (2022)
3
10%
0
2 0% -1.6
-10% (2019)
1 (20)
-20% -29.1 (2020)
0 -30% (40)
1992
1994
1996
1998
2000
2002
2004
2006
2008
2010
2012
2014
2016
2018
2020
2022E
Jan Mar May Jul Sep Nov Jan Mar
Source : Thomson Datastream, UBS European Equity Strategy * = chg in EBIT / chg Source : Thomson Datastream, UBS European Equity Strategy
in sales, 1992, 1996, 2001, 2009, 2012-16 & 2020 = n.m.
Figure 123: European Earnings Momentum: August hit a c. Figure 124: European relative earnings momentum to the
30yr record high US vs Performance YoY
Europe 1m EPS momentum 20 Europe rel US 3m EPS momentum 20%
28 Europe lc perf yoy (RHS) Europe rel US lc perf yoy (rhs)
40% 10 10%
12 20%
0 0%
(4) 0%
-20% (10) -10%
(20)
-40%
(36) (20) -20%
-60%
(52) -80% (30) -30%
2005
2007
2009
2011
2013
2015
2017
2019
2021
1988
1991
1994
1997
2000
2003
2006
2009
2012
2015
2018
2021
Source : MSCI, Thomson Datastream, UBS European Equity Strategy Source : MSCI, Thomson Datastream, UBS European Equity Strategy
Figure 125: MSCI Europe Sectors: 2021E Net Margin vs Figure 126: Europe: Corporate Pricing Power net sentiment
range since vs 12m fwd EBITDA margin (IBES)
35 25 Pricing Power Sentiment 20

Net Margin 2021E (%) High Low
30 12m fwd EBITDA margin (rhs)
25 15 19
20
15 5 18
10
5
(5) 17
0
H/Hold & Per
Insurance
Comm Svs
Semis
Food Prod
Cont & Pack
Telecom
Pharma
Cons Dur
Paper
Tobacco
Mining
Tech hard
Utilities
Energy
Food Retail
Div Fin
S/W & Svs
Beverages
Transport
H/Care Equip
Retail
Banks
Chemicals
Const Mat
Cap Gds
Media
Autos
Consr Svs
(15) 16
Dec-13
Dec-18
Mar-10
Jun-11
Sep-12
Mar-15
Jun-16
Sep-17
Mar-20
Jun-21
Source : MSCI, Thomson Datastream, UBS European Equity Strategy, Note: Ex Source : UBS Evidence Lab, MSCI, Thomson Datastream, UBS European Equity
negative margin years, Real Estate = 51%, high = 60%, low = 41% Strategy

Stuart Kaiser
16. What is the outlook for global volatility? Mike Cloherty
Our 2022 global economic outlook is fairly benign from a volatility perspective barring Moritz Diller
another virus shock or un-anchoring of inflation expectations which are not our base Artour Danilov
case. That should allow risk premium to continue to normalize as the year progresses.
However, in 1Q, the combination of decelerating real GPD and rising core inflation
creates a case where markets could price higher risks of less friendly outcomes and we Potential for more volatile 1Q22
think it makes sense to own some form of inflation/growth hedge to start 2022.
We see three primary macro drivers of volatility in 2022: (1) decelerating growth; (2) Three sources of macro volatility:
upside inflation risks; and (3) potential divergence in central bank policy and the growth/ slower growth, high inflation and
inflation mix across regions. Those factors are likely to keep equity skew elevated and policy dispersion
investors searching for the proper hedge for each combination of outcomes .
Slowing growth and rising inflation is a potent mix for risk assets as risk-adjusted returns Slowing growth plus rising inflation
deteriorate and defensive assets significantly outperform based on 3-month changes in is a potent combination for equity
US ISM and Core CPI as proxies since 1990. For global stock markets, that combination volatility
has produced both higher volatility and negative returns on average, with Asia, Tech and
Small Cap significantly underperforming, but S&P 500, Growth and Defensives all
relative winners. Volatility has only been higher in periods when both growth and
inflation are falling together. The good news is skewness of returns is below average for
many risk assets suggesting less tail risk.
Lower tail risk pricing would be a major step in risk premium compression. Both the level High S&P skew and steep term
of implied volatility and its spread vs. realized volatility have normalized but a steep term structure reflect investor uncertainty
structure and exceptionally high put-call skew show markets' continuing concern about
medium-term downside risks. For example, S&P 500 skew reached an all-time high in
June and priced a 15-20% chance of a 2 standard deviation monthly drawdown in
September, equivalent to a 10% drop. That pressure has eased only modestly as
investors look to protect strong returns into year-end.
The story is more constructive for bonds which post above-average returns, particularly
longer data maturities, while investment grade credit beats high yield. Slowing growth
and rising inflation drives high volatility in the front of the curve but only about average
volatility for the 2- and 10-year points of both the nominal and TIPS curves. For credit,
high yields looks like equity markets while investment grade mimics the UST market.
Commodity markets balance extremely high volatility against solid returns for middle-of-
the-road performance. Crude is the clear choice vs. metals albeit with realized volatility
that is 30% higher than average and by far the highest across major asset classes.
Historically the trade-weighted USD moves in line with its long-run average.
A decline from the high correlation of both policy and growth across regions is another Policy shifts could drive structural
key consideration for rates and currency markets that may exacerbate shifts. We see shift in rates volatility
potential for a structural uptick in rates vol as (1) more markets are moving away from
the lower bound, meaning the left tail of the distribution is less constrained (normal
distribution rather than lognormal); (2) active monetary policy is approaching, shifting
the peak of the vol surface toward shorter maturities (although countries further away
from tightening should see less of a shift and EUR seems to have gone a bit too far); and
(3) lower cross-country correlations mean investors need to hedge within market/region.
Correlations were extremely high as markets reacted in unison to COVID risk (and most
central banks reacted similarly) but betas have been less stable recently. We believe that,
after an extended period where high correlations allowed hedgers to focus on carry,
focus will shift to efficiency. Fewer options should increase demand for rates vol in DM
markets.
Even though economic dispersion has been high – and rising again recently (Figure 131) Growth dispersion may be a catalyst
– it will probably become tradable in earnest only now that policy synchronization is for FX volatility
coming to an end. FX vol markets remain, however, unfazed. This is true for equally
weighted average G10 at-the-money vol, which trades at its 23rd percentile on a 10-
year look-back, as it is for still very flat term structures and compressed butterflies. They
all create opportunities, particularly if such divergence were to coincide with, or trigger,
broader asset allocation shifts, as discussed here and here.

Figure 127: Markets continue to assign large premium on Figure 128: Steep term structure reflects uncertain macro
tail hedges outlook
Index level VIX Level % rank

VIX term structure
180 27.0 Slope vs. previous future 10-year history 100
170 Today 90
SKEW Index
25.0
160 80
150 70
23.0
140 60
130 21.0 50
90 91 93 90
86
120 40
19.0
110 30
54
100 37 20
17.0 33 30
90 10
80 15.0 0
Dec-19 Jun-20 Dec-20 Jun-21 Spot 1m 2m 3m 4m 5m 6m 7m 8m 9m
Level
VIX term structure normalized by 10 -year spread to spot VIX
Figure 129: Expect higher equity volatility with slower Figure 130: Rates volatility less stressed by slower growth
growth and rising inflation and rising inflation
Equity Realized Volatility Bond Realized Volatility

35.0% 16.0%
14.0%
30.0%
12.0%
25.0%
10.0%
20.0%
8.0%
15.0% 6.0%
10.0% 4.0%
2.0%
5.0%
0.0%
0.0% +,+ +,0 +,- 0,+ 0,0 0,- -,+ -,0 -,-
+,+ +,0 +,- 0,+ 0,0 0,- -,+ -,0 -,- US Core CPI 12M Inflation 3M Change , US Manufacturing ISM 3M Change
US Core CPI 12M Inflation 3M Change , US Manufacturing ISM 3M Change
Treasuries 10 Years Constant Maturity Corporare Credit Investment Grade
S&P 500 MSCI Emerging Markets NASDAQ 100 Stock Russell 2000 T-Bills 3 Months Constant Maturity Corporate Credit High Yield
Figure 131: PMIs showing an increase in growth dispersion Figure 132: Global bond correlations have been elevated
Growth Dispersion 1.40

10.0
May 2020 - Aug 2021 y = 1.27x - 0.91
1.20
9.0 Sep 2021 - present
G10 PMI dispersion (6m StDv) G10 & EM
8.0 1.00 Linear (May 2020 - Aug 2021)
Linear (Sep 2021 - present)

7.0 0.80
6.0
0.60
10yr Gilt
y = 0.65x - 0.25
5.0
0.40
4.0
0.20
3.0
0.00
2.0
(0.20)
1.0
0.0 (0.40)
2016 2017 2018 2019 2020 0.40 0.60 0.80 1.00 1.20 1.40 1.60 1.80
10yr Tsy

Rohan Khanna
17. Will APP anchor European yields as PEPP did?
Fixed income markets in Europe and globally are in a maelstrom as rising inflationary
pressures are posing a challenge to central banks. In the middle of this tantrum, the ECB Straight-jacketed APP lacks the
has explicitly stated that PEPP is ending in March next year and the APP will take over. PEPP's flexibility and firepower to
Unlike the PEPP, which was designed to respond flexibly and without the constraint of respond to market volatility;
issue(r) limits to the fast-changing market conditions during the pandemic, the APP is Evolution of inflation prints would
more operationally straight-jacketed and thus its ability to respond to market panics is matter more for Euro area yields
limited. While potential APP design changes can help anchor the curve to some degree, rather than flow effect of APP
it is too limited in its firepower and flexibility to match the PEPP. Furthermore, given the
significant inflation uncertainty, the persistence of elevated inflation prints (or lack
thereof) and growth momentum would chart the trajectory of Euro area yields and
spreads rather than the flow effect of APP purchases.
Given the recent imported tightening in financing conditions and the market's bringing Given the 33% issuer limit constraint,
forward the point of first rate hike, we assess that the ECB would have to do more than we estimate €600-700bn in purchases
just stick to the traditional €20bn/m open-ended APP. Analysing APP’s remaining under APP are possible until Dec-23.
firepower through the lens of issuer limits, we estimate another €600-700bn in Current APP would need to be
purchases are possible after the end of PEPP until Dec-2023 with some capital key modified to include a calendar-based
deviations. A larger QE programme (> €800bn) and the necessary capital key deviations temporary envelope to improve
needed to keep the purchases ongoing in the absence of a significant increase in net effectiveness
issuance would likely result in many countries coming uncomfortably close to the 33%
constraint. As for implementing these purchases, we believe a hybrid approach involving
a temporary envelope for a fixed calendar period alongside the fixed-pace open-ended
format may be an elegant solution. The temporary envelope could provide an insurance
cover in case of any aggressive worsening in financing conditions and also complement
the signalling element of open-ended purchases.
Therefore, it is quite clear that after two consecutive years of overall ECB QE purchases in QE-adjusted EGB net supply would
excess of €1trn, purchases in 2022 would be potentially halved. This would imply a high turn positive in 2022 - a roughly
likelihood that QE-adjusted net EGB bond supply would turn positive next year, €200bn swing from 2020/21
representing a roughly €200bn swing compared to 2020/21. We would underscore that
this swing in net supply is neither a necessary nor a sufficient condition for higher yields
and wider EGB spreads in the medium-term. For example: 2019 saw the highest
EGB net supply in recent times and yet, owing to deteriorating global and domestic
macro trends, Euro area yields rallied significantly and the curve flattened.
On the macro front, our economists see above-trend growth in 2022/23 with support Our economists see above-trend
from household consumption, fixed investment and monetary and fiscal policy, growth over next two years; HICP to
including the EU recovery fund. Inflation is still expected to be transitory, driven by average 2.2% in 2022 and 1.5% in
higher energy prices and supply bottlenecks. Against this backdrop, following a peak of 2023, but uncertainty is high and
4.3% y/y in November, headline HICP is expected to drop back below the ECB's 2% risks are to the upside
target in Q4 2022, implying a decline in the annual average from 2.5% in 2021 to 2.2%
in 2022 and 1.5% in 2023. Core inflation is expected to rise from 1.4% in 2021 to 1.6%
in 2022/23. However, uncertainty is high as bottlenecks could last longer and an
unusually cold and long winter could compound the demand for energy amidst
shortages. Persisting inflationary pressures could get embedded in household inflation
expectations, ultimately leading to a stronger pick-up in wage growth and core inflation.
In the wake of this uncertain inflation outlook, the ECB faces a tricky policy and Markets should price risk premium in
communication challenge and therefore additional risk premium is warranted in fixed an uncertain inflation backdrop
income markets for the prospect of earlier-than-expected policy normalisation.
In this backdrop, we believe that 10y Bunds would finally escape the gravity of negative We see 10y Bunds rising to 25bp by
rates and rise to 25bp by end-22 and 50bp by end-23. In the EGB space, we see the end-22 and BTP-Bunds settling in a
equilibrium value for 10y BTP-Bunds rising to 120-150bp from the current 100-120bp higher range of 120-150bp. Evolution
and 70-80bp for SPGB-Bunds on account of reduced confidence that the ECB would of inflation is significantly more
continue to remain extremely accommodative for a long time. To conclude, there are important for the medium-term than
clear risks between now and December where the market internalises an uncertain ECB's policy package on 16th
reaction function from the ECB for 2022 and builds on rate hike expectations, flattening December
curves and widening core-periphery spreads in a disorderly fashion. While the size and
shape of ECB's response on December 16th would decide the intermediate steady state
for the market, the evolution of inflation will have the final say.

Figure 133: €600-700bn of APP purchases are possible Figure 134: Overall QE purchases in 2022 could be half of
until Dec-23; larger purchases could see multiple countries 2020/2021
come close to 33% limit
40% 1200
in €bn PEPP
35%
1000 APP
30%
25% 800
20%
600
15%
10% 400
5%
200
0%
DE FR IT ES NL BE AT PT FI IE
0
Current €420bn €630bn €705bn €825bn
'15 '16 '17 '18 '19 '20 '21 '22E
Source : National DMOs, ECB, Bloomberg, UBS calculations; see here for details Source : ECB, Bloomberg, UBS; Note - For 2022, we assume PEPP runs at €50-60bn/
in Q1. Also €200bn of additional APP envelope is announced of which €150bn is
used in 2022. The €20bn/m open-ended APP continues as usual
Figure 135: QE-adjusted net EGB supply likley to turn Figure 136: Increase in net issuance is not a medium-term
positive in 2022, a roughly €200bn swing from 2020/21 driver of yields and spreads as the 2019 example shows
1500 Gross supply Net ECB purchases 50 2

12m-ahead net supply adj. for QE (LHS)
1200 10y Bund
Redemptions Net supply adj. for ECB 25
1.6
900 1231
898 859 908 853 872 0
600 1251 1170 1.2
-25
300
32 182
-119 91 -50 0.8
0 -254
-344 -139 -112
-300 -669 -685
-75 0.4
-632 -729
-634 -607 -653
-600 -659 -100
-189 0
-384
-900 -596 -509 -350
-685 -704 -125
-1200 125 -0.4
EUR bn -150 Rolling 12m net sovereign supply
EURbn 100
-1500 adjusted for QE (in € bn)
2015 2016 2017 2018 2019 2020 2021 2022E -175 -0.8
75 Jan-14 Jan-15 Jan-16 Jan-17 Jan-18 Jan-19 Jan-20 Jan-21 Jan-22
Source : National DMOs, ECB, Bloomberg; Note - For 2022, we assume PEPP runs at Source : German DMO, ECB, Bloomberg, UBS
€50-60bn/ in Q1. Also €200bn of additional APP envelope is announced of which
€150bn is used in 2022. The €20bn/m open-ended APP continues as usual
Figure 137: We expect 10y Bunds rising to 25bp by end-22 Figure 138: Periphery spreads versus Bunds and swaps are
and 50bp by end-23 but still staying below the lower-end at considerable risk from a sudden hawkish pivot from the
of the ECB's estimate of the nominal neutral rate ECB if inflationary pressures persist
5 300 5y bonds vs swaps (in bp)
4 250
ES IT PT
3 200
2 150
ECB estimate
of nominal
neutral rate 100
1
10y Bund 50
0 Forwards
Forecast
0
Euro area nominal neutral rate (UBS estimate)
-1
'03 '04 '06 '07 '09 '10 '12 '13 '15 '16 '18 '19 '21 '22 '24 -50
Jan-18 Jul-18 Jan-19 Jul-19 Jan-20 Jul-20 Jan-21 Jul-21
Source : Bloomberg, UBS calculations Source : Bloomberg, UBS

Joni Teves
18. How are gold's drivers changing? Alireza Kharazi
Over the past year and especially in recent months, gold’s behaviour has puzzled Roque Montero
investors. Questions are being raised on the strength and reliability of gold's Alexey Ostapchuk
relationships, particularly with real rates, inflation and risk, and ultimately its role in Bhanu Baweja
investor portfolios.
To review these themes, we ran regressions on gold against real rates (10Y), inflation Gold's relationship with real rates
expectations (5Y5Y) and the US dollar (DXY) (Figure 139). Our analysis shows that rates remains the key price driver.
remain an important factor and the level of rates affects how the relationship with gold
evolves. The relationship with inflation is less reliable. The link between gold and the
dollar was consistently negative, however the betas were low. We also tried to introduce
measures of risk aversion to our model, such as VIX and credit spreads, however their
link with gold varied considerably over time and has been weak recently. We repeated
the exercise for silver. Our model on weekly changes found that, based on the past three
years of data, a 1% increase in real yields leads to gold declining by around 8%, and
silver falling more by 14%. By contrast, a 1% rise in 5Y5Y leads to gold rising by 1.3%
and silver by a stronger 7%. Lastly, a 1% increase in the US dollar results in gold and
silver falling by 0.95% and 2% respectively.
Based on our worldview, which sees real rates rising strongly and inflation expectations
remaining broadly stable, we expect both gold and silver to come lower, and have a
modest preference for gold over silver. A weaker dollar is expected to cushion the
decline. We expect gold to move towards $1,600 and silver to $20 by the end of next
year.
These sensitivities are not the only things we learned from our analysis. Calculating In a zero or negative real rate
rolling betas over 3- and 5-year periods shows that these relationships have evolved environment, gold's sensitivity to
notably in the past decade or so. Focusing on rates, there are two key points to note. real rates is asymmetric.
First, gold’s negative relationship with them strengthened materially and became more
consistently negative as rates fell to historically low levels. Second, the beta of gold to
real yields has been asymmetric, ever since they moved into negative territory. That is,
gold’s beta to real rates becomes deeply negative as the latter fall, yet the relationship
eases as yields increase. Put differently, a 1% decline in rates drives a bigger rally in gold
than the correction that a 1% increase in rates would. This asymmetry has become more
visible as real yields reached the lower percentiles of their distribution. In other words, in
an environment of zero or negative yields where bonds don’t help diversify portfolios to
the same extent, the demand for gold will not fall amidst rising yields as much as it
would have when real yields were rising from a level of say +0.5% (Figure 140).
Although there is a long-held narrative on gold as an inflation-hedge, the historical Gold's link with inflation has
relationship has been fickle. In addition to gold’s sensitivity to inflation expectations weakened recently. While higher
changing over time, it is often counterintuitive (i.e. suggesting rising inflation inflation has directed attention
expectations are bearish for gold). This is likely capturing the read-through of higher towards gold, this has not been
inflation expectations to prospects of policy tightening, the latter being gold negative. In reflected in positions or prices.
the most recent periods examined, the relationship is positive but weak. Crucially, our
rolling betas analysis shows gold's sensitivity to inflation expectations declining in recent
months, even as the latter have risen. If one believed there were some threshold or level
effects in rising inflation fears, there ought to have been a non-linear ‘increase’ in the
beta of gold, as inflation expectations rose. This was not the case – even though gold
has once again showed up prominently on investors’ radars, this has not translated into
significant positions and a material move higher in prices. Silver has had a stronger
relationship with inflation, likely helped by its use as an industrial commodity (Figure
141).
Interestingly, Bitcoin has shown a stronger correlation with inflation expectations than
either gold or silver over the past year or so (Figure 142). Although the period of this
observation is short and one can’t make strong statements, there is tentative evidence
that Bitcoin may be taking interest away at the margins.
There are other factors contributing to the apparent weakening of gold’s relationships Physical demand and central bank
recently. Physical demand has played a part, especially during the August-September gold buying has cushioned its price
period when real rates rose but gold’s downside was cushioned by official sector downside.
purchases and decent demand from physical markets (Figure 143 and Figure 144). We
expect both segments of demand to continue supporting the gold price ahead.

Figure 139: Gold's beta to real rates eases as rates rise in a Figure 140: Gold investor allocations are expected to stay
negative rates environment relatively resilient
Source : Bloomberg, UBS. *Measured on weekly changes over a 3y rolling period Source : Bloomberg, Morningstar Inc., UBS. *% of USD value of ETFs and net
speculative positions using CFTC data vs global funds' AUM
Figure 141: Silver's positive beta to inflation is more Figure 142: Bitcoin's correlation with inflation has been
consistent than gold, given its industrial usage stronger vs gold or silver since mid-2020
Source : Bloomberg, UBS. *Measured on weekly changes over a 3y rolling period Source : Bloomberg, UBS.
Figure 143: Robust physical demand has helped cushion Figure 144: Central bank gold purchases have also been
the downside underpinning prices
Source : China Customs, Bloomberg, UBS. Source : Bloomberg, IMF, WGC, UBS

Matthew Mish
19. Is the gap between ESG haves and have-nots too wide?
Inflows into ESG-related funds have been a bright spot for active management, up 48%,
35%, and 44%, respectively, for ESG-focused global equity, global fixed income, and ESG and sustainable fund inflows
sustainability theme/ impact funds to end-Q2 (as % of AuM, Figure 145). However, this have surged, but ESG-dedicated fund
growth is off a low base; an IMF study finds sustainable and climate-focused equity penetration in equities remains low
funds comprised about 7% and less than 1%, respectively, of total equity fund AuM as at about 7% of total AuM
of end-2020(5). Similarly, while 80% and 76% of global equities and corporate debt
funds report managing with ESG considerations, only 17% and 10%, respectively, are
dedicated ESG strategies (Figure 146). Across both asset classes the highest shares are
for European equities (30%), European IG credit (22%) and global credit (21%).
We expect penetration rates for dedicated ESG strategies to accelerate in the next 3-5 ESG-dedicated funds could grow to
years as funds try to offset lower returns and passive competition. First, surveys cite two 15% of total equity AuM in five years
main challenges to strict ESG adoption: lack of current and forward-looking data and on more data disclosure/
concerns around sacrificing short-term performance. UBS Evidence Lab's Global ESG standardization, investment, and
Investor Data Survey suggests 84% of investors on average expect a defined set of ESG regulation
standards to be adopted by the market and/or attention on ESG to accelerate in the next
5 years (Figure 147). Like with credit ratings, we expect some convergence in ESG scores,
driven by regulation, more data disclosure/ standardization, and industry research
investments(6). Second, exponential growth off a higher base matters; AuM for
dedicated ESG funds has grown c240% since 2016 (vs. 50% and 25% for global equity
and credit funds). Assuming similar growth in funds/ flows and more modest equity
returns, equity ESG dedicated funds could grow to c15% of the total in 5 years.
The relationship between ESG and performance goes back decades. A paper ESG's overall impact on excess return
aggregating evidence from 1,000+ studies published from 2015-2000 concludes some performance is flat to positive across
ESG strategies generate market or excess returns, especially over the long term, and equity and corporate credit markets
provide downside protection during crises(7). Using ESG scores our colleagues' found
strong outperformance in European equities, with strong inflows a minor influence, but
underperformance in ROW. In corporate credit, our prior study found incorporating ESG
improved portfolio performance in 2H19/1H20 for IG, but results were mixed for HY.
Simply put, it is possible that ESG factors are already embedded in valuations.
We focus on valuations. Our analysis creates an average ESG score (using percentiles) as ESG haves vs. have nots: we think
a measure of the 'consensus' ESG view using 3 rating providers (MSCI, Sustainalytics, the valuation gap is likely to widen
S&P Global)(8). For equities, we select US and European large cap indices to limit regional/ for US, EU large caps and US
size biases. Figure 148 graphs the relationship between ESG scores by quintile (1-5, corporates overall
1=better) and forward P/E ratios. In brief, results for Europe suggest negligible difference
in multiples based on ESG scores, and, while US results imply higher multiples for better
ESG scores, the results fade when normalized by sector. For corporate credit, we select
US and European investment grade indices across the 5-10yr bucket; Figure 149 charts
the relationship across ESG score quintiles and spreads. In short, results for Europe
suggest tighter spreads for better scores, after adjusting for other factors (e.g., rating,
duration, issue size), with a roughly 3.5bp decline in spreads for 10pp higher ESG score.
This result is consistent with our prior findings in 2019, even with tighter spreads today.
Conversely, we find no significant relationship in US IG. This likely reflects more
dedicated ESG strategies, regulation and market structure issues in Europe.
With rising penetration of dedicated ESG strategies we think investors should expect a ESG haves vs. have nots: we believe
greater impact of ESG factors in market pricing, particularly in sectors where the valuation gap is too wide for EU
differentiation is negligible (e.g., US, EU large caps, US IG debt). Conversely, investors IG corporates and clean energy
should look to fade or be more tactical around segments that are already differentiating stocks
materially (e.g., European IG). In this context, renewable stocks have garnered
significant attention. The S&P Global Clean Energy index has returned -10.4% YTD,
trailing the MSCI by 28.4pp. But in 2020 clean energy returned 138.2%, besting the
MSCI by 124.2pp. Currently the clean energy trades at a forward P/E ratio of 32.6x (vs.
18.6x for MSCI World), and historical return volatility has been 1.7x that of MSCI World.
Top-down, we think COP 26 is unlikely to produce more ambitious climate targets by
major GHG emitters in the short term(9). And, historically, large deviations between clean
energy and world forward multiples have consistently mean-reverted (Figure 150).
Bottom-up, our analysts forecast a market-cap weighted total return of c6.0% for the
38% of companies we cover (vs. c7.8% for the largest 25 largest issuers globally). In
short, for clean energy stocks we think the valuation gap is too wide and investors
should be patient, waiting for better entry points.

Figure 145: Inflows into ESG-focused/ sustainability funds Figure 146: Dedicated ESG strategies are still nascent
remain elevated across many equity/ debt funds
Annual flows for ESG./ sustainable funds (as % AuM) 35%
60% 30% Is this product a dedicated ESG strategy?
30%
50% 25% 22%

21%
40% 20%
17% 16%
14% 13% 15%
15% 13%
30%
9% 10%
10% 7% 7% 6%
20% 5% 5% 5% 4%
5%
10%
0%
UK IG
Japan
EUR HY
US IG
US
Global EM
UK
EUR IG
Global HY
US Core
EM Corp
US HY
Credit: Global
US Core Plus
Asia ex-Japan
Equity: Pan-Europe
EU Lev Loan
US Lev Loan
0%
-10%
Jun-17 Jun-18 Jun-19 Jun-20 Jun-21
All ESG-Focused Global Equity ESG-Focused
Global Fixed Income ESG-Focused Sustainability-themed Investing/Impact Investing
Source : eVestment, UBS Source : eVestment, UBS
Figure 147: Defined standards, investment, and regulation Figure 148: ESG scores are not significant in explaining US,
will drive more ESG adoption in the investment decision- EU large cap multiples or US credit spreads, suggesting
making process valuation gaps can widen
How do you expect the adoption of ESG considerations in the investment decision- US and Europe forward P/E ratios by ESG score quintile
making process to evolve in the next 5yrs
30
60%
S&P 500 Stoxx Europe 600
50% 25
40%
20
30%
15
20%
10
10%
0% 5
Less of a focus. Less of a focus, A defined set of ESG Attention on the Don't know/other
It is a fad. but fundamentally standards will be topic will accelerate
ingrained in the adopted by the as ESG adoption
investment process. market. continues. 0
All Western Europe North America Asia (excluding China, India and Japan) 1 2 3 4 5
Source : UBS Evidence Lab, Global ESG Data Investor Survey Source : Bloomberg, UBS
Figure 149: ESG scores are very significant in explaining EU Figure 150: Valuation gaps remain wide between clean
IG credit spreads, implying valuation gaps are probably energy and world equities. In the shorter run our analysts
wide enough forecast the valuation gap to narrow
US and Europe credit spreads by ESG score quintile (bp) Global Clean Energy Index vs. MSCI World Fwd P/E Ratio (x)
80
40
US Inv Grade EU Inv Grade
Global clean energy: Fwd P/E MSCI world: Fwd P/E
70
35
60
30
50
25
40
20
30
15
20
10 10
0 5
1 2 3 4 5 Nov-07 Jul-09 Mar-11 Nov-12 Jul-14 Mar-16 Nov-17 Jul-19 Mar-21

Manik Narain
20. Will commodity currencies catch up in 2022? Vassili Serebriakov
Relative to a 33% YTD rise in Bloomberg's Commodity Index, the median commodity Pierre Lafourcade
currency has slipped 2% against the USD, with oil exporter currencies generally
outperforming those of metals exporters. What explains this relative
underperformance? Should investors heed this as a warning or an opportunity for Despite booming terms of trade
2022? We identify five broad factors. earlier this year, commodity currency
returns mostly underwhelmed in
1) The outsized role of supply in driving commodity price strength. The NY Fed's 2021.
oil decomposition model shows non-demand factors contributing ⅔ of total price
moves over the past 6m. The unprecedented backwardation in the copper curve also Supply factors have dominated
hints at similar dynamics. We show that supply-driven commodity gains typically elicit commodity appreciation. Most
much weaker FX responses perhaps as exporters 'hoard' dollars amid greater forward-looking indicators of
uncertainty about the durability of ToT gains. This 'hoarding' could limit FX downside if demand are now cooling
commodity prices fall, particularly if confidence in domestic fiscal and inflation risks
holds up. Here there may be greater risks in Latam, with Brazil and Colombia elections
ahead, policy uncertainty lingering in Chile and Peru, and greater exposure to China
housing than oil exporters.
2) Weak financial account flows – While current accounts have improved across the While current accounts have
commodity producer complex, weakness in the financial account has tended to be improved strongly, financial accounts
under-discussed. In Australia and Canada, large flows into foreign equity (5% and 7%/ have deteriorated due to narrowing
GDP, 12m rolling) have weakened the broad BoP. RBA QE may have also 'crowded out' growth differentials vs. the US (EM)
foreign bond inflows that typically offset domestic pension fund outflows. In EM, we or the impact of domestic QE (AUD,
have long highlighted a strong correlation between the financial account and EM- CAD).
DM growth differentials - the latter has been under clear pressure this year, and will likely
slip further in H1-22.
3) Impeded labour mobility. Economic theory posits a positive link between a The pandemic has impeded labour
country's REER and a) ToT and b) productivity differentials. Improving ToT typically allows mobility, and severely undermined
for higher tradeables sector wages, attracting labour from the (larger) non-tradeables the validity of economic theory
sector, placing upward pressure on REERs. However the pandemic has impeded labour positing a clear relationship between
mobility and undermined the validity of this theory. Meanwhile, amid powerful US fiscal ToT and REER
and monetary stimulus, productivity growth in several commodity exporters has lagged
the US (US productivity is up 5.3% vs. Q4-19 levels, compared to 2-3% in Australia,
Canada, Russia and South Africa, for example).
4) Carry may be still insufficient for parts of EM – In previous analysis we have The carry in a number of
quantified equilibrium levels of carry needed for individual currencies to outperform the EM commodity currencies may be
USD (in spot terms), after controlling for export growth and credit spreads. Under the insufficient for a world of slowing
(highly likely, in our view) assumption that export growth slows from here and credit exports and moderately higher CDS
spreads widen modestly, we think that the carry on offer in commodity currencies such spreads
as the IDR, ZAR, COP and possibly still the BRL, is not high enough today.
5) Weak export volumes – Almost all of the boom in EM export volumes through the EM goods export volumes have
pandemic was enjoyed by North Asia. While this should broaden in 2022 as higher stagnated or fallen
commodity prices incentivise stronger volumes, it is not clear that this will drive a new
phase of FX appreciation: we note that EM currencies have needed 4-5% y/y export
volume growth to avoid depreciation.
Looking forward, we expect a) the full impact of China's housing slowdown Commodity FX has likely missed its
transmitting into EM export volumes, b) a rise in US real interest rates (UBSe 70bp by best opportunity to rally. DM is
mid-22) twinned with weaker nominal growth (eroding debt sustainability metrics in a better placed for catch-up gains than
number of fiscally challenged EM commodity exporters), and c) further narrowing in EM- EM
DM growth differentials to challenge several EM commodity currencies. This should be
less relevant for the CAD and AUD, where we see growth slowing less than the US in
2022, robust growth and removal of policy accommodation should contribute to
reduced portfolio outflows, and valuations remain supportive (7% and 9%
undervalued). We prefer the AUD and CAD over ZAR, CLP, COP and BRL, preferring
RUB within the EM commodity bloc.

Figure 151: NY Fed oil price decomposition Figure 152: Betas to demand vs. supply-driven commodity
price moves
(6m %changes)
0.6 FX betas to commodity price movements
70
Latest: 17.9% (2010-present)
Supply/unexplained Demand Total
50 Latest: 8.9% Demand
0.5
Supply
30
0.4
10
-10
0.3
-30
-50
0.2
-70
0.1
-90
-110 0.0
Jan-18 Jul-18 Jan-19 Jul-19 Jan-20 Jul-20 Jan-21 Jul-21 CAD NOK RUB COP AUD BRL CLP
Source : Macrobond, UBS Source : Bloomberg, UBS. Betas based on regressions of CAD vs WTI, NOK, RUB and
COP vs Brent, AUD vs Westpac commodity futures index, BRL vs CRB and CLP vs
copper.
Figure 153: Deviation of selected BoP components from 5y Figure 154: EM ex China-DM growth differentials
average
8% 4.0% EM ex China overall financial account inflows 6.0%

Current account Portfolio investment Foreign direct investment EM ex China - DM GDP growth (rhs)
6% 5.0%
3.0%
4.0%
4%
2.0%
3.0%
2%
1.0% 2.0%
0%
1.0%
0.0%
-2%
0.0%
-4% -1.0%
-1.0%
-6% -2.0% -2.0%

CO RU BR CL MY ID CA MX AU ZA 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22
Source : Haver, UBS Source : Haver, UBS. Dashed lines shows GDP differential forecast based on UBS
estimates.
Figure 155: Estimated carry required for EM currencies to Figure 156: Export volumes - EM vs China/Korea/Taiwan)
appreciate
Carry needed if Carry needed if 140
Carry needed in
Latest Export export growth at export growth China export volumes EM ex CH, TW, KR export volumes Taiwan export volumes
Current carry today's export Model R-sq.
growth 10% and CDS at 10% and
and CDS context
25bps wider CDS unchanged 130
TRY 21.1% 29.2% 34.2% 36.8% 34.7% 81%
BRL 11.3% 33.2% 6.0% 14.2% 13.0% 61%
120
RUB 8.5% 85.3% 1.8% 6.7% 5.1% 82%
MXN 6.7% 8.8% 4.4% 7.1% 4.6% 67% 110
ZAR 5.2% 33.4% 5.3% 7.5% 7.1% 70%
INR 5.0% 22.6% 2.2% 6.4% 5.0% 66% 100
CLP 5.0% 24.4% -1.7% 3.7% 2.7% 70%
IDR 4.7% 47.6% -3.4% 7.9% 5.5% 58% 90
COP 4.2% 28.4% 3.3% 17.9% 14.1% 76%
CZK 2.6% 8.7% -23.7% 1.7% -13.2% 60% 80
HUF 2.6% 14.8% -2.8% 1.0% 0.6% 59%
PLN 1.8% 26.4% -1.9% 2.2% 1.6% 64% 70
Dec-19 Mar-20 Jun-20 Sep-20 Dec-20 Mar-21 Jun-21
KRW 1.1% 24.0% -16.4% -5.1% -7.0% 36%
Source : Haver, Bloomberg, UBS. Note: *RUB, CZK and ZAR models are based on Source : Haver, CPB, UBS
since Jan-2013, all else, since Jan-2011. Carry is calculated as 80% vs. the USD and
20% vs. the EUR, but for CZK, HUF and PLN carry is calculated as 20% vs. the USD
and 80% vs. the EUR, and based on 12m FX forwards.

Top Investment Ideas for 2022

1. Long US Financials over US Industrials
Financials have outperformed the S&P 500 by over 10% this year but are still
13% below end 2019 levels on a relative basis. Against a backdrop of tighter financial
conditions and elevated inflation, we believe the sector can continue to outperform. We
prefer to pair this against Industrials, another cyclical sector which is more exposed to
the peak in economic activity, particular durable goods+investment, and where a lot of
good news is already in consensus forecasts and in the price.
Financials and Industrials at different points of the cycle. Industrial production

growth peaked in April and has been decelerating since but interest rates look poised to
move higher, supporting the outlook for Financials relative to Industrials (Figure 157).
Heading into 2022, tighter financial conditions should continue to be an important
theme. The onset of tapering will likely put upward pressure on real yields, which should
benefit Banks and Diversified Financials the most. Industrials are much more geared
toward the manufacturing and investment cycles (globally) as well as positive stimulus
news, but much of the good news now seems to be in the price. For example, the 2y
forward EV/Sales of our screen of Traditional Infrastructure stocks has now normalized
back to its 5y avg after trading at a 10% discount in early September. The China
property and investment cycle is also a risk to US Industrials. In addition, our previous
cycle work (link) showed that Financials have outperformed Industrials by over
3% annualized during market regimes of high and falling ISM, but above-average
inflation.
Financial earnings revisions have remained robust and we see greater upside to
2022 earnings. The relative earnings revision ratio between Financials and Industrials
now stands at nearly 20ppts, the highest level since 2016 (Figure 158). Current 2022
estimates for Financials imply a normalization of earnings with a 9% decline y/y, leaving
EPS 20% above 2019 levels. Industrials, meanwhile, are forecast +32% EPS growth in
2022, equivalent to 25% above 2019 levels, despite the risks around slowing
production, China demand and supply chain constraints.
Financials at a ~30% discount to Industrials. The S&P 500 Financials index is trading
at 15x forward earnings, and a ~30% discount to Industrials, which is 8ppts lower than
pre-COVID levels. The dividend yield, particularly for Banks, is attractive at 2.4% for
2022e, 100bps and 90bps higher than the market and Industrials sector respectively. We
believe dividend yield and dividend growth will be a key theme for 2022-23 (link), and
forecast S&P 500 dividends to grow 30%+ the next two years, even assuming a below-
average payout ratio, at a time when earnings growth is decelerating.
Figure 157: Industrial production and bond yields Figure 158: Relative earnings revisions and forward Price
to Earnings
20 7 Rel. earnings revisions

Industrial production (y/y) Financials vs Industrials
40% Rel. 12m fwd PE 0.95
15 US 10y bond yield (RHS)
6 0.90
30%
10 0.85
5 20%
5 0.80
4 10%
0.75
0
0%
3 0.70
-5 -10%
0.65
2
-10 -20%
0.60
-15 1
-30% 0.55
-20 0 -40% 0.50

00 05 10 15 20 10 11 12 13 14 15 16 17 18 19 20 21
Source : Bloomberg, UBS Source : FactSet, UBS

2. Long China over India
As we approach the year-end, the Indian equity market is poised to deliver one of its best
annual performances over the past decade, being up 25% this year, while the Chinese
equity market, down 15% YTD, is set to close the year with one of the most
disappointing performances. It is against this backdrop of contrasting market fortunes
that we recommend MSCI China over MSCI India as our EM equity trade for 2022.
The preference for MSCI China reflects our view that the worst of the credit impulse is
likely behind us with policy looking more neutral from here, regulatory fears, notably for
internet stocks, are overdone, while the property sector risks are manageable. In
contrast, we are concerned about India equity valuations, especially with earnings
momentum fading; India’s low real yield and expensive currency suggest some
vulnerability in a tapering environment.
As we look to 2022, the earnings cycle appears to be more supportive for MSCI China
relative to MSCI India with the earnings growth gap set to narrow sharply in 2022 before
turning positive in 2023. Based on consensus estimates, 2021 earnings growth is
forecast at 35% in India and at 15% in China, or an EPS growth gap of 20%. In 2022,
earnings growth is estimated to decline to 18% in India but rise slightly to 16% in China,
reducing the gap to 1.9%, while in 2023, China’s profit growth is expected to lead that
of India’s by 16.8% to 13.2%, or by a gap of 3.6% (Figure 160).
Given an improving earnings outlook, MSCI China also offer compelling valuations, in
our view, trading on a 12-month forward P/E multiple of 13.2x. This represents a 42%
discount to the 23.4x P/E that MSCI India trades on, or more than 1 standard deviation
below its long-term history (Figure 159).
The key risks to our views are i) persistent regulatory uncertainties in China and ii)
sustained retail flows in India.
Figure 159: China vs India 12m fwd P/E premium/discount Figure 160: China vs India EPS growth forecast
-10% 40
China vs India 12m fwd P/E premium/discount % China India 34.6
Average 35
+/-1 std dev.
-20% 30
25
-30% 20
16.8
15
14.8 13.2
-40% 10
5
-50% 0
-5
-60% -10
11 12 13 14 15 16 17 18 19 20 21 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021E 2022E 2023E
Source : IBES, MSCI, Datastream Source : IBES, MSCI, Datstream, UBS

3. Long Germany over Japan
We overweight Germany. It ranks top of the 12 countries in our European Country
Scorecard, which tracks countries on earnings momentum, valuations, profitability and
macro factors. In particular, Germany ranks in the top 3 for profitability and attractive
valuations. The recent German Federal elections will likely result in some further fiscal
easing and infrastructure investment than may have been the case pre-election,
specifically around Green initiatives. From a macro perspective, Germany is the European
country most positively correlated to rising US bond yields (as envisaged in our baseline
scenario). Germany is also exposed to a stronger global capex cycle and has a greater
potential recovery in ROE relative to Japan (Figure 161).
Japanese forecasts are already implying ROE getting closer to cyclical peaks by end-
2022. While that seems plausible, it leaves little room for cyclical upside from here, in the
absence of game-changing policies from the government that enhance the profit share
(this currently looks unlikely) or alternatively a shift to sustained inflation (which our
previous work shows could significantly increase the ROE potential for Japan). While an
improving capex spending cycle should be good for Japanese earnings, in aggregate, we
think the market looks fairly priced for its cyclical potential (Figure 162).
Figure 161: 12m fwd ROE Figure 162: Relative forward PE, Germany vs Japan
16% 1.10
12 m Fwd Germany ROE 12mFwd Japan ROE
1.05
14%
1.00
12% 0.95
0.90
10%
0.85
8%
0.80
6% 0.75
0.70
4%
0.65
2011
2011
2011
2012
2012
2013
2013
2013
2014
2014
2015
2015
2016
2016
2016
2017
2017
2018
2018
2018
2019
2019
2020
2020
2021
2021
2021
0.60
2012
2012
2012
2013
2013
2014
2014
2014
2015
2015
2016
2016
2017
2017
2017
2018
2018
2019
2019
2019
2020
2020
2021
2021
Source : Thomson Datastream, UBS Equity Strategy Source : Thomson Datastream, UBS Equity Strategy

4. Long Growth over Value
Growth’s outperformance of Value in the post GFC era has really been a game of 3 If Value didn’t outperform now,
parts. The first third, dominated by volatile commodity prices and lower real yields when will it?
between end ‘09 and end ‘14, saw Growth outperform by 23%. The second third,
which played out in the 5y to end ‘19 amidst negative European yields and fears of a
global liquidity glut, saw Growth’s out-performance of Value accelerate to 33%. The
last high-powered third was condensed in 2020, when the work-from-home and
digitisation pivot through coronavirus saw Growth outperforming Value by 37%. At the
time of writing MSCI ACWI Growth is 0.4% ahead of Value ytd 2021 (15.8% returns for
Growth, 15.4% for Value). This headline hides the strong spell of outperformance Value
enjoyed between Q3’ 20 & Q2 ‘21 Nevertheless, that we are nearly flat through the
strongest part of the reflation trade begs the question: ‘If Value didn’t outperform now,
when will it’?
The most important drivers of the Value trade are (tightening) risk premia and (higher)
inflation expectations (Figure 163). We believe both are respectively closing in on 0%ile
and 100 %ile of their historical distributions. Even if Value remains much cheaper to
Growth in relative terms, in absolute terms its valuations are well into the top quartile.
Figure 165 screens (in red boxes) the Value heavy industries (in blue) across US, Europe
and EM where valuations are still in the bottom half of their distribution. It’s a short list
concentrated in Consumer Staples, Utilities and Telecoms in DM, although better
distributed across industries in EM. Its hard to escape the conclusion that the quality part
of Value has already re-rated.
Going into next year and in very early Q1 2022 there is a good chance that Value will
outperform Growth. Strong inflation and labour market prints should see breakeven
inflation holding up (helps Value more than Growth) and real rates rise (hurts Growth
more than Value). The case for continued rotation into Value is driven more by moving
out of Growth than by strong moves into Value.
However, this template will likely not be in place over the medium to long term. While
real interest rates will continue rising for the coming 2y, the sharpest increase will likely
come between now and Q1 when the output gaps in US & Europe are likely to close at
the fastest pace, and inflation is likely to peak. As the cycle matures and earnings
momentum drops (we expect it moves negative in Q2 ‘22) the market will once again
start looking for earnings compounders, not re-rating candidates. The steeply
backwardated curves in oil & copper and the weak data from China point to a
disinflationary influence from commodities in the medium term. Operating leverage in
Industrials is likely to be compromised amidst expenditure switching towards services &
higher costs. Financials is one part of Value that could hold up well into higher rates.
If we are right there will be a fourth phase of Growth outperformance of Value where
Growth probably betters Value by 10-15% over a 5y period; much slower, in other
words, than the previous three phases, but an outperformance nonetheless.
Figure 163: T-stats of a regression of Value returns on Figure 164: MSCI ACWI Value and Growth indices' relative
changes in (i) US HY, (ii) Inflation expectations, (iii) a performance correlation* with different metrics
growth proxy, and (iv) the dollar
12.0
Since 2015 Since 2011 Oil prices -0.17 0.17
10.0
US real yields -0.11 0.10
8.0
Growth Value
G3 New orders to inventory -0.02 0.02
6.0
4.0 VIX -0.01 0.01
α = 5%
2.0 DXY Index -0.12 0.12
0.0 -0.15
G10 3m implied fx volatility 0.14
-2.0
US credit spreads -0.19 0.19
-4.0
-0.35 -0.25 -0.15 -0.05 0.05 0.15 0.25 0.35
US High Yied total return US 10 year breakeven rate Real growth proxy (3m DXY Index
lagged)
Source : MSCI, Bloomberg, UBS Source : MSCI, Datastream, UBS. *correlation based on weekly changes in data
since 2011.

Figure 165: Weight of Value and valuations of MSCI US, Europe and EM Value
US Europe EM
Industry weight Weight of Value 15y fpe and pb Industry weight Weight of Value 15y fpe and pb Industry weight Weight of Value 15y fpe and pb
Sector Industry
in MSCI US in the industry avg %ile * in MSCI Europe in the industry avg %ile * in MSCI EM in the industry avg %ile *
Communication Services Entertainment 2% 5% 77% 0% 74% 99% 1% 49% 47%

Interactive Media & Services 6% 0% 69% 0% 0% 27% 7% 11% 7%
Media 1% 69% 59% 1% 82% 15% 0% 52% 11%
Diversified Telecommunication Services 1% 100% 1% 2% 74% 35% 1% 71% 94%
Wireless Telecommunication Services 0% 0% 52% 0% 100% 26% 2% 81% 87%
Consumer Discretionary Auto Components 0% 25% 94% 0% 88% 45% 1% 90% 61%
Automobiles 3% 13% 96% 2% 55% 43% 3% 75% 96%
Household Durables 0% 100% 38% 0% 62% 27% 0% 60% 65%
Leisure Products 0% 34% 97% 0% - - 0% 42% 67%
Textiles, Apparel & Luxury Goods 1% 8% 96% 5% 9% 96% 1% 21% 96%
Diversified Consumer Services 0% - - 0% - - 0% 29% 3%
Hotels Restaurants & Leisure 2% 39% 93% 1% 16% 90% 1% 66% 69%
Distributors 0% 63% 99% 0% - - 0% 100% 10%
Internet & Direct Marketing Retail 4% 3% 78% 1% 6% 55% 8% 26% 29%
Multiline Retail 0% 75% 97% 0% 0% 84% 0% 18% 54%
Specialty Retail 2% 53% 98% 1% 13% 60% 1% 59% 82%
Consumer Staples Food & Staples Retailing 1% 74% 100% 1% 74% 80% 1% 38% 94%
Beverages 1% 91% 82% 3% 28% 97% 1% 23% 88%
Food Products 1% 90% 48% 5% 13% 100% 2% 46% 79%
Tobacco 1% 100% 15% 1% 87% 4% 0% 62% 14%
Household Products 1% 96% 94% 1% 44% 51% 0% 36% 48%
Personal Products 0% 0% 95% 2% 0% 89% 1% 36% 44%
Energy Energy Equipment & Services 0% 89% 69% 0% 0% 54% 0% 46% 44%
Oil, Gas & Consumable Fuels 2% 92% 57% 5% 96% 28% 6% 56% 42%
Financials Banks 4% 99% 82% 8% 96% 37% 14% 71% 32%
Capital Markets 3% 76% 100% 3% 52% 76% 1% 70% 46%
Consumer Finance 1% 100% 55% 0% - - 1% 12% 98%
Diversified Financial Services 1% 99% 72% 1% 39% 61% 1% 86% 65%
Mortgage Real Estate Investment Trusts 0% 100% - 0% - - 0% - -
Insurance 2% 85% 97% 5% 95% 82% 3% 87% 1%
Health Care Health Care Equipment & Supplies 3% 48% 98% 2% 13% 78% 0% 27% 25%
Health Care Providers & Services 3% 98% 85% 0% 74% 10% 1% 15% 76%
Health Care Technology 0% 26% 60% 0% - - 0% 0% -
Biotechnology 2% 61% 47% 0% 14% 82% 1% 41% 84%
Life Sciences Tools & Services 2% 24% 99% 1% 0% 99% 1% 3% 86%
Pharmaceuticals 3% 77% 71% 11% 40% 81% 1% 58% 34%
Industrials Aerospace & Defense 1% 76% 78% 2% 34% 91% 0% 62% 69%
Building Products 1% 92% 68% 1% 26% 98% 0% 87% 46%
Construction & Engineering 0% - - 1% 76% 70% 1% 93% 28%
Electrical Equipment 1% 63% 100% 2% 42% 93% 1% 38% 100%
Industrial Conglomerates 1% 86% 95% 1% 90% 78% 1% 71% 4%
Machinery 1% 71% 89% 3% 7% 94% 0% 55% 62%
Trading Companies & Distributors 0% 54% 94% 1% 15% 99% 0% 26% 92%
Commercial Services & Supplies 1% 54% 100% 0% 25% 95% 0% 88% 0%
Professional Services 1% 39% 94% 2% 12% 99% 0% 100% -
Air Freight & Logistics 1% 85% 59% 1% 55% 95% 0% 71% 54%
Airlines 0% 65% 83% 0% 50% 50% 0% 69% 89%
Marine 0% - - 0% 14% 48% 0% 51% 48%
Road & Rail 1% 62% 97% 0% - - 0% 35% 40%
Transportation Infrastructure 0% - - 0% 28% 81% 1% 49% 53%
Information Technology Semiconductors & Semiconductor Equipment 6% 37% 97% 4% 0% 98% 10% 19% 91%
IT Services 5% 27% 93% 2% 12% 97% 3% 73% 83%
Software 11% 9% 100% 2% 25% 88% 0% 18% 98%
Communications Equipment 1% 93% 89% 1% 49% 46% 0% 50% 62%
Electronic Eqpt Instruments & Components 1% 31% 97% 0% 0% 99% 3% 54% 51%
Technology Hardware Storage & Peripheral 6% 6% 96% 0% 0% 53% 5% 57% 52%
Materials Chemicals 2% 79% 67% 4% 38% 95% 3% 48% 85%
Construction Materials 0% 75% 79% 1% 93% 42% 1% 74% 32%
Containers & Packaging 0% 70% 68% 0% 100% 79% 0% 0% 89%
Metals & Mining 0% 62% 50% 3% 78% 34% 4% 49% 31%
Paper & Forest Products 0% - - 0% 81% 81% 0% 36% 21%
Real Estate Equity Real Estate Investment Trusts 3% 78% 92% 1% 100% 39% 0% 100% 7%
Real Estate Management & Development 0% 61% 81% 1% 69% 37% 2% 64% 4%
Utilities Electric Utilities 1% 100% 94% 2% 91% 92% 1% 62% 76%
Gas Utilities 0% 100% 12% 0% 100% 81% 1% 78% 24%
Ind Power & Renewable Electricity Producers 0% 100% 75% 0% 57% 91% 1% 75% 47%
Multi Utilities 1% 100% 77% 1% 94% 59% 0% 100% 88%
Water Utilities 0% 100% 98% 0% 100% 76% 0% 100% 23%
Source : IBES, MSCI, Datastream, UBS Note: (1) Value and growth factors for MSCI indices constituents used to calculate free-float-adjusted market-cap weighted Value and
Growth composition. (2) Percentiles highlighted in red borders indicate the industries that have more than 50% weight of Value in the respective industry's market-cap and
are at less than 50th percentile of long-term valuations. * Simple average of (a) the percentile of 12m fwd PE of the markets' history; and (b) the percentile of trailing P/BV of
the markets' history, both since 2004.

5. Sell 5y US TIPS
Increasingly hawkish central bank rhetoric, slowing headline inflation, crowded Forward nominals are below Fed
positioning in front-end TIPS, and fading supply/demand technicals, each present target and forward breakevens are
headwinds to the real rate market in 2022. Forward nominal yields are well below the above target, making real yields
Fed's longer-term dot, and forward breakevens are well above target (Figure 166 & 167). uniquely rich
The net result of the two is extremely rich real yields. The path we envision for both
inflation and global central bank policy in 2022 presents a unique opportunity for a
correction.
Monthly inflation readings are unlikely to relax until the middle of Q2, meaning that
Central Banks should reaffirm if not ramp up their hawkish tone. But the bar for
breakevens to rise significantly further is limited, indicating that hawkish commentary
should cheapen real yields and nominal yields alike.
Once inflation shows signs of moderating, real rates should continue to cheapen as
breakeven inflation rates drop. UBS Economists forecast that headline CPI inflation will
fall from 7% YoY to below 2% by year-end 2022. The stalling headline readings should
reduce investor demand for inflation protection, particularly from nontraditional buyers.
TIPS ETFs have seen record net inflows in 2021 (Figure 168).
At the same time as demand is easing, the TIPS market will be contending with positive
net supply for the first time since 2019 (Figure 169). Under our baseline, we forecast net
TIPS supply to be $43bn for 2022 and expect the net real duration to be absorbed by
private investors to be $62bn in 10y equivalents, after being $0bn in 2021 and negative
$118bn in 2020.
Carry on TIPS will be significant in the coming months. However, we do not see this as Softer inflation reading should cause
comparable to the 2021 summer months, when short rates were anchored globally, and demand from nontraditional TIPS
front end rate volatility was particularly low. With front end rates starting to move buyers to fall, just as net supply
erratically, lower vol adjusted carry should make buying TIPS less compelling. hitting the market rises
Figure 166: 5y5y OIS vs. Fed long-run dot estimate Figure 167: Forward CPI swaps imply inflation will remain
above Fed target for some time
5y5y OIS Median Fed Dot (min/max shaded) 3.20

5 3.00
4 2.80
3 2.60
2 2.40
1 2.20
0 2.00
0 5 10 15 20 25 30 35
1y 2y 3y 5y 10y Fed Target
Source : Bloomberg, Federal Reserve Source : Bloomberg, UBS calculations
Figure 168: Net inflows ($bn) short-dated TIPS ETFs Figure 169: Net TIPS supply to turn positive
15 250
Gross Supply (dv01 $mm) Net Supply (dv01 $mm)
13 y2016 200
y2017
11
y2018 150
9 y2019
100
7 y2020
y2021 50
5
3 0
1 -50
(1) -100
(3)
-150
(5) 2015 2016 2017 2018 2019 2020 2021 2022 2023
Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec
Source : Bloomberg Source : Haver, UBS Economics, Federal Reserve, US Treasury

6. Receive Dec-22 Euribor (fade ECB rate hike pricing)
EUR rates and the overall fixed income complex has seen unprecedented volatility in the Front-end rates globally have come
past few weeks following the BoE and Fed's hawkish pivot, the parabolic increase in gas under pressure recently and show a
prices and the fear of supply bottlenecks leading to persisting inflationary pressures. The front-loaded path for hikes
surge in volatility, especially in the front-end, has resulted in significant stop-outs as one
VaR shock after another has battered the curves.
As a direct consequence of this volatility and the ECB's weaker-than-expected push-

back at the last Governing Council meeting, the market has continued to price rate hikes
in 2022.
On the macro front, our economists see above-trend growth in 2022/23 with support Our economists see above-trend
from household consumption, fixed investment and monetary and fiscal policy, growth over next two years; HICP to
including the EU recovery fund. Inflation is still expected to be transitory (Figure 170), average 2.2% in 2022 and 1.5% in
driven by higher energy prices and supply bottlenecks. Against this backdrop, following 2023, but uncertainty is high and
a peak of 4.3% y/y in November, headline HICP is expected to drop back below the risks are to the upside
ECB's 2% target in Q4 2022, implying a decline in the annual average from 2.5% in
2021 to 2.2% in 2022 and 1.5% in 2023. Core inflation is expected to rise from 1.4% in
2021 to 1.6% in 2022/23. However, uncertainty is high as bottlenecks could last longer.
Persisting inflationary pressures could get embedded in household inflation
expectations, ultimately leading to a stronger pick-up in wage growth and core inflation.
In our view, the scenario where the ECB stops PEPP in March-22 and then stops APP Given past errors, the ECB is likely to
shortly thereafter and goes on to hike rates by December 2022 is a low probability be more cautious and wait for
outcome. Even in a scenario where inflation prints run at an elevated pace for longer evidence on second-round effects
than expected owing to supply bottlenecks, etc, the ECB is unlikely to pull the trigger on
rate hikes at least next year. Recall that of the major DM central banks, the ECB is the
only one which has two policy errors to its name - once when they hiked in 2008 right
before the Lehman crash, and then again in 2011 before the European debt crisis. In
both cases, high inflation prints were an outcome of high commodity prices.
Therefore, with the ECB, it is likely to be a case of 'once bitten, twice shy' and they are ECB could make design changes in
likely to wait for considerable evidence of second-round effects before they embark on December to push back on market
interest rate policy normalisation. At the December 16th meeting, we think the ECB pricing
would likely make design changes to the APP and keep the programme running until
end-2022. Given the well-defined sequencing between QE and rate hikes (i.e. no hikes
before asset purchases end), this should allow the market to price out the hikes in 2022
(Figure 171).
Thus, we recommend fading the pricing of ECB hikes in 2022 by receiving Dec-22
Euribor. Spillovers from other markets as well as the upcoming high inflation prints in
Euro area and US could be a source of volatility for the trade though.
Figure 170: Our economists inflation to be transitory and Figure 171: Markets have front-loaded rate hikes in 2022
fall below 2% in H2-21
4.0 40
3.5 UBS 1yf3m Eonia - 3m Eonia
Headline HICP Core Forecast 30
3.0
2.5 20
2.0
10
1.5
1.0 0
0.5
-10
0.0
-0.5 -20
-1.0
-30
Jan-10 Aug-11 Mar-13 Oct-14 May-16 Dec-17 Jul-19 Feb-21 Sep-22
Sep-14 Dec-15 Mar-17 Jun-18 Sep-19 Dec-20
Source : Haver, UBS estimates Source : Bloomberg, UBS

7. Long US 5y5y inflation vs Europe 5y5y inflation
Long-dated European inflation expectations are above the ECB's stated target of 2%. The spread between US and
Meanwhile, US 5y5y CPI is at 2.40%, which is consistent with the rate implied by the European forward inflation
Fed's new FAIT (Figure 172). Given our forecast that inflation should roll over more expectations are at the low end of
quickly in Europe than in the US (Figure 173), we think the term premium provided to the range
the forward market in the European region should move back towards the ECB's stated
goal . On the contrary, with inflation risk premium significantly inverted in the US (Figure
175), we think any fall in inflation will steepen the CPI curve, helping to support the 5y5y
point.
While the trade looks attractive in spot long end inflation, impaired idiosyncratic
dynamics at that part of the curves makes the 5y5y point a more attractive (Figure 172).
Moreover, the 5y5y piece has an additional right tail inflation scenario hedge. If energy
prices continue to rise, then the US should outperform, as the CPI has added exposure to
gasoline prices compared to HICP.
Figure 172: 5y5y Inflation Spread and spot 30y inflation Figure 173: Forecasted headline CPI & HICP inflation
spread
1.20 8.0
US/EU 5y5y Inflation Spread CPI Y/Y HICP % y/y
1.00 US/EU 30y Inflation Swap Spread 7.0
0.80 6.0
0.60 5.0
0.40 4.0
0.20 3.0
0.00 2.0
-0.20 1.0
-0.40 0.0
-0.60 -1.0
Source : Bloomberg UBS calculations Source : UBS Economics
Figure 174: 10y20y inflation expectations well above the Figure 175: Inflation risk premium in the US inverted
ECBs target, but fair to the Fed compared to Europe
100
3.50
10y20y CPI 10y20y HICP US Inflation Premium EUR Inflation Premium
80
Fed Target ECB Target
3.00 60
40
2.50
20
0
2.00
-20
-40
1.50
-60
1.00 -80
Source : Bloomberg, UBS calculations Source : Bloomberg, UBS calculations

8. AUD 2s5s flattener vs UK steepener
The BoE and the RBA are amongst the central banks that have signalled their willingness We expect the AUD 2s5s curve to
to remove some of the accommodation put forth during the pandemic. bear-flatten as the RBA exits QE and
market brings forward rate hikes. In
The RBA has discontinued the YCC target at 10bp as strength in the domestic labour the UK, we expect the curve to
market and rapid reopening of the economy removed downside risks. This saw markets steepen as too much tightening is
challenge the RBA's 0.1% yield target for the Apr-24 line, when they did not reiterate priced in 1 years time.
their commitment with actual purchases. Gov Lowe has continued to sound dovish
signalling, that it is still entirely plausible that the first increase in the cash rate will not be
before April 2024, but it is now also plausible that a lift in the cash rate could be
appropriate in 2023. Overall, UBS still expect the RBA to hike only slowly in 1H-23 to
0.5%.
While the ACGB front-end has moved quickly, we continue to expect ongoing upward
pressure. Notably, we expect that the RBA will move quickly towards ending QE and this
should see the market bring forward rate hikes – and add flattening pressure to the
curve.
On the UK front, the confusing communication from the BoE had seen a significant
front-loading of rate hikes. In fact, despite the recent push back at the November MPC
meeting, the market still prices the fastest pace of tightening in 1y ahead time since the
GFC (when the MPC had just cut by 450bp) (Figure 176). Consequently, the 1y1y-3y1y
Sonia curve is inverted and the Gilt 2s5s curve too flat pointing to a low terminal policy
rate.
Gov. Bailey's pushback on the scale of tightening priced in reinforces our view that the
MPC wants to exit the emergency policy setting rather than jam the brakes on the
economy. This should allow the aggressive pricing in the front-end to ease and move
further down the curve, thereby steepening it.
Historically, the 2s5s AUD vs UK box has been anchored around 0bp and is currently well
into positive territory - that is, the AUD curve is too steep and the UK curve is too flat. We
expect the box to normalise close to its historical trading range (Figure 177).
Figure 176: Market prices the most amount of tightening Figure 177: We expected the spread between AUD and UK
by BoE in 1 year's time since the GFC 2s5s curve to get close to 0bp
150 6 120
Rate hikes priced in 1y time (bp, LHS)
100 BoE bank rate 5 100

AU 2s5s
UK 2s5s
80
50 4
60
0 3
40
-50 2
20
-100 1
0
-150 0 -20
'07 '08 '09 '10 '11 '12 '13 '14 '15 '16 '17 '18 '19 '20 '21 '22 Jan-17 Jun-17 Nov-17 Apr-18 Sep-18 Feb-19 Jul-19 Dec-19 May-20 Oct-20 Mar-21 Aug-21

9. Sell CNY NEER
We expect the CNY NEER to weaken by 3-5% in 2022. On a trade-weighted basis, We recommend scaling into CNY
the CNY has appreciated 9.6% from its 2020 lows and 6% YTD. CNY's resilience, NEER shorts via long SGD/CNH.
despite China's slowing economic momentum, has been underpinned by resilient
export growth (16% CAGR over Q3 2019) and a healthy external balance. As we discuss
below, these tailwinds are gradually easing, FX valuations are increasingly demanding,
while risks of cyclical capital outflows are rising.
NEER richness now comparable to 2015. Our favourite metric to track CNY CNY's fair value on our favourite
fundamental fair value is China's share of global exports. This share jumped by 1.5ppt in indicator - China's share of global
2020 (vs. an average 15bp/annum decline in Dec-15 to Dec-19), but is now starting to exports - is now ~6.75/$. With export
unwind quickly. As a rule of thumb, over the past 15 years, every 1 ppt change in China's growth slowing, likelihood of a
share of global exports is equivalent to a 5ppt CNY TWI move (Figure 179). As such, the policy push-back against RMB's one-
same metric that underpinned our bullish view on RMB in 2H21 and in 2022 (see here way appreciation is rising.
and here) is now flashing warning signals. In fact, China's share in US imports is now
back to pre-Covid levels, the 2nd percentile of its 10y history, while the RMB is screening
5% rich on this metric - to the extent that it had in August 2015. We note that workday
and seasonally adjusted annualized export growth is now tracking only 3% (6m
annualized change) vs. 54% in Feb-21.
Capital outflows amid weaker housing sentiment a potential catalyst for Over the last 15 years, capital
CNY TWI weakness. It's widely known that CNY's external balance is strong amidst outflows in China followed a
reduced outbound tourism flows (~0.8% of GDP lower outflows than 2019) and steady slowdown in the housing cycle. Will
debt inflows. This strength, however, is slowly receding (Q2-Q3 2021 debt flows fell by this time be any different?
62% from previous three quarters) and is also an area of vulnerability i.e. carry
positioning in the form of $313bn debt inflows in the past 3 years (mostly FX unhedged).
This could be exposed if RMB's one-way movement becomes two-way, or RMB's carry is
compromised further. One catalyst for such a reversal, in our view, could be a potential
acceleration of resident outflows. Over the last 15 years, capital outflows usually
followed a slowdown in the housing cycle. These outflows, hidden in the other
investment flows or errors component of BoP accounts, reached -6%/GDP during the
previous such downturn in 2015 and can thus overshadow the current account surplus
(Figure 178).
Our preferred expression to sell the CNY NEER is to buy SGD/CNH. The neatest Buying SGD/CNH is preferred
expression to sell the CNY NEER on a single cross is to sell CNY/SGD. We note that expression to sell CNYNEER. One,
because of a broadly similar construct of the SGD and CNY TWI baskets, SGD/CNH is as because the cross is 95% correlated
good as S$NEER vs. CNY NEER (5y correlation of FX cross vs. NEER ratio is 95%). to the ratio of SGD and CNY TWIs.
Moreover, our expectations of ~1.5-2% SNEER appreciation in 2022 adds alpha to this Two, we expect S$NEER to appreciate
trade. In particular, we note that the MAS does not completely share most central banks' by 1.5-2% in 2022 as MAS normalizes
view of 'transitory' inflation and hence is likely to normalize FX policy further in 2022 (by policy even further.
lifting the S$NEER slope in both Apr and Oct meetings).
Figure 178: China's housing cycle and capital outflows Figure 179: CNY NEER is now as rich as in Aug-15
Log (CNY NEER)
China BoP, Other investment flows + errors/omissions (% of GDP), ANNUAL CHANGE 4.9 R² = 0.8686
(%y/y)
Home prices growth (y/y, rhs)
6% 20% 4.9
2006-2021
4% 4.8
Aug 2015
15%
4.8 CURRENT
2%
4.7
10%
0%
4.7
-2%
5%
4.6
-4%
4.6
0% Every 1ppt decline in share in global imports
weakens RMB TWI by 5%. On this metric CNY's fair
-6% 4.5 value is 6.80
-8% -5% 4.5

06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 8% 9% 10% 11% 12% 13% 14% 15% 16% 17% 18%
China's share in global imports
Source : UBS, Haver, Bloomberg Source : UBS, Haver, Bloomberg

10. Long JPY vs CHF
CHFJPY is subject to stretched valuations on both legs. The COVID shock, a challenging CHFJPY combines stretched
risk backdrop and narrowing rate differentials have all contributed to the franc's richness valuations on both legs
at various points during the last two years. The latter have now become particularly
extreme with the SNB priced to hike well ahead of the ECB. Both elements should start
to reverse as cyclical growth momentum stays solid and the SNB may ease rate market
distortions by potentially adjusting tiering modalities in December (Figure 180). The yen,
meanwhile, has traded off unstable US yield correlations, also taking a hit from a
deteriorating trade balance on the back of temporary (auto-related) weakness in exports
and a higher energy import bill. Normalisation seems more likely here too, leaving record
asset manager yen shorts – which afford almost no carry cushion – vulnerable.
We see two stand-out trades. The first is to take advantage of the JPY skew as USDJPY
puts have never been cheaper over calls outside of the 2012-15 Abenomics period
(Figure 181). CHFJPY at-the-money vol, meanwhile, trades at its 11th percentile going
back 20 years and is about one vol above the all-time lows. Downside with a long vega
angle is thus attractive. We’d go for a six-month 118 CHFJPY digital or vanilla put with a
knock-out struck at around 127 – a level only briefly exceeded in 2015 following the
SNB’s floor release – which cheapens the structure by about 30% versus the vanilla.
The second is to sell elevated euro-cross correlations via dual digitals such as buying a
2% in-the-money EURCHF call vs a 3% out-of-the-money EURJPY put for c. 12%. This
reduces the premium cost by around 50% and also works well in a scenario where
EURCHF stays above 1.04 while EURJPY reverts lower.
Figure 180: CHF is too strong relative to rates pricing Figure 181: Asset managers are record short JPY

11. Short EURGBP
Sterling remains on track for further gains next year despite a persistently negative The pound should remain supported
market narrative at virtually every turn in recent months. Post-Brexit BoP trends continue by BoP trends and BOE tightening
to lend structural support in the guise of elevated FDI flows and a narrower current
account deficit, both of which are developing broadly as expected (Figure 182). Cyclical
factors are also positive for the pound. The BOE is set to tighten policy in 2022, yet a
hiking cycle of c. 100bps as currently priced by markets is far from overly restrictive. This
is particularly so given elevated inflation expectations and solid recovery momentum,
which should allay fears of premature policy tightening. This means that the pound can
close the wedge that has opened up versus rates once such fears start to recede (Figure
183). The same goes for fiscal tightening, which is modest and keeps with its history of
counter-cyclicality.
We recommend straight EURGBP downside as realized volatility has fallen to record lows
of below 5 vols in the 3-6 month tenors. This has pulled implied vols lower and makes
the positive risk reversal relative to base volatility high at about 10%. 25 delta puts are
accordingly inexpensive and would benefit swiftly should variance start to pick up.
Figure 182: GBP supported by BoP improvements Figure 183: GBP to catch up to rates pricing
1.30 0.78
C/A gap from long-term avg. (% of GDP)
3% 135 1.10 GBP 1y3y forward 0.80
GBP TWI (rhs)
EURGBP (RHS, inv)
2% 0.90 0.82
125
1% 0.70 0.84
0% 115 0.50
0.86
-1%
0.30
105 0.88
-2%
0.10
-3% 0.90
95 -0.10
-4% 0.92
-0.30
-5% 85 Nov-19 May-20 Nov-20 May-21 Nov-21
82 86 90 94 98 02 06 10 14 18
Source : Haver, UBS Source : Bloomberg, UBS

12. Short USDCAD
There are three reasons to be bullish CAD. The first is valuations, with USDCAD standing CAD is cheap, the BoC hawkish and
too high versus a simple model of two-year interest rate differentials and Canadian BoP dynamics are turning positive
Select crude (Figure 184). Second, inflationary pressures in Canada appear much
broader than even the US, as the economy operates substantially closer to potential.
Accordingly, the Bank of Canada can press ahead with policy tightening, continuing to
lead most G10 peers. Lastly, Canada’s BoP dynamics are turning more positive, with the
current account registering its first positive print since 2008 alongside improving
portfolio flows. The latter were very negative over the summer as local pension funds
bought foreign equities at a record rate (Figure 185).
Our sub-1.20 target is best captured by a six-month 1.18 digital put offering a 7:1
payout ratio. Investors willing to sell the still-elevated USD call skew should also consider
seagulls whereby selling a tight call spread partially finances a USDCAD put.
Figure 184: USDCAD fair value implies significant Figure 185: Portfolio flows turning CAD positive
downside
Source : Bloomberg, UBS Source : Haver, UBS

13. Receive Jan-23 DIs. Long USDBRL
Negative news around the fiscal outlook and the faster-than-expected rise of inflation in Brazil has led the global tightening
early Oct have led markets to price in a policy rate of 13.75% by June'22. This would be campaign, and inflation has now
more than double Brazil's neutral rate (~6.5% according to our economists) - no other likely peaked. Jan 23s are priced at 2x
central bank globally is priced for such extreme divergence from neutral policy. Instead, neutral levels, reflecting substantial
we expect the Selic rate to peak at 11.5% by March'22. Inflation it close to peaking fiscal risk premia
(UBS: 2021e: 9.2% vs 10.4% in Oct and 2022e: 4%), and while there is some
uncertainty around the near-term peak, a consolidation of commodity prices, coupled
with the impact of higher rates on the economy, should drive strong disinflation in 2022.
The food/core relative price is quite high, with significant pressures on goods, foodstuffs
and energy, but we expect it to revert in H1'22.
But focus will remain on the fiscal outlook and this will dictate the direction of travel for Further fiscal uncertainty possible
local assets. The potential solution to the Precatorios/Auxilio Brazil conundrum will into 2022 Budget congressional
create room for local authorities to increase spending, without “breaching the cap”. The discussion. But the electoral law
potential modification to the way the expending cap is adjusted every year has it merits, contains the fiscal risks next year.
but would risk diluting the market's confidence in fiscal policy predictability. This, and
the extra expending associated with Brazil's new social program, have diluted the
credibility of the spending cap. We recognise that upside spending pressure could
emerge in the 2022 Congressional Budget discussion (through December), especially
ahead of the Oct 2022 presidential elections, but the electoral law puts hard constraints
around local authorities that limit their ability to increase spending next year in the same
way they did in 2021.
Having said that, the move in 2y real rates (deflated by 12m forward inflation 2y real rates vs. the US priced back at
expectations) show that markets are getting close to 2015 stress levels, suggesting that post-GFC highs. Markets are acting
they are acting like there are no fiscal anchors in place (Figure 186). We don’t think that like there are no fiscal anchors in
30/60bn BRL more in a 1.5tn BRL budget is enough to put us in that state of the world. If place.
the BCB were to validate what the Jan-23 is pricing in, it would be a remarkably tight
monetary stance with profound implications for the 2022/2023 growth outlook (UBSe:
1.2% in 2022 and 2.2% in 2022), and with ~35% of the local debt now linked to the
Selic rate, it could exacerbate the risks around the fiscal outlook and put unnecessary
upside pressure for the path of debt/GDP ratio.
We think there is value in receiving the Jan-23 at these levels, but we recognize the risks We like receiving the Jan-23 at these
to this trade. If rates were to push materially higher from here, it will likely be due to levels, but we also prefer to hold
credit risk, which would have second-round impacts on USDBRL. Hence we also buy USDBRL upside protection in case the
USDBRL upside protection (6m call spread, strikes: 5.95 and 6.5 for roughly 3.4:1 risk/ fiscal outlook deteriorates further.
reward). The response of the FX to recent fiscal noise has been quite muted so far
(arguably due to Brazil's better external position, with foreign positions in the local debt
market down from 20% in 2015 to 10% today) relative to front-end rates, but locals'
low short BRL positioning means that the FX looks particularly vulnerable to incoming
fiscal/political noise from here. A notable slowdown in export growth over the coming
3-4 months could both keep the BRL on the back foot as well as motivate the CB to
terminate the tightening cycle (Figure 187).
Figure 186: 2y real rates at record wides vs. US. Rates Figure 187: A notable slowdown in export growth over the
unlikely to rise further absent major fiscal deterioration, next 3-4 months should keep the BRL on the back foot
which would sharply weaken BRL even if fiscal risks moderate
% %
11.0 605 70
60 Export growth y/y %
9.0 505
50
Export growth, predicted by model
7.0 405 40
30
5.0 305
20
3.0 205 10
0
1.0 105
-10
-1.0 5 -20
2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021
-30
2y BRL real rate (deflated by 12m inflation expectations) vs 2y US linker
2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022
5y CDS (rhs)
Source : Macrobond, Bloomberg, UBS Source : Haver, Macrobond, UBS

14. Long USD and EUR vs ZAR
We see risks of stronger EM FX depreciation ahead over the coming 3-6m. The ZAR is Higher, front-loaded US real yield
likely to be a key participant in this move, in our view – we target a move to 16.25/USD increases into mid-22 likely to
in 6m. pressure the ZAR
1) UBS expects US 10y real yields to move up c.75bps between now and mid-22
(vs. forwards at 25bps, and ytd movement of just +6bps). Traditionally the ZAR has one
of the highest sensitivities in EM FX to rising US real yields (along with MXN and COP),
likely due to the high share of PGM and precious metals in exports, and the traditional
dominance of fixed income over equity flows in South Africa’s BoP financing.
2) We expect EM export growth – a critical driver of EM FX, in our view - to By late Q1, South Africa and
increasingly slow from early 2022 as the full impact of China’s housing slowdown EM export growth poised to cool
radiates to the rest of EM (UBS expects China’s credit impulse to remain negative towards levels that have historically
through to late-2022, with housing activity particularly weak in H1), global consumption evoked NEER depreciation pressure
tilts increasingly towards less metals-intensive services, and y/y base effects on most
metals prices turn less supportive. For median EM we simulate an export growth
slowdown from 28% y/y currently to 10-15% y/y by end Q1, a threshold that has
historically seen EM NEERs come under downside pressure.
3) Relatedly, we expect most EM trade balances to deteriorate further over the coming South Africa's external surplus set to
1-2 quarters. In South Africa, our simple terms of trade tracker simulates that the trade moderate at the fastest pace across
balance is at risk of falling back from 12.5%/GDP (saar) in September towards major EMs, even as GDP growth
2%/GDP. It is unlikely that a tourism recovery (net tourism revenues 1.4%/GDP in 2019) slows
will be sufficient to offset this deterioration from a current account perspective. UBS
forecasts the largest current account deterioration in major EM in South Africa next year
(Figure 188).
4) ZAR carry has improved, but may not be sufficient. We simulate that a ZAR's carry superiority has waned,
slowdown in export growth towards 10% y/y and 20bp widening in 5y CDS spreads and is likely insufficient for a world
would mean that the ZAR needs 7.5% carry to outperform the USD in spot terms. The of weaker export growth and wider
carry on offer today is 5%. Moreover, we are highly sceptical that the SARB will be credit spreads
willing to tighten as aggressively as FRA markets are pricing in (c.275bp over the next
15m vs UBSe: 125bp), in the context of record unemployment, anaemic credit and
investment growth, and an output gap that the SARB sees negative until 2024. Note
also that while the ZAR was the 2nd highest yielding EM currency at the start of 2021, it
is now the 5th highest.
5) Debt servicing metrics to deteriorate. While robust mining and VAT revenues and Nominal GDP growth set to slide
favourable GDP rebasing have powered faster-than-expected compression in SA's fiscal back below debt servicing costs
deficit, future fiscal risks remain non-trivial as the windfall from higher commodity through 2022
revenues may well be transitory, while pressure to increase expenditure on, for example,
a basic income grant could be permanent. As nominal GDP growth next year falls
towards 6% (from 11% in 2021) and government funding costs remain around 6.5%,
we see risks of capital flows deteriorating in 2022 (Figure 189).
Figure 188: South Africa trade balance vs median export Figure 189: 2022E nominal GDP growth – effective interest
prices to oil rate on govt debt vs gross debt
(Indexed to Jan-2020 = 1) 2022E nominal GDP growth – effective
2.1 8
8.5% interest rate on govt debt TR
Export prices (median) / oil (12m lag) IN
MY
1.8
6 7.0%
South Africa trade balance/GDP (3m saar, rhs) HU
PL CN
1.5 CL
5.5% CZ
4 PH
ID
1.2 4.0% TH
2 PE
0.9 2.5% RU CO
0 MX
0.6 1.0%
BR
-2 -0.5%
0.3
ZA
-2.0%
0.0 -4 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%
Dec-12 Dec-13 Dec-14 Dec-15 Dec-16 Dec-17 Dec-18 Dec-19 Dec-20 Dec-21
General Government Gross Debt (% of GDP, 2021E)
Source : Haver, Macrobond, UBS Source : Haver, IMF, UBS

15. Receive 3y Korea vs Pay 3y India rates
We recommend receiving 3y KRW NDIRS vs. paying INR NDOIS, looking for a 50bp Receive 3y KRW vs. INR targeting a
compression of the spread in 1H22, net of carry. While both markets are priced for 50bp move in 1H22, net of carry.
extreme tightening, we consider Korea's more dislocated while India's is vulnerable to a
further re-pricing in 1H as RBI calibrates interbank liquidity operations (worth a 60bp
hike), and raises the repo rate in 2H. Moreover, we note that the CPI inflation trajectory
over the next four quarters favours India payers over Korea, while INR/KRW 3y IRS spread
sits at 5th%ile of 10y history.
Korea interest rate swaps are priced for BoK's policy rate to reach ~2.15% by end 2022. Market pricing of a steeper hiking
That is about 5.5 hikes in nine policy meetings (or cumulatively 6.5 hikes over 2021-22 cycle by the BoK vs. 2010-11 is a
hiking cycle). This extreme pricing is not only larger than the 2010-11 hiking cycle (of dislocation and a fade. We expect the
125bps), but also disregards the cyclical and structural trends. On the cyclical front, we BoK to deliver only a couple of hikes
note that: a) the cyclical component of Korea's leading economic activity index peaked from here vis-à-vis market pricing of
in Q3 and has declined since then (likewise for OECD's Korea LEI) (Figure 190), b) CPI 5.5 hikes by end 2022. Cylical LEI has
inflation also peaked in October, with base-effects alone bringing it lower by ~130bps in turned, while CPI inflation will come
next six months, and c) growth momentum also eased with y/y GDP growth coming off in by ~150bp in next couple of
from 4% in Q3-21 to 2.8% by Q4-22. Indeed, significant flattening of the IRS curve (10y quarters.
vs. 1y1y) is quite telling about markets' take on this pricing. On the structural front, we
note that Korea's neutral rate has fallen from ~3.25% to 1.25% over the past decade
amidst a post GFC shift in savings-investment gap, elevated debt burden, declining
trend GDP and ageing population. We see value in receiving 3y KRW IRS.
India’s market pricing of rate hikes, like Korea, is also quite stretched. However, barring a With India's growth momentum
new C19 mutant risk scenario, we see less risk of a de-rating of these policy extremely strong into Q4-21, 1H22
normalization expectations (vis-à-vis Korea). Five reasons. Firstly, RBI’s policy CPI inflation expected to average
normalization has not even begun. We expect RBI’s liquidity calibration (a 60bp hike 150bps above Sep-21 levels, RBI on
equivalent) to continue in the Dec-21 quarter, followed by a shift in monetary policy the very early stages of policy
stance to neutral, and a reverse repo hike (likely from Mar-22), to be followed by repo normalization and India's known
rate hikes in 2H22. Secondly, CPI inflation should turn less unfavourable in coming unfavourable relationship with
months, as we expect y/y CPI inflation to jump by ~150bp in 1H22 (from 4.4% in Sep to energy prices, we expect swaps re-
5.8%y/y average in 1H). Elevated core CPI at ~5.2% in 2022 and an upside in food CPI pricing to extend in coming months,
inflation (from 1.6% in Q3-21 to 5.25% in 2022,UBSe) will also increase tightening targeting 5.75% on 3y NDIRS.
expectations (Figure 191). Thirdly, UBS forecasts investment growth to recover in 2022
from 4.3% in FY22 to 11.6% in FY23. Fourthly, our bank analysts also expect a strong
recovery in the credit impulse, with private credit growth also forecasted to rise to 10%
in 2022-23 (fastest since 2017 or ~1.5pppt higher than 2016-20 average). Lastly, there
are early signs of declining labour market slack, with CMIE’s survey UE rate declining to
6.9% in Sep (vs. 9.2% in Jun-21, 10.4% in 2020, or 6.7% average in 2018-19). If RBI
stays dovish despite these developments, we expect the market to price in a steep
tightening cycle in 2023-24, likely pushing 3y IRS to 5.75% in 1H22.
Figure 190: Korea's leading index turned in Q3, while Figure 191: India's real policy rate, in contrast, is not priced
market is priced for a rate gap (vs. neutral) as extreme as for a reversal to positive territory until late 2022
2010
Rate Gap (2y forward market pricing vs. neutral) 104 5

Real policy rate (3m OIS - CPI) Market pricing of real rate
1.4 Korea leading index, cyclical component, RHS
4
1.2 103
3
1.0
2
102
0.8
1
0.6
101 0
0.4
-1
0.2
100
-2
-0.1
-3
-0.3 99 03/11 03/12 03/13 03/14 03/15 03/16 03/17 03/18 03/19 03/20 03/21 03/22 03/23
10 11 12 13 14 15 16 17 18 19 20 21
Source : UBS, Haver, Bloomberg. Note: We refer to rate gap as the spread between Source : UBS, Haver, Bloomberg. Note: We refer to real policy rate as spread
2y forward 3m rate vs. IMF's historical estimate of the neutral rate. between 3m NDOIS and quarterly CPI inflation average (y/y)

16. Long 10 Russia OFZs vs IndoGBs
We recommend going overweight 10y OFZs (FX unhedged) against underweight 10y Overweight OFZs.
INDOGBs (Figure 192). The yield differential is currently at the 90th percentile of its 10y (i) RUB is priced for12m Brent in the
distribution. We expect 10y RUB/IDR yield spread to compress by ~90bp and RUB/IDR FX mid $60s
cross to appreciate by 5% by end 2022. Our BEER metrics suggest the RUB is 3-4% (ii) CBR has hiked rates above pre-
undervalued (0.75 std deviations) to current oil and CDS spreads i.e. it is priced for 12m pandemic levels and well above
Brent oil prices around $64/bl (currently $75/bl). Under UBS’ baseline oil scenario of neutral at c.5-6%. UBSe: 250bp of
$68.5/bbl in 2022, the CA surplus is seen at 5.8%/GDP in 2022 (10y average: 3.4%); rate cuts in 2022-23 vs. no net easing
every $10/bl move in oil prices shifts the CA by c.1.5%/GDP. priced in
(iii) We target 75bp compression in
While cognisant of near-term sticky inflation, we see the CBR’s hawkish stance – taking 10y OFZ yields
policy rates to 8% this year (UBSe), with risks of more, vs. CBR’s estimates of neutral at
5-6% – and discussion of a lower inflation target from next year as providing a credible
anchor for disinflation in 2022 and beyond. There are already signs that monetary base,
wage and retail sales growth are sequentially moderating. A likely deceleration in food
price inflation (11% y/y) should also help reduce household inflation expectations,
allowing the CBR to ease in H2-22. The reintroduction of the fiscal rule in 2022 is likely
to drive negative total government expenditure growth next year, complementing CBR’s
tight policy stance. Meanwhile, net OFZ issuance is seen at RUB2.2trn in 2022
(RUB1.8trn in 2021e) based on the FinMin’s conservative oil assumption of $62/bl Urals
– but with the fiscal balance likely to be in surplus, the Finance Ministry could opt to
reduce issuance to reduce pressure on the bond market. US sanctions on the secondary
market for Russian debt are the key risk to this trade.
IDR is ~2% overvalued on our BEER metrics (controlling for Indonesia's terms of trade Underweight IndoGBs.
(ToT), US real yields and EM credit spreads) (Figure 193). With US real yields headed (i) IDR is 2% overvalued.
higher in 2022 (likely by c.70bps in 10y by mid-22) and key export prices likely peaking (ii) BI's monetary policy should
(UBS forecasts coal/palm oil prices to decline by 25%/15% respectively in 2022), we normalize in 2022-23; we expect
expect IDR to weaken to 15,000/USD by end 2022. Moreover, with domestic demand 150bp of rate hikes.
recovery taking place alongside slower export growth (3.6% in 2022 vs. 36.2% in (iii) IndoGB vs. EM high yielders
2021), we expect the current account balance to also normalize. spread is 2.2 standard deviations
below 10y average
IndoGBs were the third best performing bond market globally in 2021 (after China and
Japan) with 10y yield rising by only 17bp vs. 64/190bp rise in 10y UST/GBI-EM yield YTD.
This outperformance, despite a historically elevated fiscal deficit, was driven by Bank
Indonesia's unconventional QE (burden sharing and primary market bond purchases).
While BI's support in 2022 will continue, it will likely taper while banks' demand for
bonds will also recede as credit growth recovers. Moreover, we expect BI's monetary
policy to start normalizing with liquidity support tapering in 2H, with the central bank
hiking the policy rate by 50bp in 2022 and 75bp in 2023. With 10y IndoGB yield
screening rich vs. other EM high yielders, we expect the central bank to tolerate a rise in
10y yields to 7% by end 2022.
Figure 192: OFZs screen cheap vis-à-vis USTs and CDS Figure 193: IndoGBs screen rich vs other EM HY
EM HY (ZAR, INR, RUB, BRL, MXN) average 10y yield
10y OFZ-UST spread % bps
15 10.0 IDR 10y yield 100
IDR 10y yield spread over other HY EM (RHS, bp)
R² = 0.8339
9.5 50
13
9.0 0
11 Latest
8.5 -50
9
8.0 -100
7
7.5 -150
5 7.0 -200
5y Russia CDS
6.5 -250
3
0 100 200 300 400 500 600
6.0 -300
11 12 13 14 15 16 17 18 19
3.50 20 21
Source : UBS, Bloomberg Source : UBS, Bloomberg

17. Long Asia HY
We initiate a long Asia HY trade based on our view that 1) there has been a clear
signalling from the PBoC that we are now entering into a policy relaxation cycle, 2)
pricing across “at risk” Chinese property developers now at extreme levels and 3) cheap
absolute and relative valuations coupled with limited credit losses should entice some
speculative buying over the next 3-6m. Our preferred implementation would be via TRS,
active mutual funds or a basket of underlying bonds.
Asia HY spreads at 1119bp are currently trading anywhere between 3-4s.d. cheap We expect modest property policy
relative to Asia USD IG spreads, USD HY spreads and EMBI spreads, with ~74% of the easing and a sequential rebound in
current index spread on offer concentrated in Chinese property developer issuers. In our growth momentum to take Asia HY
base case, we expect Asia HY spreads to tighten by ~175bp to 950bp between now and spreads closer to ~800bp by mid-year
year end (index total return: +6.6%), as investors look to 1) fade overly pessimistic 2022. This equates to an index total
pricing of default risk/recovery rates across “at risk” Chinese property developer issuers return of ~14%. Adjusting for losses
and/or 2) buy dips in BB/BB+ rated Chinese property developers, where MV weighted (assuming they are front loaded in
coupons are close to 6-7% and market implied default probabilities remain low. Should H1 2022), we expect the total return
Evergrande and other "at risk developers" default, we expect the loss-adjusted index on the index to fall by ~124bp
total return to only fall by ~70bp to ~6%, with most issuers already priced close to or (4.2% default rate) to 12.8% in our
even below our estimated recovery rate of $35. In this scenario, Asia HY would still be base case scenario and by ~250bp
the best performing credit market globally, hence we think this trade makes sense today. (8.2% default rate) to 11.5% in our
That said, we do think that volatility will remain elevated as investors look to reduce risk worst case scenario.
ahead of a challenging Q1 in terms of USD maturities next year. Beyond Q1, we do
expect both the fundamental and liquidity backdrop to improve at the margin, driven by
modest property policy easing and a sequential rebound in growth momentum. We
expect this to drive beta compression, led by higher quality credits, similar to the rally we
have witnessed since mid-October whereby BB-/B+ credits have significantly
outperformed B-/CCC credits (Figure 194). This should take Asia HY spreads closer to
~800bp by mid-year 2022, in our view, equating to an index total return of ~14%.
Adjusting for losses (assuming they are front loaded in H1 2022), we expect index total
return to fall by ~124bp (4.2% default rate) to 12.8% in our base case scenario and by
~250bp (8.2% default rate) to 11.5% in our worst case scenario (Figure 195). Our base
case scenario assumes default rate levels across Asia HY rating buckets slightly above
their 10-year averages, while our worst case scenario assumes default rates similar to
those in 08/09.
In terms of return convexity, the best case scenario for this trade would be if we were to Further PBoC policy easing could be
see more broad-based easing from the PBoC, in turn helping reduce market pricing of the catalyst for this to comfortably
default risk further in the coming months. Policy easing could be in the form of 1) be a 10%+ trade, while a cascade of
granting developers a longer transition period for meeting the "three red lines" of debt defaults heading into a challenging
reduction, 2) asking banks to extend loan repayment for developers and related Q1 in terms of USD maturities
suppliers and 3) local governments easing policies with respect to price controls and land remains the biggest risk.
supply. This could take Asia HY spreads close to 700bp. The worst case scenario for this
trade would involve a cascade of defaults, with all “at risk’ Chinese property developers
being forced into restructuring/liquidating within a short period of time. This could take
the Asia HY default rate above our 8.2% default rate, something that could naturally
create potential spill-over into Asia IG credit as well as Chinese banks. This could take
Asia HY spreads through March 2020 wides of 1270bp.
Figure 194: BB+/BB Chinese property developers bonds Figure 195: We expect Asia HY total returns to exceed 10%
continue to offer attractive risk/reward… by mid-2022 even after adjusting for potential losses…
8% 100% Base Case Scenario Worst Case Scenario
Loss Given
Market Implied Default Probability
7% 90% Default Rate Loss Given Default Rate

Rating Sector Default
80% Contribution Default Contribution
Bucket Weight Contribution
6% (%) Contribution (bp) (%)
MV Weighted Coupon
70% (bp)
5% 60% NR 42% - - - -
4% 50%
BB+ 6% - - - -
BB 9% - - - -
3% 40%
BB- 15% - - - -
30%
2% B+ 9% 0.4% (5%) 22 1.3% (15%) 67
20%
B 6% 0.6% (10%) 20 1.3% (22%) 44
1% 10% B- 7% 1.1% (15%) 53 1.6% (22%) 78
0% 0% CCC or below 4% 2.1% (50%) 30 4% (100%) 59
BB BB+ NR BB- B+ B- CCC+ B C C+ CC- CCC
Total - 4.2% 125 8.2% 248
MV Weighted Coupon Default Probaility (rhs)
Source : Bloomberg Indices, UBS, *Market implied default probability = current Source : UBS estimates, () = Rating level default rates *Default rate estimates are
spread/(current price - estimated recovery rate), **estimated recovery rate = $35 MV weighted, **estimated recovery rate = $35

18. Long US Levered Loans v US IG
We initiate a long USD LL vs IG trade based on our view that higher 10Yr UST yields (led
by real rates) will 1) weigh in on USD IG total/excess returns, 2) continue to drive strong
inflows into USD floating rate product and 3) fail to weigh in on USD LL fundamentals,
which are close to the best levels we’ve seen since 2010. Our preferred implementation
would be via ETFs.
USD LL spreads at 401bp currently offer a 314bp pick-up over USD IG, which is broadly Given our higher US rates bias
in line with 5-year averages. Despite our US economists’ seeing the Fed’s rate hiking through 2022, we do think credit
path being bimodal: 1) either supply pressures relenting and inflation proving to be investors need to consider how best
transitory (as we expect), meaning no rate hikes till late 2023/early 2024 (our base case to insulate portfolios. If inflation
scenario) or 2) inflation remains stubbornly elevated and the FOMC turns towards proves to be transitory, as is our base
raising the funds rate soon after tapering, we do think credit investors need to consider case, we expect this trade to return
protecting against higher rates heading into 2022. This is especially the case in USD IG, ~6%. But even if we are wrong on
where index level duration is close to record highs at 8.7 years. In the event that our base inflation and the Fed starts to hike
case scenario proves to be correct and 10Yr UST yields rise to 2.1% by mid-year 2022, rates next year, we still expect this
we would expect USD LL (+4bp to 405bp) to outperform USD IG (+8bp to 95bp) by ~6% trade to deliver a positive return of
in total return terms. A lot will also depend on the extent of the real rate move, with ~9%.
scope for USD IG to underperform by more should we get a sharper move, with a >40bp
move within the space of 3m having historically caused the largest USD IG vs LL
underperformance (Figure 197). In the event that our base case scenario proves to be
wrong, with inflation averaging 2.8% through 2022 (instead of 1.8%), we expect 10Yr
UST yields to rise to 2.4% by mid-year 2022. In this scenario, we would expect USD LL
(+29bp to 430bp) to outperform USD IG (+18bp to 105bp) by ~9% in total return terms,
meaning that the trade has an asymmetric return profile. Outside of the relative duration
performance of both markets, we also expect USD LL to prove resilient to rising rates
given that 49% of USD LL have LIBOR floors at 80bp and firms hedge c15-30% of rate
exposure. Furthermore, we find that USD LL fundamentals should also help mitigate
concerns around increased funding costs, with leverage, interest and cash flow coverage
ratios at 4.4x, 4.7x and 3.4x, which is close to the best levels we've seen since 2010. For
context, our analysis suggests that EBITDA would need to fall c8% and c24%,
respectively, to get leverage and coverage ratios to median levels, something that is hard
to envisage in a world where US GDP growth is above trend at 4.5% in 2022.
In terms of the return convexity of this trade across our various economic scenarios, this This trade works best in our higher
trade works best in our higher inflation (+9%) and accelerated recovery (+8%) scenarios inflation and accelerated recovery
(Figure 196). The scenario in which this trade unsurprisingly suffers the most is the scenarios. The trade unsurprisingly
mutant Covid scenario, whereby USD LL is hit by a broad-based sell-off in risk assets and comes under pressure in our mutant
spreads peak close to ~600bp in Q1. Despite spreads tightening modestly into mid-year Covid scenario, although we expect
2022, the trade would still be down -8% in this scenario, with USD IG returns helped losses to be capped and fade into
significantly by 10Yr UST yields falling to 75bp. That said, we do think this end-2022.
underperformance will likely fade heading into end-2022 (-2.7%), given our view that
1) investors now have some familiarity with what a health crisis entails and 2) a fiscal/
monetary policy response should help ease financial conditions after the shock occurs.
Figure 196: USD LL vs IG return convexity is attractive Figure 197: A non-linear move in real rates within a short
across most scenarios… period of time tends to drive USD IG underperformance…
Higher Accelerated Mutant 6%
Base Case
Asset Current Inflation Recovery Virus 5%
Scenario USD IG USD HY USD LL
Scenario Scenario Scenario
4%
10Yr UST Yield (%) 1.56 2.10 2.40 2.35 0.75 3%

3m Total Return (%)
2%
1%
USD IG Spread (bp) 87 95 105 85 135
0%
-1%
USD LL Spread (bp) 401 405 430 385 560 -2%
-3%
Trade P/L (TR) - 6.1% 8.7% 8.2% -7.9% -4%

<-40 -40 to -20 -20 to 0 0 to 20 20 to 40 >40
3m Change in US 10yr Real Rate (bps)
Source : Bloomberg Indices, S&P LCD, UBS; *Forecasts are based on mid-2022. Source : Bloomberg Indices, UBS

19. Buy Puts in US Small Caps
2022 risks are more fundamental in nature than the past two years. Upside inflation
risks, second derivative slowing in economic and earnings growth or the unpleasant
combination of the two, “stagflation”. We do not expect the textbook definition of that
dirty word to play out, but markets may still price higher risks in that direction and/or
perform in a similar pattern. A key distinction will be the drivers of inflation (demand vs.
supply). Our conditional beta framework helps identify equity markets most exposed to
those risks while relative value in options prices points to best expressions.
In the case of demand-driven inflation, we see large cap US Tech as the best value hedge
(Figure 198). We estimate Tech stocks already have a negative beta to US inflation
expectations which have passed their trigger point for Nasdaq 100 and Semiconductors.
Fortunately we see Semis (SMH) 3-month implied volatility at 3 points too low relative to
other US sectors while Nasdaq implied volatility also screens 4 points below expected on
a global cross-asset basis. Normalized skew is also below its respective 5-year average for
both markets, making outright puts attractive or else put-spreads to reduce costs.
If rising inflation coincides with weaker demand in a “stagflation” scenario we prefer

hedging in more cyclical parts of equities, US Small Cap and Emerging Markets. Those
markets have among the highest betas to growth expectations leaving them vulnerable
if supply constraints prove to be a drag on growth or previous monetary/fiscal stimulus
proves to have pulled-forward growth. The options set-up is very favourable for hedging
in both markets as IWM implied volatility screens 4.7 points low on a global basis while
normalized skew sits in the 40th percentile since 2016. For Emerging Markets (EEM) the
level of implied volatility is about in-line with global risk pricing but 3-month 95/105
normalized skew is very low (15th percentile over the past 5-years) as demand to EM
upside calls has surged over the past month. We believe both markets offer good value
to own puts for investors worried about a growth disappointment.
On the flip side is the potential for global growth to recover stronger and more quickly
than we currently anticipate. In that case we target upside calls in European Financials
that have high beta to growth, can tolerate a further rise in inflation and are also
attractive from a valuation perspective. European Banks (SX7E) 3-month implied
volatility (24.8%, 50th percentile) is at its midpoint over the past five years but just half
its level from April-2020, while 95/105 normalized skew (60th percentile) is modestly
above average. That combination makes call options relatively attractive. The sector’s
implied volatility and skew are both lower than Eurostoxx 50, with the ratio of sector/
index 3-month implied volatility at just 1.6x (29th percentile).
Figure 198: Large Cap US Tech hedge costs are attractive vs. other markets
100 Global equity risk pricing

90
80
70
60
50
40
30
20
10
0
Nikkei 225
Nikkei 225
Semiconductor
Semiconductor
Hangseng
Hangseng
MSCI World
MSCI World
MSCI EM
S&P ASX 200
MSCI EM
S&P ASX 200

Deutsche Boerse
S&P 500
S&P 500
Deutsche Boerse
EuroStoxx 50
EuroStoxx 50
Technology
MSCI Taiwan
MSCI Taiwan
MSCI S Korea
MSCI S Korea
Technology
Nasdaq 100
Nasdaq 100
FSTE China 50
FSTE China 50
Russell 2000
Russell 2000
3m implied volatility 3m 95/105 normalized skew
Source : UBS

20. Buy MSCI EM calls
In an accelerated recovery scenario where productivity improves, real yields fall and the
US dollar weakens, EM Equities should be well placed to excel. In the past 20 years, there
has been a 73% inverse correlation between MSCI EM and US real yields, with every 1pp
fall in real rates raising the MSCI EM index by 1.6% on average, over this period (Figure
199). While DM should also fare reasonably well in this scenario, its returns' beta to US
real yields is lower at -0.3%.
With the EUR going to 1.35 in this scenario, a weaker US dollar should also bode well for
MSCI EM. Over the past 20 years, there has been a strong negative correlation (-83%)
between the performance of EM equities relative to S&P 500 and the DXY index (a
basket of DM currencies), indicating that in periods of US dollar weakness, EM tends to
go up, gaining more than DM (Figure 200).
A less hawkish Federal Reserve and falling US yields should also lower equity risk
premiums, underpinning the potential for valuations to re-rate, notably for EM equities
that currently trade on 12.7x 12m forward P/E (Figure 201), or a 35% discount to DM
equities.
MSCI EM (EEM) option flows have surged recently with a large increase in call volumes
and open interest. The level of 3-month implied volatility (19%, 56th percentile since
2016) is moderate and below other global equity markets, but skew (15th percentile) is
quite low, making calls relatively expensive vs. puts. As a result, we believe that call
spreads make sense for upside exposure.
Figure 199: Market returns beta to US real yields Figure 200: USD vs MSCI EM performance relative to S&P
500
-3%
130 0
DXY Index
Since 2001 Since 2011
MSCI EM index to S&P 500 index ratio (inverted, rhs)
-2% 120 50
Correlation: -83%
110 100
-1%
100 150
0%
90 200
1%
80 250
2% 70 300
MSCI EM MSCI Europe MSCI DM S&P 500 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21
Source : Bloomberg, MSCI, Datastream, UBS Source : MSCI, Datastream, Bloomberg, UBS
Figure 201: MSCI EM vs MSCI DM 12m forward P/E ratio
25x
MSCI EM 12m fwd P/E Average
MSCI DM 12m fwd P/E Average
20x 19.5
15x
12.7
10x
5x
11 12 13 14 15 16 17 18 19 20 21
Source : MSCI, Datastream, UBS

21. European Financials
A scenario where global growth recovers stronger and more quickly than we currently
anticipate would also be very positive for European Financials that have high beta to
growth, can tolerate a further rise in inflation and also offers upside from a fundamental
perspective.
The European Banks sector outperformance in 2021 was driven by strong upgrades to
earnings while sector valuation remained broadly stable and PE re-rating offered little to
no contribution to performance. This suggests the market expects the upgrade cycle to
be temporary. The same conclusion is drawn from bottom-up earnings forecasts, where
consensus now points to zero EPS growth for the sector in 2022. This in turn suggests
the European Banks sector is pricing in a cautious outlook for yields and a scenario
where inflation is temporary. The 5y5y inflation Swap has decoupled from Banks
performance (Figure 202), also supporting the view that the sector is pricing in a
temporary inflation scenario.
If the strength of the recovery and inflation surprise on the upside, consensus would
need to significantly upgrade earnings. If the view becomes one of higher inflation long
term, it could also lead to investors paying more for Banks earnings and to PE rerating,
further boosting the upside potential for the sector.
European Banks (SX7E) 3-month implied volatility (24.8%, 50th percentile) is at its
midpoint over the past five years but just half its level from April 2020, while 95/105
normalized skew (60th percentile) is modestly above average. That combination makes
call options relatively attractive. The sector’s implied volatility and skew are both lower
than Eurostoxx 50 with the ratio of sector/index 3-month implied volatility at just 1.6x
(29th percentile) (Figure 203).
Figure 202: Banks have diverged from swap rates Figure 203: SX7E implied volatility and skew below
average
Banks Perf Implied volatility Skew

Swap rate European Banks 3m options
3.00 120 1.00 0.18
0.90 0.16
2.50 100
0.80
0.14
0.70
2.00 80 0.12
0.60
0.10
1.50 60 0.50
0.08
0.40
1.00 40 0.06
0.30
0.04
5y5y Inflation Swap (%), LHS 0.20
0.50 20 3m Implied Volatility
0.10 0.02
Europe banks rel perf
95/105 Normalized Skew
0.00 0.00
0.00 0
Jul-16 Jan-17 Jul-17 Jan-18 Jul-18 Jan-19 Jul-19 Jan-20 Jul-20 Jan-21 Jul-21
2004 2006 2008 2010 2012 2014 2016 2018 2020

Alternative Economic Scenarios

Arend Kapteyn
Alternative Economic Scenarios Bhanu Baweja
The baseline forecast behind this outlook is one where activity continues to normalize,
remaining mobility restrictions are gradually removed, and expenditure switches back
The baseline looks a lot like the one
from goods to services. This in turn helps alleviate supply bottlenecks and inflation
we had 12m ago and we know what
pressure and, with the residual labour market slack still left in the economy, would yield
happened….
one more year of above potential growth (4.7% in 2022), before then settling at the
long-run average of 3.6% in 2023. That may sound familiar: it's basically what we
thought was going to happen 12 months ago (!), only to then have the recovery delayed
by virus mutations, new lockdowns (despite global vaccination rates being twice as high
as we assumed) and bottlenecks that have taken much longer to resolve than expected.
So as we always do in our annual outlook, we stress test what the world would look like
under a number of alternative scenarios. We consider three:
1) A mutant virus that evades vaccines. First, we model what would happen if a Scenario 1: A mutant virus that
mutant virus came along by the end of Q1-22 that would make the vaccines ineffective evades vaccines
(i.e. something significantly worse than the 'delta' variant) and push hospitalization and
deaths back to pandemic highs. We asked each economist whether the policy response
would be similar (are we running out of fiscal policy space?) and whether governments
would reach for renewed mobility restrictions (given fatigue with such measures). This
scenario assumes that by late 2022 new vaccines would be available to combat the new
variant, but this would substantially delay the recovery.
2) Inflation moves structurally higher in 2022/2023. In the second scenario, we Scenario 2: structurally higher
assume that inflation moves structurally higher, landing 100bp above our end 2022 and inflation
2023 forecasts. The inflation shift is assumed to be due to a combination of bottleneck
pressures lasting longer, higher inflation expectations, and strong demand, as a rapid
recovery from the pandemic leads to accelerated output gap closure and a recovery in
wages. So this is not a commodity story (even though strong demand could push
commodity price levels higher we believe it will be impossible to sustain the current rate
of change) and the point is to assume something that can sustain itself. Implicit in the
scenario assumption is also that inflation in 2023 is somewhat unresponsive to central
bank tightening, which could be the case if the pressures were supply-side driven, or
expectations shift to a new higher equilibrium (the metaphor central banks sometimes
use is that it's difficult to put toothpaste back in the tube once it's out).
3) Accelerated Recovery. The vaccines are increasingly effective and lead to removal of Scenario 3: Accelerated recovery
almost all mobility restrictions by end Q1-22 (all countries exit zero-Covid policies by
then), with a rapid normalization of demand for services and re-employment of
pandemic-related slack by Q3-22. We also see 25% of the excess savings built up during
the pandemic being spent over the 6 quarters from Q1-22 to Q2-23. And in the US we
assume fiscal stimulus that is $1trn higher than what we had assumed ($2trn for
infrastructure and reconciliation bill combined), reducing the fiscal drag we have in our
forecast.
Economic Outcome Ranges

This section assesses the economic outcome ranges within the different scenarios. The
next section examines asset class implications.
Global growth in the mutant virus scenario is 210 bp below the baseline in 2022 (2.7% The mutant virus scenario would
vs 4.8%) and then regains some of that loss (70bp) in 2023 (Figure 204). Most of the lower global growth by more than
growth shock comes in Q1 & Q2, and the shock is bigger in DM than EM as China is still 2pp to below its long-run average
assumed to run a zero-Covid policy so it doesn’t change their reaction function. The and delay output gap closure
profile is not the same for all economies (see the panel chart at the end of this section),
as all assume different combinations of voluntary and government-imposed social
distancing, different levels of fiscal support, and estimates vary on how damaging the
(6)
restrictions are. In the US, for instance, the shock is somewhat more drawn out
6.
We showed in the Compendium how each unit of restrictions now has only 1/12th the impact as early in the pandemic, and how mobility
restrictions explain only 20% of the cross-country variation in GDP growth compared to 60% early in the pandemic.

compared to, say, Europe which has a sharper upfront government-imposed tightening
of mobility restrictions and (we assume) more upfront fiscal support in the form of
furlough schemes vs the US which is assumed to be more politically constrained
following the approval of the stimulus packages currently being considered (already in
our baseline). Figure 205 and 206 show EM and DM side by side: the growth drag in Q2-
22 is about twice as large for DM (-9 ½ pp QoQ saar vs baseline) as for EM, which is at
least in part due to the difference in mobility restrictiveness assumptions (slightly larger
for DM than EM as shown in figure 208 and 209).
Growth in the 'higher inflation scenario', by comparison, does relatively little damage Figure 204: Global growth 'deltas' vs
(about -35bp in both 2022 and 2023), despite triggering a strong policy response in the baseline
US and some emerging markets (see below), as well as a tightening in global financial pp
conditions. The reason for that is that the response in most of DM is relatively muted—it 2.00
shifts the timing of lift-off quite dramatically for some (e.g. the ECB) but the cumulative 1.50
1.00
hikes over the next two years are still small. And, as a rough rule of thumb, a country
0.50
would need to hike 100bp to generate 30bp of growth drag (in DM only the US has 0.00
more policy tightening than that). There are also a number of large economies where the -0.50
inflation overshoot would generate no response, either because inflation is only a loose -1.00
-1.50 2022 2023
target (e.g. China) or the 100bp increase pales in comparison to historical inflation -2.00
volatility (Brazil), and much of the tightening in EM is more a response to the currency -2.50
weakness and capital outflows that are assumed to occur in this scenario, not the Mutant virus Higher inflation Accelerated
Recovery
inflation increase per se (e.g. ASEAN growth is down 1-1½pp in H2-22 but the assumed
Source : UBS
impact on China/India is small). Most of EM has already responded to the inflation
overshoot this year with relatively aggressive hikes.
The 'accelerated recovery' scenario adds about 1½pp to global growth in the first year Growth drag in the high inflation
and a bit under 1pp in the second. The add-on is larger in DM than EM, in part because scenario is proportional to each
they have more excess savings to spend, and the service sector gaps (vs pre-pandemic country's policy reaction and
levels) are slightly larger on average, so they benefit more from the accelerated financial conditions tightening
expenditure switching. In QoQ terms, momentum generally peaks by end Q4-22 which
generates positive statistical carry-over for '23 annual growth, but a few of the country
teams (e.g. US, Japan, parts of Asia) have assumed deceleration to below the baseline
after a front-loaded burst of growth.
Figure 205: GDP - Advanced Economies (DM) Figure 206: GDP - Emerging Markets (EM)
% QoQ saar DM - GDP % QoQ saar EM - GDP

Baseline Baseline
10.0 11.0
Scenario 1: mutant virus Scenario 1: mutant virus
10.0
8.0
Scenario 2: structural shift higher in inflation Scenario 2: structural shift higher in inflation
9.0
6.0 Scenario 3: Accelerated recovery Scenario 3: Accelerated recovery
8.0
4.0 7.0
6.0
2.0
5.0
0.0 4.0
3.0
-2.0
2.0
-4.0 1.0
-6.0 0.0
Sep-21 Mar-22 Sep-22 Mar-23 Sep-23 Sep-21 Mar-22 Sep-22 Mar-23 Sep-23
Turning to the unemployment outcomes (Figure 210 and 211), it's really only the Figure 207: Unemployment vs
mutant virus scenario that does serious damage. We assume layoffs coincide with baseline
renewed mobility restrictions and are thus front-loaded in Q1-22 (DM nearly 2½pp pp
higher unemployment and EM less than ½ pp, though note that EM excludes India for 0.8
which we have no data). To put that in perspective, unemployment (including furlough 0.6
schemes in Europe) in DM peaked at 14.2% mid-2020 and is now down to 5.9%, and 2022 2023
0.4
EM peaked at 7.1% and is down to 6.3%. So the backup is relatively small, consistent
0.2
with mobility restrictions doing less damage over time and many businesses finding
ways to coexist with social distancing and other restrictions. The unemployment 0
trajectory stays above the baseline for the entire projection horizon but comes down -0.2
relatively quickly, partly because it is assumed the restrictions succeed in curbing -0.4
hospitalization and mortality (essentially the 2020 playbook). Mutant virus Higher inflation Accelerated
Recovery
Source : UBS

The higher inflation scenario does some modest damage to employment, more or less in Except for the mutant virus scenario,
line with an Okun's law type relationship (see the appendix in this BIS piece), where each unemployment is assumed to
pp of growth reduction reduces unemployment by 20-50bp depending on the country. increase/decrease broadly in line
Note though that the damage is longer lasting, i.e. by the end of the forecast horizon with Okun's law
unemployment is higher than in the mutant virus scenario.
The accelerated recovery scenario lowers unemployment by a bit less than Okun's law
type coefficients--as we push up against full employment, incremental gains become
more difficult (the largest gains are in high unemployment economies like Turkey and
South Africa) and we also assume that labour force participation is pro-cyclical. So as the
economy gains more momentum, and unemployment is pushed down, more and more
people are pulled back into the labour force, which slows the speed with which
unemployment declines.
Figure 208: DM mobility restrictions Figure 209: EM mobility restrictions
Index DM - Mobility rating Index EM - Mobility rating

Baseline
6.0 6.0
5.0 5.0 Scenario 2: structural shift higher in inflation

Scenario 3: Accelerated recovery
4.0 4.0
3.0 3.0
2.0 Baseline 2.0

1.0 Scenario 2: structural shift higher in inflation 1.0

0.0 0.0
Mar-20 Sep-20 Mar-21 Sep-21 Mar-22 Sep-22 Mar-23 Sep-23 Mar-20 Sep-20 Mar-21 Sep-21 Mar-22 Sep-22 Mar-23 Sep-23
Figure 210: DM unemployment Figure 211: EM unemployment
% DM - Unemployment % EM - Unemployment
Baseline
8.0 6.8
7.5 6.6
Scenario 2: structural shift higher in inflation
6.4
6.5
6.2
6.0
6.0
5.5
Baseline
5.8

4.5
4.0 5.4
Jun-21 Dec-21 Jun-22 Dec-22 Jun-23 Dec-23 Jun-21 Dec-21 Jun-22 Dec-22 Jun-23 Dec-23
The inflation outcomes under the mutant virus scenario are relatively small (+10bp on Figure 212: core inflation vs baseline
core), but they are positive rather than negative at a global level, notwithstanding lower pp
growth. This is because it is assumed that expenditure switching back to services would 1.20
be delayed, and bottlenecks would take longer to resolve, and those upward pressures 1.00
2022 2023
slightly outweigh the renewed downward pressure on service prices. That doesn't hold 0.80
exactly at a country level, i.e. in some the goods price pressures are assumed to 0.60
dominate (US, Canada, HK), whereas in others (Europe, most of Asia), the net impact is 0.40
disinflationary, as indeed it was in 2020. We assume that both the goods and service
0.20
price changes are relatively large, but at a global level they largely offset in this scenario.
0.00
Mutant virus Higher inflation Accelerated
Recovery
In the accelerated recovery scenario (+19bp on global core inflation by end '23), by
contrast, the bottlenecks dissipate but additional inflation pressure starts to be Source : UBS
generated via a stronger labour market. Those effects would generally be smaller than
the bottleneck effects (see Essay 3 in this outlook) but because we have the transitory

bottlenecks in our baseline, the 'delta' we show here just captures the labour market
impact.
Figure 213: DM core inflation Figure 214: EM Core inflation
%YoY DM - Core Inflation %YoY EM - Core Inflation

4.0 5.0
3.0 4.0
2.0 3.0
Baseline Baseline
1.0 Scenario 1: mutant virus 2.0 Scenario 1: mutant virus
Scenario 3: Accelerated recovery Scenario 3: Accelerated recovery
0.0 1.0
Dec-19 Jun-20 Dec-20 Jun-21 Dec-21 Jun-22 Dec-22 Jun-23 Dec-23 Dec-19 Jun-20 Dec-20 Jun-21 Dec-21 Jun-22 Dec-22 Jun-23 Dec-23
Finally, we turn to policy rates. The surprise in the mutant virus scenario is that we have The Fed, we believe, would be one of
the US hiking policy rates, relative to the baseline (+50bp by end '23 to take FF to 1%), few central banks to hike in a mutant
whereas most other countries are cutting in response to renewed economic weakness. virus scenario (along with Mexico,
The prolongation of the pandemic is assumed to create a permanent hit to the labour Russia and Poland)
force recovery—the recent retirees, for instance, don't return—which in turn creates
pessimism at the Fed about the supply side of the economy and reduces their slack
estimates, creating earlier lift-off once the virus shock dissipates. The Eurozone, by
contrast, is still missing its inflation target and so is still at -50bp at end ’23, but the UK,
Australia, NZ, and Canada would all remove hikes relative to the baseline (see the
detailed 'policy rate deltas' table below). In EM, China would leave its benchmark 1yr
deposit rate unchanged but would have marginally more liquidity offering and credit
growth; the main response would likely be fiscal with more LG bond issuance and
slightly easier property policies than in the baseline. The only EM central banks that we
believe would hike in this scenario are Mexico (follows Fed), Russia (CBR is already hiking
in the face of rising virus cases to contain escalating inflation pressures; supply
restrictions would be expected to last even longer) and Poland (also bottlenecks). The
others (mostly Asia and South Africa) remove hikes relative to the baseline.
Figure 215: DM policy rates Figure 216: EM policy rates
% DM - Policy rate % EM - Policy rate

2.0 5.0 Baseline
Baseline Scenario 1: mutant virus

1.5 Scenario 1: mutant virus 4.5 Scenario 2: structural shift higher in inflation
Scenario 2: structural shift higher in inflation Scenario 3: Accelerated recovery

1.0 Scenario 3: Accelerated recovery 4.0
0.5 3.5
0.0 3.0
-0.5 2.5
Dec-19 Jun-20 Dec-20 Jun-21 Dec-21 Jun-22 Dec-22 Jun-23 Dec-23 Dec-19 Jun-20 Dec-20 Jun-21 Dec-21 Jun-22 Dec-22 Jun-23 Dec-23
The structurally higher inflation scenario was designed to see what would happen if In the high inflation scenario we
central banks' inflation rates landed well above the target rather than below (the assume the Fed hikes to 3.25% by
baseline for DM), and it yields a somewhat bifurcated reaction between the Fed and late 2023
other DM central banks. We assume the Fed funds rate would be significantly higher:
already at 1% by end ’22 and at 3.25% by end ’23 (a balanced policy rule would suggest
FF should be at 3.5% by late ’23). If the aim is to push inflation down, they would need
to take policy into restrictive territory and their current estimate of 'neutral' is still 2.5%.
Different estimates of 'neutral' are one reason why we have some other DM central
banks doing less than the Fed: for instance, BoC (which is currently more hawkish than

the Fed) has a 1.75%-2.75% range for neutral and would be expected to take the policy
rate to the top of that range (100bp above the peak in the last cycle vs the Fed 75bp
above its last cycle). The ECB would meet its inflation mandate and so have to exit its APP
program; we assume it would push the negative rate up from -0.5 to -0.1% by end ’23
with a first hike in March ’23. Chinese rates would be unaffected as they have more
degrees of freedom to temporarily allow some increase in inflation. Market rates could
be slightly higher though; if the inflation pressure were mainly coming from domestic
demand rather than supply shocks or global demand, they might be more hawkish on
property policy. The assumption is that China would use administrative measures to
manage inflation.
In the accelerated recovery scenario, the average policy rate moves up only marginally, as Policy rates move up only modestly
none of the large DM central banks (Fed, ECB, BoJ) move, relative to the baseline. In the in the accelerated recovery scenario--
US, this is because strong productivity and rising labour force participation provides lots mainly because the inflation deltas
of supply side optimism counterbalanced by inflation being marginally higher. That under this scenario are low and
optimism allows for some ‘let it ride’ policy making and potentially some drift lower in bottleneck pressure would likely
the natural rate of unemployment. Those things wash out and so, even though the dissipate as service sectors recover
economy is a bit stronger, we expect little deviation from our baseline. In the case of the
ECB (and also BoJ and SNB), the landing zone for inflation would not be materially
different, and so we still view it as unlikely that lift-off would occur before 2024. By
contrast, we have BoC, RBA and RBNZ all adding a few hikes. In China, the better
growth numbers will lead to somewhat less monetary easing, a somewhat smaller fiscal
deficit and somewhat tighter property policies. Poland and Russia are the only EM
central banks that are cutting in this scenario, relative to the baseline. In Poland's case it
is actually still hiking but resolution of bottlenecks means inflation pressure is reduced
and NBP can tighten more slowly.
Alternative scenarios for markets

In our base case we see 2022 and 2023 being tougher years for risk assets as the Base case: 3-5% gains for global
growth-liquidity mix begins to worsen from an extremely benign level. Compared to equities over the coming two years, a
roughly 18.2% annualised returns over the last three years, we expect global equities to significant slowdown from the
return 3-5% annualised over the next two years. A strong rise in real rates (US 10y real 18.2% annualised gains over the
yield +100bp to -10bp by end-23) and a modest widening of credit spreads (US HY previous three years. Real rates rise
spreads +100bp to 370bp by end-23) should cause a tightening of financial conditions, by just under 100bp
while growth should fall to or below trend by late 2022. The real rate rise, the highest
since 2013, is partly driven by a fall in inflation breakeven rates – a pattern we saw in
2015 and 2018, which were challenging years for global markets.
Through a maturing cycle, we see S&P 500 earnings coming in 9-10% above consensus Base case: S&P 500 peaks at 5,000 in
till Q2 2022 ($240 annualised), which is when we expect the index to put in a peak at Q2 2022, slips to 4,850 by the year
5,000. Subsequent earnings downgrades and higher real rates should make for a de- end
rating towards 4,850 by end-22. Strong operating leverage with less intense liquidity
headwinds would mean Europe outperforms US over the next three months, potentially
six months, but falls behind as revisions turn. We see Stoxx 600 at 520 at end-22. In
parallel, Growth stocks are at risk near term as real rates begin to rise, but Value's
structural challenges are set to return as inflation drops sharply from Q1 2022 onwards.
Real-rate gaps may not be the only prism to look at currencies through. There are some Base case: Most G10 currencies
signs of FDI and portfolio outflows from the US accelerating as the cycle deepens and outperform USD which outperforms
broadens. We'd therefore caution against a bearish EUR view. Helped both by growth EM
and improving carry, GBP and CAD should outperform. Fears of SNB tightening and
speculative shorts on the JPY have meant that CHF has failed to sell off while JPY has
failed to rally. Both aberrations should reverse in 2022. China's current account remains
strong, but slowing export share and risk of capital outflows suggest positioning for
weakness.
In the mutant virus scenario, the big hit to asset markets is likely to be concentrated Mutant virus scenario: A big hit in
early on in 2022 with a recovery in risk seen through 2023. Despite valuations being early 2022, but much less market
more elevated than pre Covid, the hit to the market is likely to be orders of magnitude reaction than in 2020
lesser given that the template of activity impact, looser liquidity and activity recovery is
now well understood by the market. Market valuations could make new highs as the
price does not drop nearly as much as earnings do. Effectively the mutant virus scenario
would stagger the gains we expect in our base-case scenario over a longer and more
volatile period.

Equity markets are likely to decline sharply in H1 (particularly Q1) next year. Post their Mutant virus scenario: Hit in H1 2022,
bottom in Q2, we see them rising nearly 20% in H2 2020. While the net hit next year to recovery from H2 2022. By late 2023
the S&P 500 is likely to limited to 2%, Europe and EM equities are likely to see greater we arrive not far from where we are
hits of 5% and 8% respectively, as the less mature recoveries here are nipped in the bud. today on most financial markets –
In Europe there is less room for yields to decline than in the US, where 10y yields could S&P 500: 4,850, US 10y: 1.75,
drop to about 1.25% before rising again in 2023. By end-2023, most major equity, bond EURUSD: 1.20
and FX markets should recover to levels not far from where they are today.
How a structural shift higher in inflation impacts returns will depend on the broader Structural shift higher in inflation:
context of growth, rates and credit spreads. However, even if it's demand-driven, Importance of liquidity to the rally
sustained inflation will likely lead to three-year cumulative equity returns coming in at suggests that even demand-pull
10-15% (Figure 217). Our return attribution analysis for S&P 500 shows that since the inflation would mean 10-15% hit to
bottom in March 2020, liquidity's contribution to gains (49%) has been twice that of returns over next two years
growth (25%) (Figure 61). Amidst sustainably higher inflation, we will likely see the Fed
taking rates well through neutral towards 3.25%. Even modestly stronger growth than
the baseline may not be able to compensate for this liquidity hit.
We recognise the non-linear impact of inflation on markets, and try to calculate the Structural shift higher in inflation:
threshold where it goes from a positive to a negative influence on markets. For the S&P We are approaching levels where
500, higher inflation turned into a negative influence at a level of 5y breakeven inflation returns' beta to inflation flips
of 2.8% (current 2.9%), other things being equal. In contrast to the US, higher inflation negative. Europe has a higher 'pain
is likely to remain a positive influence on European equities till inflation expectations threshold' than the US and EM and
exceed 3.1%. We see European equities outperforming US over this time frame (a 13% should be hit less
hit to Europe over two years, relative to 15% for the US and 20% to EM). Italy, Spain and
France have the highest positive beta to inflation and real rate increases, while EM is the
most impacted on both, especially real rates. US Small Cap can cope for a while with
higher inflation, but no longer with higher real rates. US Value still likes both, and
US Growth likes neither.
Small Caps and EM equites, where margins were comparatively weak to begin with, Structural shift higher in inflation: In
would be hit the most in a stagflationary outcome. Real rates are likely to stay deeply the very unlikely event of
negative, but a blow-up in credit spreads would tighten financial conditions significantly, stagflation, equities will likely see a
which should hurt Value stocks more than Growth stocks. As betas to inflation flip for decline of 40-50% over a three-year
European equities at higher levels of inflation, Europe might significantly underperform horizon
the US in this scenario.
An accelerated recovery scenario is one where the cycle extends thanks in large part Accelerated recovery scenario:
to improvements in growth being supply- and productivity-driven. The improvement in a EURUSD and EM currencies take the
growth-inflation mix implies the growth-liquidity mix would avoid deterioration also. As lead. EM equities outperform strong
the economic cycle deepens and broadens, the USD downcycle resumes in earnest, with performance from US and European
EURUSD reaching 1.35 over two years. However, in this scenario EM currencies also equities
appreciate quickly, closing the gap with their stronger terms of trade.
EM equities outperform the rest of the world, but FX alone provides two-year gains of Please see our full quarterly asset
15-20%. In this outcome, Value benefits more at the margin as risk premia stay tight, price forecast profile across scenarios
inflation expectations stable, and the dollar weakens. Our view of EM ex China in charts and tables in Figures 220-
underperforming China is very likely to be wrong in this state of the world, as 228.
commodities stay robust and sustained growth begins to bring down public debt
pressures in the likes of Brazil, Mexico, Colombia and South Africa.
Figure 217: Model simulation: 3 year cumulative returns under a) sustained inflation & b) stagflation
Sustained inflation Stagflation
0%
-10% -7.0% -7.7% -8.8%

-11% -12%
-13% -13% -13% -13%
-15% -16%
-20% -17%
-20% -21%
-22%
-30%
-32%
-34%
-40% -36% -37%
-39% -40%
-42% -42%
-46% -46% -46%
-50% -48%
-49%
-53% -54%
-60%
France Germany Euro Spain UK Euro US Large US Value S&P 500 US Italy Nasdaq SOX US Small EM SOX Germany Nasdaq US US Large S&P 500 UK US Value Euro Spain EM France Euro US Small Italy
Stoxx 50 Stoxx 600 Cap Growth 100 Cap 100 Growth Cap Stoxx 50 Stoxx 600 Cap
Source : Bloomberg, Datastream, UBS. Note: to simulate future returns we use a conditional beta state-space model. This estimates return betas to changes in inflation
breakevens, real rates, high yield credit spreads and growth as functions of the levels of these variables. These betas therefore change, in some cases aggressively, as the
underlying variables become more extreme.

Figure 218: Baseline policy rates
Baseline
Policy rate Dec-19 Mar-20 Jun-20 Sep-20 Dec-20 Mar-21 Jun-21 Sep-21 Dec-21 Mar-22 Jun-22 Sep-22 Dec-22 Mar-23 Jun-23 Sep-23 Dec-23 2020 2021 2022 2023
US 1.75 0.25 0.25 0.25 0.25 0.25 0.25 0.25 0.25 0.25 0.25 0.25 0.25 0.25 0.25 0.25 0.50 0.25 0.25 0.25 0.50
Canada 1.75 0.25 0.25 0.25 0.25 0.25 0.25 0.25 0.25 0.25 0.50 0.75 1.00 1.00 1.25 1.50 1.75 0.25 0.25 1.00 1.75
Japan -0.10 -0.10 -0.10 -0.10 -0.10 -0.10 -0.10 -0.10 -0.10 -0.10 -0.10 -0.10 -0.10 -0.10 -0.10 -0.10 -0.10 -0.10 -0.10 -0.10 -0.10
Australia 0.75 0.25 0.25 0.25 0.10 0.10 0.10 0.10 0.10 0.10 0.10 0.10 0.10 0.25 0.50 0.50 0.50 0.10 0.10 0.10 0.50
New Zealand 1.00 0.25 0.25 0.25 0.25 0.25 0.25 0.25 0.75 1.00 1.25 1.50 1.75 2.00 2.00 2.00 2.00 0.25 0.75 1.75 2.00
Switzerland -0.75 -0.75 -0.75 -0.75 -0.75 -0.75 -0.75 -0.75 -0.75 -0.75 -0.75 -0.75 -0.75 -0.75 -0.75 -0.75 -0.75 -0.75 -0.75 -0.75 -0.75
Eurozone -0.50 -0.50 -0.50 -0.50 -0.50 -0.50 -0.50 -0.50 -0.50 -0.50 -0.50 -0.50 -0.50 -0.50 -0.50 -0.50 -0.50 -0.50 -0.50 -0.50 -0.50
UK 0.75 0.10 0.10 0.10 0.10 0.10 0.10 0.10 0.25 0.25 0.50 0.50 0.75 0.75 1.00 1.00 1.25 0.10 0.25 0.75 1.25
Korea 1.25 0.75 0.50 0.50 0.50 0.50 0.50 0.75 1.00 1.00 1.00 1.00 1.00 1.00 1.00 1.00 1.00 0.50 1.00 1.00 1.00
Taiwan 1.38 1.13 1.13 1.13 1.13 1.13 1.13 1.13 1.13 1.25 1.25 1.25 1.25 1.25 1.25 1.25 1.25 1.13 1.13 1.25 1.25
Hong Kong 2.39 1.60 0.93 0.57 0.35 0.23 0.17 0.14 0.39 0.44 0.49 0.54 0.59 0.64 0.69 0.74 0.79 0.35 0.39 0.59 0.79
Vietnam 6.00 5.00 4.50 4.50 4.00 4.00 4.00 4.00 4.00 4.00 4.00 4.50 4.50 4.50 4.50 4.50 4.50 4.00 4.00 4.50 4.50
Thailand 1.25 0.75 0.50 0.50 0.50 0.50 0.50 0.50 0.50 0.50 0.50 0.50 0.75 0.75 0.75 0.75 1.00 0.50 0.50 0.75 1.00
China 1.50 1.50 1.50 1.50 1.50 1.50 1.50 1.50 1.50 1.50 1.50 1.50 1.50 1.50 1.50 1.50 1.50 1.50 1.50 1.50 1.50
India 5.15 4.40 4.00 4.00 4.00 4.00 4.00 4.00 4.00 4.00 4.00 4.25 4.50 4.50 4.50 4.75 5.00 4.00 4.00 4.50 5.00
Philippines 4.00 3.25 2.25 2.25 2.00 2.00 2.00 2.00 2.00 2.00 2.00 2.25 2.75 2.75 2.75 2.75 3.25 2.00 2.00 2.75 3.25
Indonesia 5.00 4.50 4.25 4.00 3.75 3.50 3.50 3.50 3.50 3.50 3.50 3.75 4.50 4.50 4.50 4.50 5.00 3.75 3.50 4.50 5.00
Malaysia 3.00 2.50 2.00 1.75 1.75 1.75 1.75 1.75 1.75 1.75 1.75 2.00 2.25 2.25 2.25 2.50 2.75 1.75 1.75 2.25 2.75
Turkey 11.40 9.30 7.60 11.10 17.00 19.00 19.00 18.00 15.50 15.50 15.50 15.00 14.50 14.50 13.00 12.00 12.00 17.00 15.50 14.50 12.00
Poland 1.50 1.00 0.10 0.10 0.10 0.10 0.10 0.10 1.50 2.25 2.25 2.25 2.25 2.25 2.25 2.25 2.25 0.10 1.50 2.25 2.25
South Africa 6.50 5.25 3.75 3.50 3.50 3.50 3.50 3.50 3.75 4.00 4.25 4.50 4.75 5.00 5.25 5.50 5.75 3.50 3.75 4.75 5.75
Brazil 4.50 3.75 2.25 2.00 2.00 2.75 4.25 6.25 9.25 11.50 11.50 11.50 11.50 10.00 8.50 7.00 6.50 2.00 9.25 11.50 6.50
Mexico 7.25 6.50 5.00 4.25 4.25 4.00 4.25 4.75 5.75 6.25 6.25 6.25 6.25 6.25 6.25 6.25 6.75 4.25 5.75 6.25 6.75
Russia 6.25 6.00 4.50 4.25 4.25 4.50 5.50 6.75 8.00 8.00 8.00 7.50 6.75 6.25 5.75 5.50 5.50 4.25 8.00 6.75 5.50
Global 2.28 1.71 1.44 1.48 1.60 1.69 1.77 1.87 2.00 2.07 2.09 2.10 2.13 2.09 2.01 1.97 2.07 1.60 2.00 2.13 2.07
DM 0.74 0.02 0.01 0.01 0.00 0.00 0.00 0.01 0.03 0.04 0.06 0.07 0.10 0.10 0.13 0.14 0.27 0.00 0.03 0.10 0.27
EM 3.82 3.34 2.83 2.91 3.15 3.29 3.46 3.64 3.86 4.00 4.00 4.02 4.05 3.91 3.73 3.64 3.73 3.15 3.86 4.05 3.73
Global ex China 2.49 1.77 1.43 1.47 1.63 1.74 1.85 1.98 2.14 2.24 2.26 2.28 2.32 2.27 2.16 2.11 2.24 1.63 2.14 2.32 2.24
EM ex China 5.52 4.79 3.88 4.01 4.45 4.72 5.03 5.35 5.75 6.00 6.00 6.04 6.09 5.86 5.53 5.37 5.53 4.45 5.75 6.09 5.53
Asia ex China 3.07 2.54 2.27 2.23 2.16 2.16 2.16 2.18 2.21 2.25 2.26 2.41 2.63 2.68 2.69 2.79 2.97 2.16 2.21 2.63 2.97
Note: US policy rate is top-end, China is 1 yr deposit rate, Singapore has no offical policy rate so weights are excl Singapore
Source : UBS, Haver, CEIC
Figure 219: Policy rate deltas vs baseline under the different scenarios
Mutant virus scenario Inflation structurally higher scenario Accelerated recovery scenario
Mar-22 Jun-22 Sep-22 Dec-22 Mar-23 Jun-23 Sep-23 Dec-23 Mar-22 Jun-22 Sep-22 Dec-22 Mar-23 Jun-23 Sep-23 Dec-23 Mar-22 Jun-22 Sep-22 Dec-22 Mar-23 Jun-23 Sep-23 Dec-23
US 0.00 0.00 0.00 0.00 0.00 0.25 0.50 0.50 0.00 0.00 0.25 0.75 1.25 1.75 2.25 2.75 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00
Canada 0.00 -0.25 -0.50 -0.75 -0.75 -0.75 -0.75 -0.75 0.00 0.00 0.25 0.50 0.75 0.75 0.75 0.75 0.00 0.00 0.25 0.50 1.00 1.25 1.25 1.25
Japan 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.10 0.10 0.10 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00
Australia 0.00 0.00 0.00 0.00 -0.15 -0.40 -0.40 -0.40 0.00 0.00 0.15 0.40 0.50 0.50 0.75 1.00 0.00 0.00 0.00 0.15 0.25 0.25 0.50 0.50
New Zealand 0.00 -0.25 -0.50 -0.75 -1.00 -1.00 -1.00 -1.00 0.00 0.00 0.00 0.00 0.00 0.25 0.50 0.75 0.00 0.00 0.00 0.00 0.00 0.25 0.50 0.50
Switzerland 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.25 0.25 0.50 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00
Eurozone 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.10 0.20 0.30 0.40 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00
UK -0.15 -0.40 -0.25 -0.50 -0.25 -0.50 -0.25 -0.50 0.00 0.00 0.25 0.25 0.50 0.50 0.50 0.25 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00
South Korea 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.25 0.50 0.75 1.00 1.00 1.00 1.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00
Taiwan -0.13 -0.13 -0.13 -0.13 -0.13 -0.13 -0.13 -0.13 0.00 0.13 0.13 0.13 0.13 0.13 0.13 0.13 0.00 0.00 0.13 0.13 0.13 0.13 0.13 0.13
Singapore 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00
HK 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.25 0.50 0.75 1.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00
Vietnam 0.00 0.00 -0.50 -0.50 -0.50 0.00 0.00 0.00 0.00 0.00 0.00 0.50 1.00 1.50 2.00 2.00 0.00 0.00 0.00 0.00 0.50 0.50 1.00 1.00
Thailand 0.00 0.00 0.00 -0.25 -0.25 0.00 0.25 0.00 0.00 0.00 0.00 0.25 0.75 1.25 1.75 2.00 0.00 0.00 0.00 0.25 0.75 1.25 1.25 1.00
China 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00
India 0.00 0.00 -0.25 -0.50 -0.50 -0.50 -0.75 -1.00 0.00 0.25 0.25 0.50 0.75 1.00 1.00 1.00 0.00 0.00 0.00 0.25 0.25 0.25 0.25 0.25
Philippines 0.00 0.00 -0.25 -0.75 -0.75 -0.50 0.00 -0.25 0.00 0.00 0.00 0.00 0.25 0.75 2.25 2.25 0.00 0.00 0.00 0.25 0.50 0.50 0.50 0.00
Indonesia 0.00 0.00 -0.25 -1.00 -1.00 -0.75 -0.25 -0.50 0.00 0.25 1.25 1.50 2.50 2.50 2.75 2.50 0.00 0.25 0.00 0.00 0.00 0.00 0.00 -0.50
Malaysia 0.00 0.00 -0.25 -0.50 -0.50 -0.25 -0.25 -0.25 0.00 0.00 0.00 0.00 0.75 1.00 1.00 1.00 0.00 0.00 0.00 0.50 0.75 0.75 0.50 0.25
Turkey 0.00 0.00 -0.50 -0.50 -1.00 0.00 0.00 0.00 0.00 0.00 0.50 1.50 1.50 3.00 3.00 3.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00
Poland -0.75 -0.75 -0.75 -0.25 0.25 0.25 0.25 0.25 0.00 0.00 0.25 0.75 1.25 1.25 1.25 1.25 -0.50 -0.50 -0.50 -0.50 -0.50 -0.50 -0.50 -0.25
South Africa -0.25 -0.25 -0.25 -0.25 -0.25 -0.25 -0.25 -0.50 0.00 0.25 0.75 1.25 1.50 1.75 1.50 1.25 0.00 0.25 0.50 0.50 0.75 0.75 0.75 0.50
Brazil 0.00 -1.50 -1.50 -1.50 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 1.00 1.50 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00
Mexico -0.50 -0.50 -0.50 -0.50 0.00 0.50 0.75 0.50 0.00 0.00 0.25 0.75 1.25 1.75 2.25 2.25 0.00 0.00 0.00 0.00 0.25 0.50 0.75 0.25
Russia 0.25 0.25 0.50 1.00 1.00 1.00 0.75 0.25 0.25 0.50 0.50 0.75 0.75 1.00 1.00 1.00 0.00 -0.50 -0.50 -0.50 -0.75 -0.25 0.00 0.00
Global -0.02 -0.07 -0.11 -0.15 -0.11 -0.01 0.04 -0.03 0.01 0.06 0.18 0.38 0.60 0.81 0.99 1.11 -0.01 -0.02 -0.01 0.02 0.05 0.08 0.10 0.07
DM -0.01 -0.04 -0.04 -0.06 -0.05 0.03 0.14 0.13 0.00 0.01 0.15 0.38 0.64 0.89 1.13 1.35 0.00 0.00 0.01 0.02 0.04 0.05 0.06 0.06
EM -0.02 -0.11 -0.19 -0.24 -0.16 -0.05 -0.06 -0.17 0.02 0.10 0.20 0.38 0.55 0.74 0.87 0.88 -0.01 -0.03 -0.04 0.02 0.05 0.10 0.14 0.07
Global ex China -0.02 -0.09 -0.15 -0.20 -0.14 -0.02 0.05 -0.04 0.01 0.07 0.23 0.49 0.78 1.06 1.29 1.44 -0.01 -0.02 -0.02 0.03 0.06 0.10 0.13 0.09
EM ex China -0.04 -0.19 -0.34 -0.44 -0.28 -0.09 -0.11 -0.32 0.03 0.17 0.36 0.68 1.00 1.33 1.57 1.60 -0.02 -0.05 -0.07 0.04 0.08 0.19 0.25 0.13
Asia ex China -0.01 -0.01 -0.16 -0.38 -0.39 -0.32 -0.33 -0.46 0.00 0.14 0.29 0.47 0.79 0.97 1.10 1.10 0.00 0.03 0.01 0.14 0.20 0.22 0.25 0.15
Source : UBS

Figure 220: S&P 500 Figure 221: Stoxx 600 Figure 222: MSCI EM
Baseline Baseline
5,500 600 Scenario 1: mutant virus 1,600 Baseline
Scenario 2: structural shift higher in inflation Scenario 1: mutant virus
Scenario 2: structural shift higher in inflation Scenario 3: Accelerated recovery
5,300 Scenario 2: structural shift higher in inflation
Scenario 3: Accelerated recovery 1,500
550 Scenario 3: Accelerated recovery
5,100
4,900 1,400
500
4,700
1,300
4,500
450
4,300 1,200
4,100 400
1,100
3,900
3,700 350 1,000

Dec-21 Jun-22 Dec-22 Jun-23 Dec-23 Dec-21 Jun-22 Dec-22 Jun-23 Dec-23 Dec-21 Jun-22 Dec-22 Jun-23 Dec-23
Source : UBS Source : UBS Source : UBS
Figure 223: US 10 year yield Figure 224: 10 year Bund yield Figure 225: EUR to USD
(bps) Baseline (bps) Baseline Baseline
350 Scenario 1: mutant virus 150 Scenario 1: mutant virus 1.40
Scenario 3: Accelerated recovery Scenario 2: structural shift higher in inflation
Scenario 3: Accelerated recovery 1.35
300 Scenario 3: Accelerated recovery
100
1.30
250
50
1.25
200
1.20
0
150
1.15
-50
100 1.10
50 -100 1.05
Dec-21 Jun-22 Dec-22 Jun-23 Dec-23 Dec-21 Jun-22 Dec-22 Jun-23 Dec-23 Dec-21 Jun-22 Dec-22 Jun-23 Dec-23
Source : UBS Source : UBS Source : UBS
Figure 226: EM FX* Figure 227: US IG spreads Figure 228: US HY spreads

Baseline (bps) Baseline (bps) Baseline
115 165 Scenario 1: mutant virus 650
Scenario 1: mutant virus Scenario 1: mutant virus
Scenario 2: structural shift higher in inflation Scenario 2: structural shift higher in inflation Scenario 2: structural shift higher in inflation
155 600
110 Scenario 3: Accelerated recovery Scenario 3: Accelerated recovery
145
550
105
135
500
100 125
450
115
95 400
105
90 350
95
85 300
85
75 250
80 Dec-21 Jun-22 Dec-22 Jun-23 Dec-23 Dec-21 Jun-22 Dec-22 Jun-23 Dec-23
Dec-21 Jun-22 Dec-22 Jun-23 Dec-23
Source : UBS. Note: EM FX (GBI weighted) vs. USD, Source : UBS Source : UBS
Current=100 (higher values = EM FX appreciation)

Figure 229: Baseline and scenario forecasts
Baseline
4Q 21 2021 1Q 22 2Q 22 3Q 22 4Q 22 2022 1Q 23 2Q 23 3Q 23 4Q 23 2023
Global real GDP 7.2 6.0 4.8 5.1 3.8 3.2 4.7 3.3 3.6 3.2 3.0 3.6
US 10y (bp) 180 180 205 210 205 210 210 225 225 225 225 225
Germany 10y (bp) -10 -10 10 15 20 25 25 25 30 40 50 50
EURUSD 1.18 1.18 1.20 1.22 1.23 1.25 1.25 1.26 1.28 1.29 1.30 1.30
S&P 500 4,650 4,650 4,850 5,000 4,950 4,850 4,850 4,900 4,950 4,975 5,000 5,000
STOXX 600 485 485 510 535 530 520 520 520 520 525 525 525
US IG (bp) 85 85 90 95 95 100 100 105 105 105 105 105
US HY (bp) 270 270 285 300 310 330 330 340 350 360 370 370
MSCI EM 1,300 1,300 1,275 1,250 1,275 1,300 1,300 1,325 1,300 1,325 1,350 1,350
EM FX*** 99 99 96 94 95 96 96 96 96 95 94 94
Scenario 1: Mutant virus

4Q 21 2021 1Q 22 2Q 22 3Q 22 4Q 22 2022 1Q 23 2Q 23 3Q 23 4Q 23 2023
Global real GDP 7.2 6.0 -2.0 1.9 5.6 4.5 2.7 3.9 4.3 3.9 3.6 4.3
US 10y (bp) 180 180 75 75 100 125 125 145 155 165 175 175
Germany 10y (bp) -20 -20 -60 -60 -50 -40 -40 -25 -15 -10 -10 -10
EURUSD 1.18 1.18 1.19 1.19 1.20 1.20 1.20 1.20 1.20 1.20 1.20 1.20
S&P 500 4,650 4,650 4,000 3,800 4,150 4,550 4,550 4,750 4,800 4,850 4,850 4,850
STOXX 600 485 485 410 390 430 460 460 470 480 490 500 500
US IG (bp) 85 85 160 135 135 100 100 95 90 90 100 100
US HY (bp) 270 270 600 550 500 400 400 375 350 325 325 325
MSCI EM 1,300 1,300 1,150 1,100 1,150 1,200 1,200 1,225 1,200 1,225 1,250 1,250
EM FX*** 99 99 95 94 93 94 94 94 93 92 91 91
Scenario 2: Structural shift higher in inflation

4Q 21 2021 1Q 22 2Q 22 3Q 22 4Q 22 2022 1Q 23 2Q 23 3Q 23 4Q 23 2023
Global real GDP 7.2 6.0 4.1 4.4 3.4 3.0 4.4 2.8 3.2 3.0 2.8 3.2
US 10y (bp) 180 180 225 240 260 275 275 290 305 315 325 325
Germany 10y (bp) -20 -20 0 20 40 50 50 60 75 100 120 120
EURUSD 1.18 1.18 1.16 1.14 1.12 1.10 1.10 1.11 1.13 1.14 1.15 1.15
S&P 500 4,650 4,650 4,450 4,300 4,250 4,150 4,150 4,100 4,100 4,050 4,000 4,000
STOXX 600 485 485 465 450 440 430 430 425 420 420 420 420
US IG (bp) 85 85 95 105 100 110 110 105 110 125 150 150
US HY (bp) 270 270 300 340 350 375 375 375 400 475 550 550
MSCI EM 1,300 1,300 1,225 1,175 1,125 1,100 1,100 1,100 1,075 1,075 1,050 1,050
EM FX*** 99 99 95 93 91 89 89 88 87 85 84 84

4Q 21 2021 1Q 22 2Q 22 3Q 22 4Q 22 2022 1Q 23 2Q 23 3Q 23 4Q 23 2023
Global real GDP 7.2 6.0 8.0 7.1 5.4 4.9 6.3 4.0 4.4 2.9 2.9 4.5
US 10y (bp) 180 180 215 235 240 240 240 240 235 235 230 230
Germany 10y (bp) -20 -20 0 10 20 30 30 40 50 60 70 70
EURUSD 1.18 1.18 1.21 1.24 1.27 1.30 1.30 1.31 1.33 1.34 1.35 1.35
S&P 500 4,650 4,650 5,000 5,150 5,200 5,100 5,100 5,150 5,200 5,250 5,300 5,300
STOXX 600 485 485 535 540 545 550 550 555 560 565 565 565
US IG (bp) 85 85 85 85 90 95 95 100 105 110 110 110
US HY (bp) 270 270 270 270 285 310 310 330 350 375 375 375
MSCI EM 1,300 1,300 1,400 1,450 1,475 1,450 1,450 1,475 1,500 1,525 1,550 1,550
EM FX*** 99 99 102 103 104 105 105 106 107 108 109 109
Source : Bloomberg, UBS estimates. *Quarterly data is qoq saar, yearly data is yoy. **Fed Funds rate forecasts indicate the upper end of the range. ***EM FX is GBI-weighted
versus USD, higher values indicate stronger EM FX, Current = 100

Figure 230: Scenarios by economy
Baseline Scenario 1: Mutant virus Scenario 2: Structural Shift in higher inflation Scenario 3: Accelerated recovery
%QoQ saar US - GDP %YoY % % Index
US - Inflation US - Policy Rate US - Unemployment US - Mobility rating
10.0 8.0 4.0 Baseline 6.0 5.0
8.0 7.0 Scenario 2: structural shift higher in inflation 5.5
4.0
6.0 3.0 Scenario 3: Accelerated recovery
6.0
5.0
4.0 3.0
5.0
2.0 2.0 4.5
4.0 2.0
0.0
4.0
-2.0 3.0
1.0
1.0
2.0 3.5
-4.0
-6.0 1.0 0.0 3.0 0.0
Sep-21 Mar-22 Sep-22 Mar-23 Sep-23 Sep-21 Mar-22 Sep-22 Mar-23 Sep-23 Sep-21 Mar-22 Sep-22 Mar-23 Sep-23 Sep-21 Mar-22 Sep-22 Mar-23 Sep-23 Sep-21 Mar-22 Sep-22 Mar-23 Sep-23
%QoQ saar %YoY % % Canada - Unemployment Index

Canada - GDP Canada - Inflation Canada - Policy Rate Canada - Mobility rating
16.0 6.0 4.0 Baseline 9.0 5.0
12.0 5.0 Scenario 2: structural shift higher in inflation 8.0 4.0
10.0
8.0 4.0 7.0 3.0
6.0 2.0
4.0 3.0 6.0 2.0
2.0
1.0
0.0 2.0 5.0 1.0
-2.0
-4.0 1.0 0.0 4.0 0.0
%QoQ saar Japan - GDP %YoY Japan - Inflation % Japan - Policy Rate % Japan - Unemployment Index Japan - Mobility rating
12.0 3.0 0.2 Baseline 3.5 7.0
10.0 6.0
8.0 0.1 Scenario 3: Accelerated recovery 5.0
2.0 3.0
6.0
4.0
4.0 0.0
3.0
2.0
1.0 2.5
2.0
0.0 -0.1
-2.0 1.0
-4.0 0.0 -0.2 2.0 0.0

%QoQ saar Australia - GDP %YoY Australia - Inflation % Australia - Policy Rate % Australia - Unemployment Index Australia - Mobility rating
15.0 4.0 2.0 Baseline 6.0 8.0
7.0
5.0 5.0
5.0
0.0 3.0 1.0 4.5 4.0
3.0
-5.0 4.0
2.5 0.5 2.0
-10.0 3.5
1.0
-15.0 2.0 0.0 3.0 0.0
%QoQ saar New Zealand - GDP %YoY New Zealand - Inflation % New Zealand - Policy Rate % New Zealand - Unemployment Index New Zealand - Mobility rating
35.0 6.0 3.0 Baseline 5.0 10.0
9.0
15.0 2.0 4.0 7.0
10.0 4.0 6.0
5.0
1.5 3.5 5.0
0.0
-5.0 3.0 4.0
-10.0 1.0 3.0
3.0
-15.0 2.0
0.5 2.5 2.0
-20.0
-25.0 1.0
-30.0 1.0 0.0 2.0 0.0
%QoQ saar Switzerland - GDP %YoY Switzerland - Inflation % Switzerland - Policy Rate % Switzerland - Unemployment Index Switzerland - Mobility rating
12.0 2.0 0.0 Baseline 12.0 6.0
Scenario 1: mutant virus 11.0
-0.2 10.0
9.0
6.0
8.0 4.0
3.0 -0.4
7.0
1.0 3.0
0.0 6.0
-0.6
5.0 2.0
-3.0 4.0
0.5
-0.8 3.0
-6.0 1.0
2.0
-9.0 0.0 -1.0 1.0 0.0
%QoQ saar Eurozone - GDP %YoY Eurozone - Inflation % Eurozone - Policy Rate % Eurozone - Unemployment Index Eurozone - Mobility rating
12.0 4.5 0.0 Baseline 13.0 7.0
9.0 4.0 -0.1 Scenario 2: structural shift higher in inflation 12.0 6.0
6.0 3.5 5.0
-0.2 11.0
3.0 3.0 4.0
-0.3 10.0
0.0 2.5 3.0
-0.4 9.0
-3.0 2.0 2.0
-6.0 1.5 -0.5 8.0 1.0
-9.0 1.0 -0.6 7.0 0.0

Source : UBS

Figure 231: Scenarios by economy (contd.)
%QoQ saar UK - GDP %YoY UK - Inflation % UK - Policy Rate % UK - Unemployment Index UK - Mobility rating
12.0 5.0 2.0 Baseline 12.0 7.0
9.0 6.0
6.0 4.0 1.5 Scenario 3: Accelerated recovery
10.0
5.0
9.0
3.0
8.0 4.0
0.0 3.0 1.0
7.0 3.0
-3.0
6.0
2.0
-6.0 2.0 0.5 5.0
-9.0 4.0 1.0
-12.0 1.0 0.0 3.0 0.0

%QoQ saar South Korea - GDP %YoY South Korea - Inflation % South Korea - Policy Rate % South Korea - Unemployment Index South Korea - Mobility rating
7.0 3.5 3.0 Baseline 4.5 6.0
6.0
3.0 2.5
Scenario 2: structural shift higher in inflation 5.0
4.0
4.0 2.5 2.0
3.0 3.5 3.0
2.0 2.0 1.5
2.0
1.0 3.0
1.5 1.0
1.0
0.0
-1.0 1.0 0.5 2.5 0.0
%QoQ saar Taiwan - GDP %YoY Taiwan - Inflation % Taiwan - Policy Rate % Taiwan - Unemployment Index Taiwan - Mobility rating
8.0 4.0 1.5 Baseline 4.5 7.0
7.0 1.5 6.0
4.0
6.0 3.0 1.4 Scenario 3: Accelerated recovery
5.0
5.0 1.4 3.5 4.0
4.0 2.0 1.3
3.0 3.0
3.0 1.3
2.0
2.0 1.0 1.2
2.5
1.0 1.2 1.0
0.0 0.0 1.1 2.0 0.0

%QoQ saar Singapore - GDP %YoY Singapore - Inflation % Singapore - Policy Rate % Singapore - Unemployment Index Singapore - Mobility rating
15.0 4.0 1.0 3.0 7.0
Baseline
12.0 Scenario 1: mutant virus 6.0
3.5
6.0 3.0
2.6 4.0
3.0
2.5
0.0 Not Available 3.0
2.4
-3.0 2.0
2.0
-6.0 2.2
1.5 1.0
-9.0
-12.0 1.0 0.0 2.0 0.0
%QoQ saar Hong Kong - GDP %YoY Hong Kong - Inflation % Hong Kong - Policy Rate % Hong Kong - Unemployment Index Hong Kong - Mobility rating
15.0 3.5 2.0 6.0 6.0
Baseline
5.0
1.5
5.0 4.0
9.0 2.5
1.0 3.0
6.0 2.0
4.0 2.0
0.5
3.0 1.5
1.0
0.0 1.0 0.0 3.0 0.0

%QoQ saar Vietnam - GDP %YoY Vietnam - Inflation % Vietnam - Policy Rate % Vietnam - Unemployment Index Vietnam - Mobility rating
35.0 5.0 7.0 Baseline 4.0 9.0
25.0 4.5 6.5 8.0
20.0 7.0
15.0
10.0 6.0
3.5 5.5
5.0 5.0
0.0 3.0 5.0 3.0
-5.0 4.0
-10.0 2.5 4.5
3.0
-15.0
2.0 4.0 2.5 2.0
-20.0
-25.0 1.5 3.5 1.0
-30.0
-35.0 1.0 3.0 2.0 0.0
Source : UBS

%QoQ saar Thailand - GDP %YoY Thailand - Inflation % Thailand - Policy Rate % Thailand - Unemployment Index Thailand - Mobility rating
25.0 3.0 4.0 Baseline
2.5 7.0
6.0
10.0 2.0 2.0
5.0 4.0
1.5 2.0
0.0 3.0
-5.0 1.0 1.5
2.0
-10.0 1.0
0.5 1.0
-15.0
-20.0 0.0 0.0 1.0 0.0
%QoQ saar China - GDP %YoY China - Inflation % China - Policy Rate % China - Unemployment Index China - Mobility rating
10.0 5.0 2.0 6.0 3.0
Baseline
5.5 2.0
6.0 3.0
5.0 1.5
4.0 2.0
5.0 1.0
3.0
2.0 1.0
1.0
0.0 0.0 1.0 4.5 0.0
%QoQ saar India - GDP %YoY India - Inflation % India - Policy Rate % India - Unemployment Index India - Mobility rating
80.0 7.0 7.0 Baseline
1.0 6.0
6.0 6.0 Scenario 3: Accelerated recovery
40.0 4.0
5.5
Not Available
20.0 5.0 5.0 3.0
4.5
0.0 2.0
4.0 4.0
-20.0 1.0
3.5
-40.0 3.0 3.0 0.0 0.0
%QoQ saar %YoY % % Index Philippines - Mobility rating

Philippines - GDP Philippines - Inflation Philippines - Policy Rate Philippines - Unemployment
25.0 5.0 6.0 7.5 9.0
Baseline
20.0 4.5 5.0 Scenario 2: structural shift higher in inflation
7.0
4.0 4.0 7.0 6.0
10.0 5.0
3.5 3.0
5.0 4.0
3.0 2.0 6.5 3.0
0.0
2.0
-5.0 2.5 1.0
1.0
-10.0 2.0 0.0 6.0 0.0
%QoQ saar Indonesia - GDP %YoY % Indonesia - Policy Rate % Indonesia - Unemployment Index Indonesia - Mobility rating
Indonesia - Inflation
12.0 6.0 8.0 8.0 7.0
Baseline
7.5
8.0 5.0 7.0 Scenario 2: structural shift higher in inflation
6.0 7.0
4.0 6.0 4.0
4.0
6.5
2.0 3.0
3.0 5.0
0.0 6.0
2.0
-2.0 2.0 4.0
5.5 1.0
-4.0
-6.0 1.0 3.0 5.0 0.0
%QoQ saar Malaysia - GDP %YoY % Malaysia - Policy Rate % Malaysia - Unemployment Index Malaysia - Mobility rating
Malaysia - Inflation
21.0 4.0 4.0 Baseline 5.5 9.0
3.5 3.5 5.0
7.0
9.0 3.0 3.0 6.0
6.0 4.0 5.0
2.5 2.5
3.0 3.5 4.0
0.0 2.0 3.0
2.0
-3.0 3.0
2.0
-6.0 1.5 1.5 2.5 1.0
-9.0
-12.0 1.0 1.0 2.0 0.0
Source : UBS

%QoQ saar Turkey - GDP %YoY % Turkey - Policy Rate % Turkey - Unemployment Index Turkey - Mobility rating
Turkey - Inflation
15.0 21.0 22.0 Baseline 14.0 6.0
12.0
18.0 13.0
18.0 4.0
6.0 15.0 12.0
3.0 16.0 3.0
0.0 12.0 11.0
14.0 2.0
-3.0
9.0 10.0
12.0 1.0
-6.0
-9.0 6.0 10.0 9.0 0.0
%QoQ saar Poland - GDP %YoY % Poland - Policy Rate % Poland - Unemployment Index Poland - Mobility rating
Poland - Inflation
15.0 8.0 4.0 4.0 8.0
Baseline
9.0 3.0 3.5 6.0
6.0
6.0 5.0
3.0 5.0 2.0 3.0 4.0
0.0 3.0
4.0
-3.0 1.0 2.5 2.0
3.0
-6.0 1.0
-9.0 2.0 0.0 2.0 0.0
%QoQ saar South Africa - GDP %YoY % South Africa - Policy Rate % South Africa - Unemployment Index South Africa - Mobility rating
South Africa - Inflation
10.0 7.5 8.0 40.0 6.0
Baseline
8.0 7.0 7.0 Scenario 1: mutant virus 38.0
5.0
6.0 6.0 36.0
4.0 5.0 34.0
6.0
2.0 4.0 32.0 3.0
5.5
0.0 3.0 30.0
2.0
-2.0 5.0 2.0 28.0
4.5 1.0
-4.0 1.0 26.0
-6.0 4.0 0.0 24.0 0.0
%QoQ saar Brazil - GDP %YoY % Brazil - Policy Rate % Brazil - Unemployment Index Brazil - Mobility rating
Brazil - Inflation
6.0 11.0 14.0 Baseline 15.0 5.0
10.0 13.0
3.0 12.0 Scenario 3: Accelerated recovery 14.0 4.0
9.0
2.0 11.0
1.0 8.0 13.0 3.0
0.0 10.0
-1.0 7.0
9.0
-2.0 6.0 12.0 2.0
-3.0 8.0
-4.0 5.0 7.0 11.0 1.0
-5.0
4.0 6.0
-6.0
-7.0 3.0 5.0 10.0 0.0
%QoQ saar %YoY % % Index Mexico - Mobility rating

Mexico - GDP Mexico - Inflation Mexico - Policy Rate Mexico - Unemployment
10.0 7.0 10.0 5.5 5.0
9.0 Baseline
5.0
6.0
5.0 4.5
4.0 8.0
3.0 5.0 3.0
4.0
2.0 7.0
1.0
0.0 4.0 3.5 2.0
-1.0 6.0
-2.0 3.0
-3.0 1.0
-4.0 3.0
5.0 2.5
-5.0
-6.0
-7.0 2.0 4.0 2.0 0.0
%QoQ saar Russia - GDP %YoY Russia - Inflation % Russia - Policy Rate % Russia - Unemployment Index Russia - Mobility rating
9.0 8.0 10.0 Baseline 5.5 6.0
8.0 9.5 Scenario 1: mutant virus
6.0 7.0 9.0 5.0
5.0 8.5 4.0
4.0 6.0 8.0 4.5
3.0
7.5 3.0
2.0
1.0 5.0 7.0 4.0
0.0 2.0
6.5
-1.0 4.0 6.0 3.5
-2.0 1.0
-3.0 5.5
-4.0 3.0 5.0 3.0 0.0
Source : UBS

Regional Economic Views

Jonathan Pingle
Economist
jonathan.pingle@ubs.com
+1-212-713 2225
Samuel D. Coffin
Economist
samuel.coffin.@ubs.com
+1-203-719 1252
Alan Detmeister
Economist
alan.detmeister@ubs.com
+1 212 713 1222
Andrew Dubinsky
Economist
andrew.dubinsky@ubs.com
+1-212-713 4670
Pablo Villanueva
Economist
pablo.villanueva@ubs.com
+1-212-713 4074
US and Canada

Pivotal Questions Q: Will inflation decline to below the 2.0% target?

We expect US Core PCE inflation to end 2022 at 1.6%. It should weaken as demand for goods
softens due to a normalization of consumption towards services, supply chain disruptions fade, and
wage pressures ease on the back of a loosening labor market. We also expect a decline in Canada's
inflation although of a lower magnitude due to a tighter labor market than in the US.
Q: Will the labor force participation rate in the US rise and loosen the labor market?
We expect that the US labor force participation rate will rise about 100bp, getting close to the
demographically-adjusted pre-pandemic peak. Prime-age participation is pro-cyclical which favors its
increase. Also, we think that as people exhaust savings accumulated during the pandemic, they will
have to return to the workforce.
Q: Will the Federal Reserve and Bank of Canada hike rates?

We expect the Fed's first hike in late 2023. In our view, soft outturns for core PCE inflation during
2022 will validate the views of the dovish FOMC participants who prefer to hold off on hikes next
year. We expect the BoC to hike three times in 2022 starting in April. Our view of a hawkish BoC and
dovish Fed is driven by different monetary policy frameworks. For example, the Fed would not hike if
inflation fell below target, but this scenario would still lead the BoC to tighten given Canada's
stronger labor supply recovery and tighter labor market outlook.
UBS VIEW We expect 4.2% US GDP growth (annual average) in 2022. In the first half of the year, we expect a
normalization of economic activity as severe Covid cases and hospitalizations dramatically decline
and supply chain disruptions diminish. The engine of growth should increasingly be fixed capital
formation which should benefit from the upcoming fiscal packages. We assume these will be passed
by Congress by year end 2021. Despite the new government spending, the fiscal impulse should be a
drag on growth as the deficit falls from around 12.2% of GDP in 2021E to 6.5% in 2022E.
EVIDENCE Inflation will likely slow because of a shift in the composition of household spending toward services
and away from goods. The spending rotation was under way from April to July before the Delta
variant hit and we expect it to resume as Delta retreats. Also, we will be watching for supplier
deliveries in the ISM index as it contains information on the level of supply disruptions. The subindex
peaked in May, and then came down in June and July before Delta halted the decline. We expect the
direction of travel of these variables will favor slowing inflation during the first half of next year.
WHAT´S PRICED IN? The market is currently pricing over two Fed hikes in 2022 and around five BoC hikes. We think that
both markets are overdone. Our forecast for Core PCE inflation is 70bp lower than the FOMC's
median forecast at the September meeting, but not far from the Fed staff's forecast according to the
September Minutes. We also think that several FOMC members have lost confidence in the labor
force participation recovery and will be surprised on the dovish side once it materializes.
RISK The Fed’s choice set looks bimodal to us and there is a chance of a hike in mid-2022 if inflation fails to
decelerate as outlined in our view. Either the supply pressure begins to relent in the first half of the
year and inflation is shown to be clearly transitory, as in our baseline, or inflation slows less quickly
than we expect and the transitory nature of the inflation remains unclear by the end of the Fed’s
taper in the summer. In the latter case, monetary policy would quickly progress to raising rates in the
third quarter of 2022, following the taper.
80 ISM Manufacturing, Supplier Deliveries Index 70%

Service Wallet Share of PCE
75
68%
70
65 66%
60
55 64%
50
62%
45
40 60%
11-16
10-19
01-16
06-16
04-17
09-17
02-18
07-18
12-18
05-19
03-20
08-20
01-21
06-21
Oct-18
Oct-20
Jan-18
Jan-19
Oct-19
Jan-20
Jan-21
Jul-18
Jul-19
Jul-20
Jul-21
Apr-18
Apr-19
Apr-20
Apr-21
Source : ISM, BEA, UBS.

USA
Next year, inflation is expected to come down significantly and move below the Fed's
2.0% target on the back of lower demand for goods, reduced supply chain
disruptions, and easing labor market bottlenecks.
We expect the labor force to increase by 4.0 million people and to see a 100bp
increase in the participation rate. The rise in participation should be driven by its pro-
cyclical nature and by diminishing Covid effects on labor supply. It would slow the
decline in the unemployment rate and moderate the wage pressure that we have
seen in 2021.
We expect the Fed will remain hawkish in Q4 2021 and into the first part of 2022
with a majority of FOMC participants expecting at least one hike in 2022. Further
out, our view on the Fed is quite dovish relative to the market. Weakening monthly
inflation prints during the first half of 2022 are likely to lead to a dovish change in Fed
communication. We assume a change in personnel that is already underway at the
Fed will also contribute to the dovish pivot. We expect the Fed will deliver the first
hike in late 2023, which is more than a year later than the current market pricing.
However, if the inflation decline occurs too long after the end of tapering, then the
risks of a 2022 hike would increase.
The US economy in 2022

Not long after the pandemic shutdown in early 2020, the U.S. economy roared out of Expect two more years of well
the trough. Real GDP sat 1.4 pp above pre-pandemic levels in 2021Q3, and did so with above-trend growth
around 5 million fewer employees. Following 2021’s slower third quarter, we look for
solid ongoing expansion to continue over the next few years even if activity fails to move
up in a straight line. Robust household balance sheets, pent-up demand, and
accommodative monetary policy should continue to underpin strong consumer
spending and business investment in 2022 and 2023. With 5.5% GDP growth in 2021E,
and 4.2% GDP growth in 2022E, the U.S. economy should recover to above the prior
trend in the middle of 2022, with growth moderating to a still good 3.0% rate in 2023E
(all annual GDP growth).
Fiscal policy support will wane in the next two years. How much it does matters New fiscal packages will partially
materially for the outlook. As we go to print, Congress is finalizing two fiscal packages offset the roll-off of pandemic
that will boost spending and increase taxes. Our base case of around $2 trillion in stimulus
combined net new spending over the coming decade helps, but it fails to completely fill
in the declines in federal government spending following the sizeable pandemic bills of
2020 and early 2021. At a headline level, we expect the reduced fiscal support to be
more than backfilled by rising private sector demand. However, uncertainty remains,
both on the impact of the spending packages themselves and their overall size and
scope. Risks of no deal or of larger front-loaded spending could imply revisions to
expected GDP growth up or down by a percentage point or more depending on the
details.
Labor demand looks solid, reflected in elevated job openings and rising compensation to Still optimistic on the runway for fast
fill those positions. The employment recovery has been uneven, but 2021's late summer job growth and eventual
soft patch still saw private sector employment posting gains of over 300,000 jobs per participation recovery
month in August and September. The rate of job gains should improve on that robust
pace over the coming year as we move past the Delta variant and vaccination rates
continue to rise. We expect the unemployment rate will move below 4% in 2022. The
expected rise in the participation rate by around 100bp should prevent a sharper drop.
We expect that at the December 2021 FOMC meeting, the median pace of appropriate Fed to hike in late 2023, later than
policy will be revised up with a majority of participants showing at least one hike in market and consensus
2022. However, two important changes are coming to monetary policy: a new
committee and more inflation data. The next year could see a historic amount of
turnover among FOMC participants. Then, the decline in monthly inflation we expect
will likely give that new FOMC pause in the march toward raising rates. If the transitory
inflation pressures view is affirmed as we expect, the committee will likely wait a few
quarters after winding down asset purchases to evaluate the persistence of the sub-2%
quarterly outturns for inflation during 2022. However, with strong growth, tighter
resource utilization and inflation averages approaching 2.0%, we expect the FOMC to
move forward with raising the federal funds rate in late 2023.

The outlook for inflation
We continue to embrace the transitory inflation view. We expect to see strong monthly Core PCE inflation should peak over
inflation through the end of this year. However, this wave of price increases is expected 4%, but then drop below 2% in 2022
to crest over the next few months. Materials prices and shipping costs have moved up
sharply, but many indexes have peaked and have begun to fall. Other pandemic-related
price pressures should begin to ease in 2022 with increasing participation reducing
hourly wage increases and a rotation of consumption away from goods and towards
services leading to the easing of other supply constraints. Our forecast for above-
consensus inflation in the near term flips to below consensus by the end of 2022.
The risks around our view are linked to the timing of the spending rotation back to The path of owners' equivalent rent
services, and duration of the shelter inflation acceleration. The timing of the decline in is a risk to our view
core goods is uncertain, but we expect roughly half of the large increases in 2021 to
retrace by the end of 2022. The factors leading to softer goods prices are still in the early
stages. The timing of the easing could be later than we expect, and Covid waves could
delay a pivot to services. A second risk to our view is driven by owners' equivalent rent
(OER). We expect that the surge in rent indexes for new leases that was seen earlier this
year will result in OER inflation picking up into early next year. We expect that later a very
gradual easing will take hold. However, given the variation between the new lease
indexes and OER, the pickup in OER or tenants' rent may extend later or have a higher
peak than our assumptions.
Figure 234: We expect core PCE inflation to materially Figure 235: Goods have been a major driver of inflation in
surprise the Fed to the downside in 2022 2021
US Core PCE y/y quarterly, % 4.8% Contribution to 12-month

core PCE inflation
Core goods
4.0 4.0% Medical services
Other services
UBS Fed 3.2% Housing rents
3.0
Core PCE inflation
2.4%
2.0
1.6%
1.0 0.8%
1Q21
2Q21
3Q21
4Q21
1Q22
2Q22
3Q22
4Q22
1Q23
2Q23
3Q23
4Q23
0.0%
-0.8%
12 13 14 15 16 17 18 19 20 21
Source : BEA, Federal Reserve Board of Governors, UBS. Note: The Fed's forecasts Source : BEA, UBS
correspond to the median projection among FOMC participants in September.
Figure 236: Medium-term inflation expectations have risen Figure 237: The 10y average of Core PCE inflation remains
but remain at levels seen in 2013 when inflation was low below target
Common Inflation Expectations Index projected onto SPF 10Y PCE Average of Core PCE inflation
5-year average
inflation
3.0% 10-year average
2.15 Target
2.10
2.5%
2.05
2.00
2.0%
1.95
1.90
1.85 1.5%
1.80
1.0%
Jan-00 Jan-05 Jan-10 Jan-15 Jan-20
Source : Federal Reserve Board, Haver, UBS Source : BEA, UBS

The outlook for the labor market
We expect job growth to continue at an above-trend pace in 2022 and to accelerate High labor demand is a persistent
modestly as strong labor demand translates into faster hiring. In 2021, job growth has tailwind to job growth
had wild swings, and the first half strength saw a deceleration due to the Delta variant.
Altogether job gains have averaged ~550k/month YTD. In 2022, we expect gains to
average ~365k/month with steady contributions from depressed service industries. Our
confidence on the labor recovery stems from the indications of strong labor demand
from record job opening levels and corresponding strength in household surveys of the
job market.
Despite further reopening, we do not expect employment growth to be as rapid as in The speed limit on job gains has
2021 because the labor market slack today reflects those who likely need to find a new fallen due to the large share of drop-
employer, and not just return from a temporary layoff. The slow job growth in 2H-2021 outs in labor force slack
shows matching the out-of-work people with the available jobs has become more
difficult, with an increased share of the available workforce either permanently
unemployed or out of the labor force. It will take them longer to match with available
jobs than it did the temporarily unemployed early in the recovery.
The depressed participation rate amid strong job gains has led to a fairly low Labor force growth next year could
unemployment rate of 4.8% as of September, only slightly above the Fed's 4.0% be the highest in decades
median estimate of the natural rate. Taking into account the increase in population and
the labor force shortfall, the adjusted unemployment rate is now 6.8%, ~2pp above the
headline series. We project the labor force will increase by around 4 million people which
would imply a 100bp rise in the participation rate. This expected one-year increase in the
labor force would be one of the largest in recent decades, similar to the 1970s when the
baby boomers were entering the job market. In our view, the restoration of US labor
supply during 2022 will be one of the most important phenomena to watch.
The overarching driver behind our view that participation will rise for a prolonged time is Participation gains will play an
that prime-age participation is a pro-cyclical variable with a lag. Another positive signal important role in reducing inflation
for the participation outlook is that the percentage of people "out of the labor force that concerns
want a job" remains higher than in 2019, a time of rising participation. The rise in labor
supply that we expect should keep monthly job growth at a healthy pace in 2022
without a sharp drop in the unemployment rate.
Figure 238: Prime-age participation is a pro-cyclical Figure 239: Recently people out of the labor force have had
variable with a lag a higher propensity to be interested in joining the labor
market than they did in 2019
42
Jan-19
Mar-19
Jul-19
May-19
85 Prime-age LFPR vs unemployment rate, % 3 8 Characteristics of people out of the labor force, %
4 7
84
5 6
83 6 5 2019
7 4 2021
82 8 3 12 % of people out of labor f
9 2
81
10 1 10
80 11 0 8
Jan-97
Jan-01
Jan-05
Jan-09
Jan-13
Jan-17
Jan-19
Jan-95
Jan-99
Jan-03
Jan-07
Jan-11
Jan-15
Jan-21
% wants a job % intends to look % is constrained

for job within 6
12m
Prime-age LFPR U-3, rhs inverse 4
Source : BLS, UBS Source : BLS, US Census CPS micro data, UBS. Note: 2021 includes months up to
and including September. The category % is constrained includes people who have
not looked for a job due to childcare, family responsibilities, or transportation
problems.

Figure 240: There has been a recent decline in retirement Figure 241: Governor Brainard has argued that adjusting
rates for misclassification and labor force shortfall, the labor
market is not that tight
52 % of people out of labor force who are retired 1.4 Vacancies-to-unemployment ratio
51 1.2
50
1.0
49
48 0.8
47 0.6
46 0.4
45
44 0.2
43 0.0
42
Aug-19
Oct-18
Jan-15
Jan-20
Nov-15
Jul-17
Dec-17
Nov-20
Apr-16
Sep-16
May-18
Jun-15
Feb-17
Apr-21
Mar-19
Jun-20
Jul-19
Jul-20
Jul-21
Jan-19
Jan-20
Jan-21
Mar-19
Nov-19
Nov-20
Sep-19
Mar-20
Sep-20
Mar-21
Sep-21
May-19
May-20
May-21
V/U adjusted V/U
Source : BLS, US Census CPS micro data, UBS Source : BLS, UBS. Note: The adjusted ratio adds misclassified workers to
unemployed. In addition it adds the shortfall in labor force. The latter is calculated
using the demographically-adjusted participation rate which prevailed before the
pandemic.
The outlook for GDP

In our forecasts, the 5.0% growth of 2021 is followed by a moderation to 4.0% in 2022 Reopening, fiscal packages, and
and then falls to 2.4% by 2023, all on a Q4/Q4 basis. We do not believe that the Q3 spending down pent-up savings
2021 slowdown in growth will persist. Rather, Covid will likely retreat significantly, and keeps growth strong
further reopening should spur employment, income, and spending gains. Supply
constraints should lessen because of less Covid infections, increased adaptation, and a
shift away from goods spending and toward services. We assume the fiscal packages
enacted in late 2021 will only partially offset the unwind from large stimulus relief bills in
the past two years. Income and activity from pent-up demand will likely lead to
somewhat front-loaded spending and gradually become less of a boost after 2022.
After a slight decline in real disposable income in 2021 because of reduced transfers, we Job gains feed income growth, but
forecast income growth of about 1.5% over the next couple of years. Spending will fading fiscal transfers causes a
likely rise much more quickly because of a reduction in the savings rate. Savings deceleration
accumulated rapidly over the past year and a half. We expect the savings rate will fall
from an average of 7.0% in 2021 to 5.0% in 2022 and further decline to 4.6% in 2023.
Consumption growth will likely slow from 4.5% this year to 3.6%, then to 2.2% growth
in 2022 and 2023 as re-employment moderates and as accumulated savings are spent.
We expect continued rapid gains in services consumption and a slower pace for goods. Preferences for services are likely to
In our view, consumption of services will rise as a share of total consumer spending from normalize more
their recent 65% share to 67% by the end of 2022. For context, the share was 69% of
spending pre-pandemic. The services shift would take some pressure off of supply chains
for goods. Our view on spending composition is driven by the fact that pent-up savings
are especially high among the wealthy, who typically have a high services spending
intensity. High price increases in goods should also encourage rebalancing.
In our view, business investment will accelerate, benefiting from the earlier increases in GDP ends 2022 7½% above its pre-
activity, the tightening labor market, and indirect effects of the new infrastructure pandemic level, having just closed
packages. In 2021, investment in computers and motor vehicles has held back total the output gap. It ends 2023 10%
capital spending, but the strength in other equipment spending reflects strong above Q4 2019, and modestly above
investment demand, and investment should accelerate as supply constraints lessen. We potential.
project real business fixed investment will rise at a 10% pace in 2022 and 7% in 2023,
led by equipment investment. Our expectation is that business investment will be a big
beneficiary of the fiscal packages that we assume get passed in Q4 of this year.

Figure 242: Pent-up savings are large, especially for the top Figure 243: Pivot to services will likely pick-up steam
10% of households
2,000 70%
Liquid Asset (Dep., and MMMF) Ch. 2-Year ago $bn Service Wallet Share of PCE
1,500 Wealthiest 1% 68%
Bottom Half
1,000 Top 50-90%-tile Wealth
Top 90% to 99%-tile 66%
500
64%
0
62%
-500
60%
-1,000
Oct-18
Oct-20
Jan-18
Jul-18
Jul-19
Oct-19
Jan-20
Jul-20
Jul-21
Apr-18
Jan-19
Apr-19
Jan-21
Apr-21
Apr-20
10 12 14 16 18 20
Source : Flow of Funds, UBS Source : BEA, UBS
Figure 244: Four decades of spending trends suggest Figure 245: New fiscal policy should help offset the roll-off
services spending, especially among the wealthy, should of pandemic stimulus
normalize
24% 8%
Spending Share on gas, cars, and furnishings Contribution to GDP growth QoQ a.r. 3Q MA (pp)
22% Total Enacted
6%
20%
4% Total Enacted and
18% Expected
16% 2%
14% 0%
12% -2%
Mid. Inc. Quintile
10% Urban -4%
8% Rural
Top Quintile -6%
6% Dec-19 Dec-20 Dec-21 Dec-22 Dec-23 Dec-24
84 86 88 90 92 94 96 98 00 02 04 06 08 10 12 14 16 18 20
Source : BLS CEX, UBS Source : CRFB, Brookings, CBO, UBS
The outlook for the housing sector

Home sales and housing starts surged in the first year of the pandemic. The new Pandemic demand shift in housing
demand during the pandemic reflected relocation out of cities and toward suburbs and has normalized
rural areas. Furthermore, homebuyers tend to skew towards higher income groups
whose employment was the least jeopardized during the pandemic. That stability
supported sales. By Q1 2021, new home sales had risen 30% from 2019 and turnover in
existing homes by almost 20%. However, they have since slowed, and we expect only
very modest increases from here. Reduced relocation demand, along with still high
prices, balance against somewhat more supply. Some of the mid-2021 slowdown
reflected supply strains. Lumber prices had surged. Inventories of new and existing
homes had fallen sharply. But our sense is that those strains have faded somewhat. By
Q3, inventories and months supply of homes for sale were at more normal levels, and
input prices like lumber were well down from their peak.
Relocation demand has slowed and prices remain high, but supply constraints have Expect to stabilize near the
diminished. Looking ahead, we expect building activity and sales modestly above recent demographic-trend rate of housing
lows. Re-employment flows will help somewhat through a boost to household starts
formation. Additional supply will support sales and building activity, and housing needs
will probably continue to adapt for some time. However, and most importantly, we do
not expect nearly the same volumes of relocation demand. We expect that housing
starts inch back up toward a 1.6 million unit annual rate in the next two years and that
sales rise at a similarly slow pace.

The outlook for monetary policy
We expect the Fed's first hike in late 2023 because we expect the 2022 inflation and Positive supply news and lower
labor supply data will support the arguments of those FOMC participants who favor a inflation will result in a patient FOMC
more patient path for the future policy normalization. Admittedly, the next most likely which holds off hiking in '22
rate lift-off outcome may be mid-2022. If the softer inflation data fails to materialize in
time, that would make less defensible the argument that the current inflation pressures
are transitory. Currently, we expect soft outturns for monthly core PCE data during 2022
to validate the views of the dovish FOMC participants (the lower dots seen in the
September SEP). Our view rests upon expectations that the labor force participation
increases, easing wage pressures, and that the consumption rotation toward services
eases supply chain tensions. For 2022 as a whole, we project inflation noticeably below
the FOMC projections. Further out, inflation running near the 2.0% target would enable
the committee to vigorously pursue maximum employment. As a result, we expect the
Fed’s first rate hike later than consensus, in late 2023.
The timing of our inflation call is a key risk, and the next most likely rate lift-off outcome End of tapering in mid-22 is a
may be mid-2022. The Fed’s taper creates a ‘soft window’ to evaluate just how window to evaluate the inflation
transitory the current inflationary pressures prove. That 'soft window' for evaluation outlook
ends next summer. At that point, if not justified by the data, arguments that the
inflationary pressures remain transitory will be difficult to defend. More persistent
elevated monthly inflation readings could also have implications for inflation
expectations. If our expectations for early 2022 data fail to unfold, and instead the
elevated price pressures persist, we suspect the FOMC would turn toward raising the
funds rate soon after ending asset purchases. The Fed’s choice set looks bimodal to us
based on the inflation path. Either the supply pressures relent and inflation looks
transitory, as we expect, or if inflation remains stubbornly elevated, the window for
evaluation will close.
Finally, we assume the changes in Fed personnel over the next six months are likely to be Fed personnel turnover may help
net dovish. The early departure of two hawks, Eric Rosengren from the Boston Fed and change the hawkish tone
Robert Kaplan from the Dallas Fed, and the expected departure of another two centrist-
to-hawks, Governor Quarles and Vice Chair Clarida, will leave the hawkish group with a
severely reduced presence next year. It's often said that personnel is policy, but we
expect inflation trends will be the more important factor causing the change in tone of
Fed communications as 2022 unfolds.
If the recent increase in opposition to Chair Powell's reappointment by some Democratic Potential for many changes in Fed
Senators leads President Biden to nominate another person for the position, we assume leadership could impact bank
that the most likely candidate would be Governor Brainard. She would likely be slightly regulation
more dovish than Chair Powell as she appears more optimistic on the scope for a rise in
participation. She recently argued that the vacancies-to-unemployment ratio should be
adjusted by non-participation and misclassification. Under this metric, she argues that
the labor market looks more similar to 2014-16 when the unemployment rate averaged
5.4%, over 50pb higher than now. On the regulatory side, she might differ further from
Chair Powell as she may advocate for requiring more capital to be held by the big banks.

Figure 246: The FOMC will likely suffer a dovish shift due to Figure 247: The percentage of FOMC participants that see
changes in personnel Core PCE risks to the upside was historically high in June
and September. That will likely change in 2022
FOMC's participants' assessments of appropriate monetary Fed Part. Risk Assessments Upside vs. Downside
policy, %, September 2021 1 Real GDP Risk Diffusion
3.5
0.75 Core PCE Risk Diffusion
3.0
0.5
2.5
0.25
2.0
0
1.5
-0.25Mar-15 Mar-16 Mar-17 Mar-18 Mar-19 Mar-20 Mar-21
1.0
-0.5
0.5
-0.75
0.0
-1
2021 2022 2023 2024 Longer run
Source : Federal Reserve Board of Governors, UBS. Note: green dots correspond to Source : Federal Reserve, Bloomberg. Note: Each point in the diffusion index
UBS's guess of dots submitted by Governors Clarida and Quarles. Red dots represents the number of participants who see risks to Real GDP Core PCE
correspond to UBS's dots submitted by Presidents Kaplan and Rosengren. "weighted to the upside" minus the number who see them "weighted to the
downside," divided by the total number of participants.
The outlook for fiscal policy and Treasury issuance

The ultimate fate of the two infrastructure bills will have implications for the economy Two infrastructure bills add around
and debt issuance, particularly in 2022 and 2023. We assume the Democratic leadership $2 trn over 10 years, taxes unlikely to
in Congress will be able to pass both bills by year end despite narrow margins in both be much of a growth drag
chambers. The Infrastructure Investment and Jobs Act or IIJA is expected to add around
$500bn of new spending during the next ten years. In addition, we assume that the final
version of the budget reconciliation bill will add around $1.5 to 2.0 trn of new spending
over the next decade. We expect the spending will contribute to growth through fiscal
multipliers of around 0.5 or more for direct government spending and transfers to
households through tax credits. The offsetting growth impact from the new taxes on
corporations and high income households should be modest, based on the historical
CBO multiplier assumptions of 0 to 0.35. Another source of fiscal thrust is an increase in
the annual budget of around $100 bn, which we assume will tilt towards non-defence
spending.
On the Treasury issuance side, net duration issued to the private sector in 2022 will likely
fall by around 14% relative to the 2021 levels despite the reduction in Fed asset
purchases. This is because issuance of debt will likely come down in order to
accommodate a lower deficit which we forecast will decline from $2.7tn in 2021 to
$1.8tn in 2022.
Naturally, risks around fiscal negotiations are high. In a scenario in which none of the Drop in issuance exceeds the drop in
bills are passed, we probably would reduce our 2022 GDP growth forecast by 1 Fed purchases
percentage point. Monthly job growth likely would decline by 70-100k relative to the
baseline. On the issuance side, the decline in duration would be exacerbated, shifting
from 14% to around 27%.
Finally, the mid-term elections in November of next year will likely be a key market event Mid-terms could end unified
given the possibility of a constrained Biden administration during the second half of its government and revert back to an
term. Historically, first-term presidents have tended to lose seats in Congress after mid- austerity regime
term elections. Using the data since 1950, the President's party has lost 22 seats on
average in the House and three seats in the Senate. Today's 50-50 Senate and a House
with a low single-digit margin could easily change control if the historical trend is
realized. In a divided government, additional fiscal stimulus would be unlikely, and
coming to an agreement on upcoming fiscal cliffs would be difficult. The TCJA tax cuts
for individuals expire after 2025, but significant parts of the reconciliation bill such as the
Child Tax Credits could expire after 2022.

Figure 248: We expect net issuance of nominal Treasuries Figure 249: We expect duration supply of nominals to drop
to decline in 2022E by around $200bn or 11% relative to 20% in 2022E relative to 2021 as 7y and 20y tenors should
2021 see sharper cuts than the rest of the curve
Monthly net issuance of Treasuries by recipient, DV01 issued by Tsy net of rolldown by type of
3m avg $bn recipient, $mm 3m avg
125
300
200 75
100
25
0
07 09 10 12 13 15 16 18 19 21 22 -25
07 09 10 12 13 15 16 18 19 21 22
Total Private sector Federal Reserve
Private Fed
Source : Federal Reserve Bank of New York, US Treasury, UBS estimates. Note: Source : Federal Reserve Bank of New York, US Treasury, UBS estimates. Note:
Forecasts start in October 2021. Includes only fixed nominal bonds and notes. Forecasts start in October 2021. Includes only fixed nominal bonds and notes.
Figure 250: On average around 22 seats in the House have Figure 251: The fiscal deficit should normalize in 2022
been lost by the sitting President's party during midterm despite the upcoming fiscal packages
elections
20 House Losses by President's Party in Midterms 1950-2018 US Federal Government fiscal deficit as % of GDP
10
18
0
16
-10 14
-20 12
-30 10
-40 8
6
-50
4
-60
2
-70 0
1950
1954
1958
1962
1966
1970
1974
1978
1982
1986
1990
1994
1998
2002
2006
2010
2014
2018
Source : Brookings UBS. Blue bars show periods the President is from the Dem. Source : US Treasury, UBS. Note: Forecasts start in 2021.
party, and red bars represent the Rep. part.
Alternative Scenarios
In addition to our baseline, we analyze three scenarios that could impact the US We analyze three scenarios which
recovery. Each of the three highlights the unusual role the supply side of the economy is highlight the unique role that supply
playing in this recovery compared to history. Upside or downside for the economic is playing in the recovery
outlook rests importantly on expectations for supply chain disruptions easing and the
supply of labor moving up to satisfy the strong labor demand seen in abundant
openings. Asked what would accelerate the economic recovery, certainly diminished
supply constraints would be one answer.
In the first scenario we consider, a damaging, vaccine-resistant Covid wave derails the
reopening into services. One major implication of it is that the supply disruptions would
remain worse for longer. On the demand side, we expect services spending would fall
back to early 2021 levels and cause a 2% drop in growth during a three-quarter
recession. However, with the longer-lasting damage to the labor market via hysteresis,
the negative shock to labor force participation becomes more permanent. Indeed, we
would expect the inflationary pressures over the forecast horizon to mount more than in
the baseline projection. The Fed would extend asset purchases to last another quarter at
the signs of economic retrenchment, but with overall higher inflation it would likely lead
toward interest rate increases as soon as the recovery is in sight. Our simulations suggest
that would likely shift rate lift-off earlier to mid-2023. Modest additional fiscal stimulus

might help support demand, but multipliers would be attenuated somewhat by social A vaccine-resistant Covid variation
distancing. would be inflationary as it would
prolong the negative supply shock
We think another negative scenario to consider is higher inflation for longer, 1pp above
our baseline. It motivates our concern for the Fed's bimodal lift-off distribution. Higher Persistent inflation could lead to 8
inflation would cut into both real income growth and real spending, and leave growth hikes per year
cumulatively lower by around 2pp vs. our baseline through end-2023. We think the Fed
would increase rates in mid-2022, as soon as the unemployment rate was around
NAIRU, fulfilling the full-employment forward guidance. In addition to a faster lift-off,
we think the pace of hikes could be around 2pp a year rising to 3% in this scenario as the
Fed would need to go moderately above neutral to bring inflation down. Recall the flat
Phillips curve works both ways. Combatting higher inflation could be difficult.
Lastly, we consider a positive growth scenario – an environment where both pent-up Stronger growth with low inflation
spending exceeds our baseline view and the supply shock is more positive. This would not push the Fed to a more
accelerated recovery would front load the growth in the recovery and cumulatively add hawkish stance relative to our
another 0.5pp in the first two years. In this scenario, we also assume a larger-than- baseline
currently-agreed-to fiscal package, but overall whether from fiscal support or pent-up
savings, we assume a stronger consumption path that is accompanied by a more positive
labor supply and employment response. In this scenario, participation exceeds the highs
of recent cycles and is accompanied by higher productivity, as firms hold onto the gains
seen in the recent data. Because much of the added growth is facilitated by the supply
response, we assume it is not more inflationary than our baseline projection. As a result,
that roughly similar low inflation path allows the Fed to stay on hold and have a similar
lift-off as our baseline despite more spending and stronger aggregate demand.
Figure 252: Growth (QoQ a.r.) by scenario Figure 253: The potential spend down of pandemic savings
is an upside scenario
Cumul. $ from Feb-20 3MMA ($ bn)

Baseline Mutant Virus 3,000 2,576 Feb-2020-Present
10 Shift higher in inf. Accel. Recov. 2,500 2,200 2021
2,000
1,500 1,149
5 931
1,000 670 570
414
500 235
0 -
Personal Govt Social Inc. Ex Govt Goods
Savings Benefits Benefits
-5
Source : UBS Source : BEA, UBS

USA
2016 2017 2018 2019 2020 2021E 2022E 2023E

Economic Activity and Employment
GDP, local currency bn 18695 19480 20527 21373 20894 22881 24420 25815
GDP, USD bn 18695 19480 20527 21373 20894 22881 24420 25815
GDP per capita, USD 57846 59897 62784 65056 63285 69015 73121 76671
Real GDP growth, % 1.7 2.3 2.9 2.3 -3.4 5.5 4.2 3.0
Private consumption, % y/y 2.5 2.4 2.9 2.2 -3.8 8.0 4.3 2.7
Government consumption, % y/y 2.0 0.5 1.4 2.2 2.5 0.7 2.1 1.7
Gross Fixed Capital formation, % y/y 2.1 4.1 4.8 3.2 -2.7 7.8 5.3 7.2
Exports, % y/y 0.4 4.1 2.8 -0.1 -13.6 3.5 6.1 6.4
Imports, % y/y 1.5 4.4 4.1 1.1 -8.9 13.2 9.6 7.8
Unemployment rate, % 4.9 4.4 3.9 3.7 8.1 5.4 4.0 3.6
Industrial Production (%) -2.2 1.3 3.2 -0.8 -7.2 5.5 3.4 2.3
Prices, interest rates and money
CPI inflation, % y/y (average) 1.3 2.1 2.4 1.8 1.2 4.6 4.2 1.4
CPI inflation, % y/y (year-end) 1.8 2.1 2.2 2.0 1.2 6.5 1.8 1.9
Broad money M2, % y/y (year-end) 7.0 4.8 3.7 6.6 24.6 15.0 8.0 6.0
Domestic private credit, %y/y 3.9 5.3 4.8 4.0 6.4 4.5 5.4 7.2
Domestic bank credit/GDP 58.2 58.4 57.4 58.3 65.1 62.3 61.6 62.5
Policy rate, % (year-end) 0.63 1.38 2.38 1.55 0.09 0.08 0.08 0.33
10 year bond yield, % (year-end) 2.49 2.40 2.69 1.92 0.93 1.80 2.10 2.25
EURUSD (year-end) 1.06 1.20 1.15 1.12 1.23 1.18 1.25 1.30
USDJPY (year-end) 116.8 112.7 109.7 109.2 103.3 113.0 105.0 100.0
Fiscal accounts
General government budget balance, % GDP -3.1 -3.5 -4.3 -4.8 -16.0 -12.2 -6.5 -4.4
Revenue, % GDP 17.3 17.2 16.2 16.4 16.4 18.5 18.6 18.6
Expenditure, % GDP 20.5 20.7 20.5 21.1 32.4 30.7 25.1 23.1
of which interest expenditure, % GDP 1.3 1.4 1.7 1.8 1.6 1.4 1.3 1.2
Primary balance, % GDP -1.8 -2.1 -2.6 -3.0 -14.4 -10.7 -5.3 -3.2
Public sector debt (gross),% GDP 75.8 75.3 76.7 78.6 100.6 104.0 104.0 102.8
of which domestic public debt, % GDP 75.8 75.3 76.7 78.6 100.6 104.0 104.0 102.8
of which external public debt,% GDP 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0
% domestic public debt held by non-residents 31.5 30.0 30.7 29.1 25.0 24.6 24.2 23.8
Public debt held by the central bank, % GDP 13.2 12.6 10.9 10.9 22.4 24.7 24.8 23.5
Balance of payments
Trade balance, USD bn -481 -513 -581 -576 -677 -865 -974 -1062
Exports, USD bn 2238 2391 2539 2528 2134 2450 2599 2754
Imports, USD bn 2720 2904 3120 3105 2811 3314 3573 3816
Current account balance, USD bn -398 -362 -438 -472 -616 -793 -984 -1072
as % of GDP -2.1 -1.9 -2.1 -2.2 -2.9 -3.5 -4.0 -4.2
Foreign direct investment (net), USD bn -175 29 -344 -180 100 100 100 100
Total FX reserves, USD bn 39.0 42.8 41.9 41.5 44.5 44.5 44.5 44.5
Foreign exchange reserves excl gold, USD bn 28.0 31.7 30.9 30.5 33.5 33.5 33.5 33.5
Total FX reserves, % GDP 0.2 0.2 0.2 0.2 0.2 0.2 0.2 0.2
Total external debt, % GDP 96.4 97.6 95.8 96.4 102.2 102.2 102.2 102.2
Net International Investment Position, % GDP -43.5 -39.4 -47.2 -52.6 -67.1 -67.1 -67.1 -67.1
Source : Haver, National Statistics, UBS forecasts.

Canada
Canada's economy is healthier than the US under several metrics: higher vaccination
rates, prime-age labor supply above pre-pandemic levels, and a more positive impact
from higher oil prices than for the US.
Even if inflation comes down close to 2% next year as we expect, it is likely that the
Bank of Canada (BoC) would still hike rates in 2022. This contrasts with the Fed
which we expect would hold off on raising rates if inflation falls below target. The
difference between both central banks is their framework. The BoC only needs
economic slack to be absorbed before hiking. The Fed needs full employment,
inflation at 2%, and inflation expected to be above 2% for some time. The bar for
Fed hikes is much higher than for BoC increases in the overnight rate.
The Canadian economy in 2022

The Canadian economy is on track to achieve a 4.7% GDP growth (Q4/Q4) during a year Canada's GDP likely reached pre-
in which it still had severe lock-downs. Real GDP likely surpassed pre-pandemic levels in pandemic levels in in Q3 2021
Q3 2021, only one quarter after the US did despite a slower initial penetration of
vaccines and a major lock-down during Q2 which did not happen in the US where
mobility restrictions were drastically eased.
In addition, the healing of the labor market has been more profound than in the US. The Canada's employment recovery has
unemployment rate in September stood at 6.9%, 120bp higher than its level in February been faster than in the US
2020. In the US there is a similar situation with the unemployment rate at 4.8% in
September, 130bp higher than the pre-pandemic level. However, the underlying details
of the labor market are very different. Employment in Canada is already at the level it
had in early 2020, 19.1 million jobs. If we take into account population growth, the
shortfall of employment is only around 200,000 jobs or 1% of employment. We expect
this gap will be filled some time in Q1 of next year. In the US, the employment level is
down 5.1 million jobs relative to early 2020. Taking into account population growth, the
gap is probably around 7 million jobs or 4.5% of current employment. Under our current
forecasts, that gap is only filled in Q2 or Q3 of 2023, five or six quarters later than in
Canada.
Why has Canada’s labor supply outperformed its southern neighbour's participation Canada's vaccination rate is among
and employment? It is difficult to identify precisely but the success of its vaccination the highest in the world
program is likely one reason behind it. In Canada, around three quarters of the
population is fully vaccinated while in the US only around 60% is. Canada is at the top of
the rank of vaccination penetration among DM countries. The US is at the bottom. This
has probably allowed Canada's services employment to recover fairly fast. It should
reach pre-pandemic levels in Q4 of this year while in the US the shortfall is still over three
million jobs.
The strength of the labor market suggests that there is lower risk that there will be a There is little room for labor supply
slowdown of wage pressures in the near term as labor supply is at or close to capacity. In upside in Canada
the US there is still a risk of a major reduction in upward wage pressures next year as the
3.5 million people that have remained on the sidelines relative to early 2020, rejoin the
labor market. In Canada, it will be difficult to see a large positive labor supply shock.
The other positive driver behind the strength of the Canadian economy has been the Sources of growth in Canada suggest
move higher in oil prices. This is likely one of the reasons that gross fixed capital a more sustainable path
formation has been a major driver of growth. We expect that in 2021 it will contribute to
around 40% to domestic demand growth. In the US, this contribution is likely to be only
15% as private consumption has been the main factor behind GDP growth. We expect
that in 2022, the strength of Canada's investment will continue. In general, the sources
of growth of Canada have the potential to be more sustainable than in the US.

The outlook for monetary and fiscal policy
As expected, the BoC announced in October the start of the reinvestment phase of its We expect balance sheet runoff to
asset purchase program, ending quantitative easing. The next important milestone on start in early 2023
the balance sheet will be the start of the runoff. We expect that over the coming
quarters the BoC will argue that there is still some time before that decision. Governor
Macklem already said in prepared remarks that the reinvestment phase will last "for a
period of time," at least until the first hike. We expect runoff to start during the first half
of 2023, likely on the earlier side.
In line with our expectations, the BoC moved forward the time at which it expects the We expect the first hike by the BoC in
conditions for the first hike will be met. The previous timing was in the second half of April of next year
2022 while the current one is "sometime in the middle quarters of 2022." This increases
our confidence that the first hike will be delivered at the April meeting. We then expect
two more hikes in 2022, and three more in 2023. We think that one of the meetings
with a Monetary Policy Report in 2023, likely the January one, will be used by the BoC to
start the balance sheet runoff.
The characterization of inflation by the BoC was incrementally hawkish in October. It We expect BoC hikes even if inflation
now argues that the inflationary pressures related to high energy prices and supply falls below target
bottlenecks are stronger and more persistent than expected. It also revised upward its
headline inflation forecast for the end of the year from 3.5% to 4.8% (Q4/Q4) and
revised upward only slightly the 2022 projection to 2.1%. We expect a similar 2021
number, but we project inflation to end 2022 below 2.0%. In our view, the BoC will start
the hiking cycle despite low inflation given that economic slack is likely to be absorbed
soon such that the low inflation will be perceived as temporary. This is a difference with
the Fed which requires inflation to be at 2% or higher at the time of the first hike.
On the fiscal side, Prime Minister Trudeau promised during his campaign new spending The BoC would likely lean against
of up to C$78bn or 3.1% of GDP. In our view, given how far along the recovery the further fiscal expansion
Canadian economy is, the BoC would likely lean against this fiscal expansion by
tightening monetary policy further. This is one of the reasons we expect a continued
hiking cycle through the end of 2023 despite our view that inflation will fall materially.
BoC likely hawkish under most scenarios

We think that the BoC would be fairly hawkish under most scenarios. For example, if The BoC's framework implies that if
there is a structurally higher shift in inflation, the BoC's reaction would unequivocally be inflation is low and the economy is
towards raising rates given the strength of the labor market. In addition, if we get a strong, it would hike rates
scenario with accelerated growth and a decline in inflation to below target, the BoC
would still likely move ahead with higher rates given that under its framework, the
hiking cycle should continue if the economy is at capacity.
The scenario that could be dovish for Canada is one in which there is a mutant virus. It is If a vaccine-resistant virus hits the
likely that we would see aggressive mobility restrictions being imposed, likely tougher Canadian economy, the hiking cycle
than in the US. This would prevent the start of the hiking cycle from materializing next would likely be delayed
year given the expected rise in the unemployment rate under that scenario.
Figure 254: Our forecasts of the Canadian economy under different scenarios
Real GDP growth q4/q4, % Unemployment rate, % eop
2022 2023 2022 2023
Baseline 5.8 3.5 5.6 4.9
Scenario 1: Mutant virus 2.3 1.8 7.8 5.7
Scenario 2: Structural shift higher in inflation 5.8 2.8 5.7 5.3
Scenario 3: Accelerated recovery 7.2 2.5 5.1 4.9
Policy rate, % eop
2022 2023
Baseline 1.00 1.75
Scenario 1: Mutant virus 0.25 1.00
Scenario 2: Structural shift higher in inflation 1.50 2.50
Scenario 3: Accelerated recovery 1.50 3.00
Source : UBS

Figure 255: Participation in Canada is already at pre- Figure 256: We expect the unemployment rate to reach
pandemic levels pre-pandemic levels towards middle of next year
64 Labor force participation rate, % 66 Canada's unemployment rate, %

63 65 16.0
62 64 14.0
12.0
61 63
10.0
60 USA 62 8.0
59 Canada, rhs 61 6.0
58 60 4.0
2.0
57 59
Ma…
Jan…
Ma…
Ma…
No…
Jan…
Ma…
Se…
Se…
Jul-…
Jul-…
0.0
Jan-19
Jan-20
Jan-21
Jan-22
Jan-23
May-19
Sep-19
May-20
Sep-20
May-21
Sep-21
May-22
Sep-22
May-23
Sep-23
Source : BLS, Statistics Canada, UBS Source : Statistics Canada, UBS
Figure 257: The share of labor in the goods sector has Figure 258: Inflation expectations have risen
normalized suggesting a healthy labor market
Goods employment as a % of total employment 100 BoC Business Outlook Survey, % of respondents that expect
90 inflation above 2%
22.000
80
21.500 70
60
21.000 50
40
20.500
30
20.000 20
10
19.500 0
1Q07
4Q07
3Q08
2Q09
1Q10
4Q10
3Q11
2Q12
1Q13
4Q13
3Q14
2Q15
1Q16
4Q16
3Q17
2Q18
1Q19
4Q19
3Q20
2Q21
19.000
Jul-19
Jan-20
Jul-20
Jan-21
Jan-19
Nov-19
Nov-20
Mar-21
Jul-21
Mar-19
May-19
Mar-20
May-20
May-21
Sep-19
Sep-20
Sep-21
Source : Statistics Canada, UBS Source : BoC
Figure 259: Businesses see tail risk inflation as a major risk Figure 260: Canada's vaccination penetration is the highest
among DM countries
50 BoC Business Outlook Survey, % of respondents that expect % population vaccinated among DM countries
45 inflation above 3% 80
40 75
35
30 70
25 65
20
15 60
10 55
5
50
0
1Q07
3Q08
2Q09
4Q10
2Q12
4Q13
3Q14
1Q16
3Q17
1Q19
4Q19
2Q21
4Q07
1Q10
3Q11
1Q13
2Q15
4Q16
2Q18
3Q20
Source : BoC Source : Our World in Data, UBS. Note: chart shows total does administered divided
by 2; we have stripped out boosters.

Canada
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 1528 1649 1721 1742 1643 2027 2313 2480
Real GDP growth, % 1.0 3.0 2.4 1.9 -5.3 5.3 5.8 3.5
Gross Fixed Capital formation, % y/y -5.5 2.7 1.3 0.2 -5.4 12.0 9.3 4.8
Exports, % y/y 1.4 1.4 3.7 1.3 -10.0 2.3 6.4 4.1
Imports, % y/y 0.1 4.6 3.4 0.4 -11.2 7.8 8.0 3.7
Industrial Production (%) 0.1 3.7 3.7 -0.2 -8.3 2.5 5.5 3.0
USDCAD (year-end) 1.34 1.25 1.36 1.30 1.27 1.20 1.18 1.15
Fiscal accounts
General government budget balance, % GDP -0.1 -0.1 0.5 0.1 -10.0 -6.2 -5.0 -0.1
Revenue, % GDP 14.5 14.6 15.1 15.2 15.3 14.2 13.7 13.7
Expenditure, % GDP 14.6 14.7 14.7 15.2 25.2 20.3 18.7 13.8
Primary balance, % GDP 1.0 0.9 1.5 1.1 -9.0 -5.1 -3.7 1.3
of which external public debt,% GDP n/a n/a n/a n/a n/a n/a n/a n/a
Balance of payments
Trade balance, USD bn -19 -19 -15 -12 -28 -22 -6 2
Exports, USD bn 394 424 453 451 391 403 420 435
Imports, USD bn 413 443 469 462 418 425 426 433
Current account balance, USD bn -47 -46 -40 -36 -32 -15 0 17
as % of GDP -3.1 -2.8 -2.3 -2.1 -1.9 -0.6 0.0 0.6
Foreign direct investment (net), USD bn 45 33 56 60 35 66 76 85

Rafael De La Fuente
Economist
rafael.delafuente@ubs.com
+1-203-719 7127
Alexandre de Ázara
Economist
alexandre.azara@ubs.com
+55 11 2767 6570
Fabio Ramos
Economist
fabio.ramos@ubs.com
+55-11-2767 6525
Andrea Casaverde
Economist
andrea.casaverde@ubs.com
+1-203-713 2515
Rodrigo Martins
Economist
rodrigo.martins@ubs.com
+55 11 2767 6331
Latin America

Pivotal Questions Q: Can Latin America sustain its strong recovery?

The rebound from last year’s COVID recession has been stronger than expected, with the region
outperforming global growth for the first time in almost a decade. However, we doubt this
momentum is sustainable. Beyond the prospect for tighter financial conditions, less fiscal stimulus,
slower global trade growth, and lower commodity prices, the region must contend with a dearth of
investment, itself a byproduct of concerns about fiscal sustainability and the direction of economic
policy more broadly.
Q: Can the region get its fiscal house in order?

Countries in the region that provided sizeable COVID-related fiscal stimulus are finding it politically
difficult to roll it back despite the rebound in activity. For some, this puts their debt sustainability at
risk (Brazil, Colombia, Argentina), whereas for others, it may be leading to overheating of the
economy (Chile). Unfortunately, this is happening against a backdrop of rising social demands for
enhanced welfare services and an electoral cycle that could tilt to populist candidates.
Q: Is the surge in inflation different than in DM?

Beyond the high weight of food in regional CPIs and some idiosyncratic price pressures (e.g.
droughts), the rise in Latam’s inflation is not dissimilar to that of DMs: it responds to a global energy
and food shock; supply-chain bottlenecks hitting goods markets; and services reopening. We expect
these shocks to subside in the course of 2022.
Q: How far will central banks be willing to raise rates?

Central banks in Latam have all started to raise interest rates, some of them aggressively (Brazil has
already delivered 575bps of hikes). Unlike DMs, inflation is not rising from a prolonged period of
underperformance and the inflation expectations channel is critical, especially in countries with
indexation. Moreover, monetary policy is having to counterbalance fiscal concerns. While we see
Brazil doing “whatever it takes” to anchor inflation, taking the Selic to 11.50% in Q1’22, other
central banks should be more hesitant to take rates above neutral, on account of the output gap and
Fed rate hikes still quarters away.
UBS VIEW While the recovery from the COVID recession has been more pronounced than anticipated, we
expect the region to return to sub-trend growth in 2022-23, underperforming global growth once
more. Inflation in the region should subside in the course of 2022 provided global supply bottlenecks
and energy prices start to ease. Central banks should continue to raise rates ahead of their DM
counterparts, but not all will take them above neutral. Latam currencies will face a less supportive
environment going forward. Regional elections will likely tilt left, but populist outcomes are a risk, not
a foregone conclusion.
EVIDENCE Despite some countries posting growth rates twice as large as their 2020 declines, there are signs of
slower growth at the margin, particularly in the larger economies of Brazil and Mexico. Moreover, the
engines of growth may be cooling, with commodity prices moderating, global trade slowing, and
fiscal and monetary stimulus ebbing. Brazil’s struggles with right-sizing its household stipends;
Colombia’s inability to approve a meaningful tax reform; Chile’s dwindling stabilization funds and
withdrawals from pension funds; Argentina’s increased spending in the face of 3% + monthly
inflation all point to the region’s difficulties in tightening fiscal policies and returning to fiscal stability.
WHAT´S PRICED IN? Although the samples are different, the IMF’s latest WEO has 3.0% growth for the region in 2022 vs
our 2.1% forecast (Brazil and Mexico at 1.5% and 4.0% vs our 1.2% and 2.6%). Across the board,
the market is pricing in more monetary tightening than what we have in our forecasts.
RISK Upside risks: no new pandemic strains; commodity prices remain supportive; elections do not yield
populist outcomes; and fiscal stability is both prized and respected. Downside risks: new pandemic
waves; inflation remains persistent; the Fed hikes earlier than expected; and the region turns more
populist after elections, with a loss of fiscal anchor.

LatAm
We see a return to sub-trend economic growth in 2022-23
Electoral cycle will test commitment to fiscal stability
On the face of it, Latin America has performed better than expected this year: the region A strong rebound in 2021, but
is poised to grow by 6.4%, much higher than our 3.6% forecast for 2021 a year ago, all unlikely to be sustained
but unwinding the historic decline in GDP suffered in 2020. If confirmed, this would be
the first year in the past decade that Latin America matches global growth, bringing to
an end a period of unprecedented underperformance. However, beyond the statistical
rebound embedded in this year’s growth, Latam’s economic recovery is proving uneven
across countries and sectors. More importantly, there is little indication that it will be
sustained. We are forecasting GDP growth for the region of 2.1% in 2022 and 2.2% in
2023, below trend once again and below our estimates for global growth.
Figure 261: Latin America vs World growth differential Figure 262: Vaccination rates in Latin America (% of
population)
Source : IMF, UBS estimates Source : UBS, UBS Evidence Lab
The region’s strong economic rebound in 2021 can be attributed to a number of factors. Stronger global growth, higher
First, the global recovery has also been shaper than expected, lifting global trade and commodity prices, accelerated
commodity prices, both net-positives for the region. Second, while the region was slow vaccination, and improved mobility
to vaccinate, it has picked up the pace in recent months: 60% of the Latam population have propelled the recovery.
has now received at least one dose of the COVID vaccine, not too dissimilar to DM, and
some countries, like Chile and Brazil, have been at the forefront of the vaccination drive
at the global level. With low vaccine hesitancy and vaccine supply improving, at the
current inoculation rate Latin America’s adult population could be fully vaccinated by
H1’22. Third, the marginal impact of successive COVID waves on mobility restrictions
has been coming down, given growing sociopolitical fatigue with lockdowns and the
fact that certain sectors have learnt to better cope with the pandemic.
Lastly, the region has benefitted from lax fiscal policy settings. True, the size of COVID- Lax fiscal policies have also
related assistance has been smaller than in 2020, but in some cases it has been larger contributed, but countries are
than the cycle merited, while in others it has been larger than concerns over fiscal finding it challenging to unwind
stability would dictate. The average debt-to-GDP ratio for the region (excluding fiscal stimulus despite concerns
Venezuela) is expected to fall to 56.6% this year from 62.7% in 2020, but still regarding the sustainability of public
substantially higher than in 2019 (52.2% of GDP). Moreover, part of the improvement in debt
this debt ratio is driven by high nominal GDP growth, a reflection of the statistical
rebound in real growth but also of a high deflator, factors that are both expected to
dissipate. Despite the improvement in activity, Chile and Colombia will run larger fiscal
deficits in 2021 than they did in 2020, the former continuing to expand its assistance to
households even with consumption running well above 2019 levels, while the latter had
to water down its fiscal reform and accommodate more social spending. In Brazil, the
government continues to cave in to demands to increase spending on social programs
and court-mandated precatorios above what the spending cap allows, questioning the
authorities' commitment to fiscal stability. Even Argentina, a country with a heavy
reliance on monetization to finance its deficit, has again turned on the fiscal spending
spigot ahead of the mid-term elections in November. Mexico remains the odd-country-
out in this fiscal picture, maintaining a tight rein on discretionary spending, but it too is
seeing upward expenditure pressure on entitlement programs and Pemex.

Figure 263: Fiscal deficit (% of GDP) Figure 264: Public debt (% of GDP)
Source : Haver, UBS estimates Source : Haver, UBS estimates
Despite some of the tailwinds described above, most economies in the region have lost The recovery is losing momentum;
momentum in the course of 2021 and are converging to lower growth. On the domestic dearth of investment the biggest
demand front, private consumption will be challenged by the need to realign fiscal impediment to sustainable higher
expenditures with debt stability going forward, and by the ongoing weakness in the growth in years to come
region’s labour markets, which are showing employment lagging the recovery, keeping
unemployment rates high in most cases despite a fall in labor participation. However, it is
investment that will likely put the biggest brake on the economy in our forecast period.
After rebounding by an estimated 16% in Latin America this year, we expect gross
capital formation to stall in 2022, posting a mere 0.2% expansion. Heightened political
uncertainty, a shift towards more populist policies, and concerns about fiscal
sustainability will keep the private sector sidelined, with notable declines in investment
in Brazil and Peru, by our estimates. Nor will the external sector offer much help. The
expected shift from goods to service consumption at a global level as the pandemic
recedes will likely weigh on global trade and on commodity prices as well.
Figure 265: Economic activity (sa, Sep'19-Feb'20=100) Figure 266: Total employment (sa, Sep'19-Feb'20)
All told, the region is looking at a lackluster recovery from the COVID crisis. Service Despite some sectorial catch-up, we
sectors that still have to play catch-up as mobility normalizes, such as the hospitality expect the region to deliver sub-
industry, will support higher growth, as will those sectors that have been impaired on trend growth in 2022-23
account of temporary supply shortages, such as autos. But once the dust settles, Latin
America looks poised to continue delivering sub-trend growth.
To complicate matters further, this is all happening against a backdrop of high inflation. Inflation shocks should recede, but
Not unlike its DM counterparts, Latin America is experiencing a series of simultaneous risks are skewed to the upside
inflation shocks, including higher food and energy prices (mostly imported, but in some
cases also responding to adverse local weather conditions); persistently high
merchandise goods prices, reflecting global supply bottlenecks; and rising service prices
as sectors reopen. If we exclude Argentina and Venezuela, two countries where inflation
is mostly driven by the monetization of fiscal deficits, inflation is poised to end 2021
above 7% this year, twice the YE’20 level. While we remain of the view that inflation in
most countries that adhere to inflation-targeting will peak by no later than H1’22 and

then recede towards their respective targets in our forecast horizon, we recognize that
there are risks to this call. For one thing, inflation in Latin America appears to be
widespread, with core inflation also trending higher. Also, unlike DM, Latin America is
not suffering these shocks following a prolonged period of inflation consistently
underperforming central bank targets. In addition, the inflation expectations channel
remains relevant for Latin America, particularly in countries with price indexation
mechanisms.
Figure 267: Headline CPI y-o-y, 5y interquartile range Figure 268: Latam headline and core CPI
Source : Haver, Bloomberg, UBS Source : Haver, UBS estimates. Note: GDP weighted average inflation for Brazil,
Chile, Colombia, Mexico and Peru
Given these risks, it is not surprising that all inflation targeters in our sample have now High, wide, and persistent inflation,
started to tighten monetary policy, ahead of most of their DM counterparts. However, narrowing output gaps, and fiscal
the pace of rate hikes and the reasons behind them varies across countries. In Brazil, the concerns have led Latin American
BCB has vowed to do “whatever it takes” not just to anchor inflation, but also to act as central banks to raise interest rates
counterweight to fears of fiscal instability embodied in the government’s continued ahead of their DM counterparts,
breach of the budgetary spending cap. We now see interest rates peaking in Brazil at albeit at different speeds
11.50% in Q1’22 and staying at those levels at least through the elections later in the
year. In Chile, the Central Bank has also accelerated the pace of hikes recently and it too
is expected to raise interest rates above neutral to 5.25% by 1Q'22, largely to dampen
the impact of excess stimulus coming from fiscal policy and pension fund withdrawals.
In other countries, the pace of rate hikes is likely to prove more gradual, either because
inflation pressures are only just emerging (Colombia) or because the output gap is still
large (Mexico). Some countries may also attempt to leave some policy space available for
when the Fed ultimately does start raising interest rates.
Just as countries are now having to roll back their fiscal and monetary stimulus, the A complicated political cycle in the
region will be entering into an election cycle in which rising social demands for increased region, with growing demands for
welfare services provided by the government are likely to figure prominently. These increased welfare services
demands were already rising in the region ahead of COVID, but the pandemic has likely
exacerbated them, given the rise in poverty levels and income inequality that Latin
America is witnessing in its wake. The difficulties faced by governments in the region in
taking away COVID-related programs point in this direction and raise further concerns
about how the region will be able to cope with growing spending demands at a time of
already elevated public debt levels. Brazil, Chile, and Colombia will all be holding
presidential elections over the next twelve months, with leftwing candidates leading the
polls (at least in the second round), potentially echoing the victory of Pedro Castillo in
Peru earlier this year. In Chile, the country is also redrafting its constitution.
This is not in itself grounds to predict that the region will adopt more populist policies as The region may be more willing to
a foregone conclusion. For instance, a potential return to the presidency by Lula da Silva reconsider some of the bastions of
in Brazil next year need not threaten fiscal stability, in our view. Moreover, it would be macroeconomic stability than at any
incorrect to describe the political forces in Latin America as moving unequivocally in the other time in the past 30 years
same direction: the recent Peronist defeat in the Argentine primaries ahead of the mid-
term election points to a more market-friendly Congressional make-up going forward.
However, we do think that the region is now willing to discuss and reform key pillars of
the macroeconomic architecture of the last thirty years, pillars that we think have made
critical contributions to macroeconomic stability. Chile’s likely adoption of a much more
social-minded Constitution and the progressive dismantling of its pension system are
cases in point; Mexico’s proposed constitutional reform on electricity is another.

Figure 269: Latinobarometro: Satisfaction with democracy Figure 270: Trade balance, 12m sum as % of GDP
Source : Latinomarometro, UBS Source : Haver, UBS
In terms of the outlook for FX, several factors that have been friendly for the currencies A less supportive environment for
of the region are set to deteriorate as we move into 2022. Trade balances have peaked in Latam currencies
the region, commodity prices are likely to consolidate at lower levels and the currencies
of the region are highly exposed to China's property sector headwinds. The tightening
of global financial conditions amid the Fed's taper is also set to make the road more
bumpy for the FX. Central Banks have begun adjusting the monetary space, but this has
failed to support the currencies, and with markets already pricing in a steep hiking path
for the next 12 months, further FX carry gains are challenging from here.
Figure 271: Key UBS Forecasts for Latin America
Real GDP Growth 2020 2021F 2022F 2023F Inflation (%, Dec y/y) 2020 2021F 2022F 2023F
Argentina -9.9 7.9 2.2 2.0 Argentina 36.1 50.7 55.4 38.5
Brazil -4.1 5.1 1.2 2.2 Brazil 4.5 9.2 4.0 3.3
Chile -5.8 10.7 2.3 1.3 Chile 3.0 5.9 3.8 3.6
Colombia -6.8 9.1 3.7 3.4 Colombia 1.6 4.9 3.7 3.2
Mexico -8.3 5.3 2.6 2.0 Mexico 3.2 6.7 3.7 3.5
Peru -11.0 12.6 2.4 2.0 Peru 2.0 5.5 2.9 2.5
Venezuela -12.0 -1.0 4.0 5.0 Venezuela 2960 1000 900 500
Latam -6.8 6.4 2.1 2.2 Latam ex Ven 7.3 12.5 9.8 7.4
LatAm ex Ven -6.7 6.6 2.1 2.2 Latam ex Arg and Ven 3.5 7.5 3.8 3.3
Current acc. (% of GDP) 2020 2021F 2022F 2023F Fiscal balance (% of GDP) 2020 2021F 2022F 2023F
Argentina 0.9 0.8 0.4 -0.1 Argentina -8.3 -5.5 -4.9 -3.5
Brazil -0.9 -0.9 -1.0 -1.5 Brazil -13.6 -6.2 -6.6 -6.8
Chile 1.4 -2.3 -3.0 -2.2 Chile -7.3 -7.9 -4.0 -4.2
Colombia -3.6 -4.9 -4.6 -4.2 Colombia -7.8 -8.6 -7.0 -5.2
Mexico 2.4 0.4 0.1 -0.4 Mexico -2.9 -2.7 -3.2 -3.4
Peru 0.8 -1.2 -0.4 -0.7 Peru -8.9 -3.9 -3.9 -3.7
Venezuela -5.2 -1.8 3.5 1.8 Venezuela -10.0 -9.0 -8.0 -7.0
Latam 0.3 -0.8 -0.9 -1.2 Latam -8.8 -5.3 -5.1 -5.0
Latam ex Ven 0.3 -0.8 -0.9 -1.2 Latam ex Ven -8.8 -5.2 -5.1 -5.0
FX lc/US$ (yr end) 2020 2021F 2022F 2023F Policy rate (yr end) 2020 2021F 2022F 2023F
Argentina 83 102 165 220 Argentina 38.00 38.00 50.00 50.00
Brazil 5.20 5.80 5.80 5.20 Brazil 2.00 9.25 11.50 6.50
Chile 711 815 835 845 Chile 0.50 3.75 5.25 5.25
Colombia 3433 3770 3800 3800 Colombia 1.75 3.00 5.00 5.50
Mexico 19.9 20.0 21.0 21.5 Mexico 4.25 5.75 6.25 6.75
Peru 3.62 3.90 3.90 3.90 Peru 0.25 2.00 3.25 3.75
Venezuela */ 1,107,198 10.0 105.0 840.0 Venezuela NA NA NA NA
Source : Haver, UBS estimates. */ Data from 2021 onwards is expressed in the new currency Bolivar Digital, which removed six zeroes from the former VES.

Argentina
A large devaluation appears inevitable
A new IMF agreement is our base scenario, but watch political developments
The economic recovery has been sharper than anticipated in the first eight months of A stronger than anticipated
2021. GDP grew by 10.8% y-o-y in that period, led in particular by the manufacturing economic recovery in 2021...
and construction sectors. In manufacturing, the food processing industry benefitted
from a strong grain harvest. The gradual relaxation of restrictions to commerce activities
(with more non-essential categories allowed to reopen when compared to 2020) also
gave support to industrial production from domestic demand. In the case of
construction, the execution of postponed projects from last year and growing demand
from individuals and corporates willing to preserve the value of their peso savings in a
context of capital controls, explain the positive outcome. By contrast, sectors with a
slower recovery were services, entertainment and similar, on account of mobility
restrictions in place until late May and the less favorable consumption conditions in the
first part of the year (higher inflation and a slow recovery in labor income). All told, the
better than expected recovery so far this year led us to revise our GDP growth estimate
higher to 7.9% in 2021.
The external accounts have also showed a marked improvement in 2021, on the back of ...coupled with a meaningful
a strong harvest, a jump in soy prices, and constrained imports. The capital account was improvement in Argentina's external
also helped by the postponement of debt repayments to the Paris Club. In the and fiscal accounts
meantime, the fiscal accounts also showed better numbers, posting a primary deficit of
1.2% of GDP through Q3’21, much lower than budgeted and much lower than in the
same period of last year (4.7% of GDP deficit). Revenues were boosted by stronger than
anticipated economic activity, high export tax receipts, and one-off tax increases (such as
the extraordinary tax levied on large contributors). Spending, meanwhile, was kept in
check by reduced outlays on COVID-related programs and the change in indexation of
pensions to not just inflation but also wages.
However, we expect macroeconomic conditions to deteriorate quickly going forward. Unfortunately, macroeconomic
Economic activity started slowing in Q2’21 (GDP fell 1.4% q-o-q sa) and appears to have conditions likely to deteriorate from
slowed further in Q3. The bulk of the harvest sales is now behind us and the outlook for here
the upcoming harvest may be compromised by the potential occurrence of climatic
anomalies (e.g. la Nina). Q4 is seasonally a period of fiscal deterioration that will now be
exacerbated by the government’s decision to increase fiscal spending sharply (on
household stipends, transfers, and subsidies) following the Peronist political defeat in
the PASO primaries and ahead of the Nov 14 midterm elections.
This is all happening against a backdrop of rising inflation pressures (12m inflation is Inflation remains unanchored,
running at 52.5% but accelerated in Sep with a 3.5% monthly increase), increasing FX pressures are rising, and reserves
exchange rate dislocation (the spread between the official FX and parallel rates has are dwindling, amidst the
widened to 96%), and dwindling international reserves (the Central Bank has sold government's continued reliance on
around USD 700mn since Sep, with net international reserves now at a mere USD 6bn by monetization for financing of the
our estimates). In the face of these growing imbalances, the authorities have opted for fiscal deficit
tightening capital and price controls (witness the recent freeze of 1400 prices through
Jan-22). With the fiscal deficit likely to increase once more and the government still
relying heavily on monetization to finance the deficit, these pressures are all likely to
worsen, particularly when one considers that the Central Bank sterilization efforts, in the
shape of Leliqs and repos, already represent 150% of the monetary base.
In this environment, we think a large devaluation is inevitable, and we are pencilling in a A large devaluation seems
move for ARSUSD from 102 in YE’21 to 165 in YE’22. How orderly this devaluation is inevitable. A new IMF agreement
and whether it can be reconciled with lower inflation and shrinking fiscal deficits in the remains our base scenario, but we
future may well depend on whether Argentina manages to reach a new IMF agreement. see political risks around it
Time is of the essence on this front, as Argentina, even with the recent release of SDRs
by the IMF, will find it hard to pay the USD 3.4bn coming due before Mar'22, at which
point Paris Club payments will also kick in. Despite Argentina's demands for a longer
program than the IMF's traditional EFFs and lower surcharges on interest paid, we think
both sides will want to reach a deal: failure to do so would cut Argentina from essential
financing by other IFIs, while leaving the IMF with its biggest debtor in default. Still,
further political infighting within the governing coalition as we saw after the PASO
primaries could threaten the authorities' ability to strike a new deal.

Argentina
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 604 636 523 446 386 484 532 521
Real GDP growth, % -2.1 2.8 -2.6 -2.0 -9.9 7.9 2.2 2.0
Private consumption, % y/y -0.8 4.0 -2.2 -7.3 -13.8 7.5 3.2 2.0
Government consumption, % y/y -0.5 2.7 -1.7 -1.2 -3.3 3.0 3.0 3.0
Gross Fixed Capital formation, % y/y -5.8 12.0 -6.0 -15.9 -12.9 29.3 2.2 2.0
Exports, % y/y 5.3 1.7 0.5 9.1 -17.3 3.1 3.5 3.0
Imports, % y/y 5.8 15.3 -4.5 -19.0 -17.9 13.5 2.7 2.0
Industrial Production (%) -4.5 2.5 -5.0 -6.3 -7.5 14.0 4.0 2.5
Policy rate, % (year-end) 1/ 24.75 28.75 59.25 55.00 38.00 38.00 50.00 50.00
10 year bond yield, % (year-end) NA NA NA NA NA NA NA NA
USD/ARS (year-end) 15.8 17.7 37.9 59.9 82.6 102.0 165.0 220.0
Fiscal accounts
Revenue, % GDP 21.8 20.1 18.0 17.6 17.6 18.0 18.2 18.3
Expenditure, % GDP 26.2 25.5 23.0 21.2 26.0 23.5 23.1 21.7
Public sector debt (gross),% GDP 2/ 54.1 55.0 86.0 88.7 100.9 77.4 80.3 76.7
Balance of payments
Trade balance, USD bn 2 -8 -4 16 13 12 11 9
Exports, USD bn 58 59 62 65 55 71 73 74
Imports, USD bn 56 67 65 49 42 59 61 65
Current account balance, USD bn -15 -31 -28 -4 3 4 2 0
as % of GDP -2.7 -4.8 -5.3 -0.8 0.9 0.8 0.4 -0.1
Net International Investment Position, % GDP 8.6 2.7 12.8 27.0 26.1 25.3 24.9 25.0
Source : BCRA, Haver, IMF, National Statistics, UBS forecasts. 1/ For 2002-2016 35d peso Lebac rate. For 2017 onwards BCRA benchmark policy rate. 2/ National public
sector.

Brazil
Fiscal uncertainty and elections will dominate next year's outlook.
We expect low but not negative growth.
Interest rates are above neutral and the BCB is committed to target 2022 inflation at
least until the March meeting. After that it switches to 2023.
The next presidency will need to maintain fiscal responsibility to ensure lower rates, a
stronger currency and growth after next year.
Next year is all about fiscal

2020 and 2021 growth and fiscal retrospective... or how we got here uncertainty and elections. BCB will be
After the start of the pandemic, the Brazilian economy in 2020 suffered one of the vigilant and do whatever it takes to
smallest GDP impacts in Latin America, while government expenditures related to keep 2022 inflation on target.
COVID reached ~R$700bn that year (9.4% of GDP). Also, Brazil had among the lowest
employment reductions in the region, as discussed in the main LatAm section. In 2021,
during the second wave of the pandemic, Brazil had much better GDP growth and
employment. Data released in May prompted us to raise our GDP forecast from an initial
3% (equal to 0.5% YoY growth at the end of the year) to 4.5% (see March IBC-Br:
Stronger 2021), then to 5.8% in mid-June. Soon after, we tweaked our forecast to
5.5%.
However, recent events have increased fiscal uncertainty, causing us to lower our
forecast to 5.1% for 2021 (see The Good, the Bad and the Ugly). If the fiscal outlook
worsens or if there are events that further increase uncertainty, we may lower our
forecast again for 2021 and 2022. Despite some initial controversy about the budget
and the need to spend an extra ~R$100bn (outside of the spending cap) due to the
pandemic, fiscal responsibility has been maintained (see Stable debt dynamics is the
most likely scenario).
Vaccinations have been much better than anticipated, with Brazilians' high adherence to
vaccines helping to normalize economic behaviour by September (see first and second
COVID reports). Overall, if not for the increased uncertainty about the government's
fiscal plans, Brazil might have had even better growth prospects for 2021 and 2022.
However, the news points to at least R$400 for the new Bolsa Familia and discussions
about how to treat judiciary decisions and the impact on the spending cap.
In terms of inflation, it has been much higher than anticipated in 2021, with a bigger
inflation surprise than in 2015-16, when Brazil experienced similar 12-month inflation
above 10% (see charts at the end of the section). We expect YoY inflation to start falling
next month and believe it will reach 4% by the end of 2022.
From partial normalization to "whatever it takes"

The Monetary Policy Committee (COPOM) has had a very busy year, and it is likely to
finish 2021 having raised policy rates the most in LatAm and in the world if our expected
150bp hike for December is confirmed. That would bring Selic to 9.25% from 2% at the
beginning of the year (+725bps). Until May, the COPOM was expecting to deliver partial
normalization, setting the rate lower than the 6.5-7.0% neutral range. After the news
of much larger judiciary decision-based expenditures for next year and continuously
higher inflation, it signalled a 2021 neutral rate strategy, keeping the 75bp pace but
increasing the terminal rate. That lasted for only one meeting. By August, higher
inflation expectations prompted it to increase the pace to 100bps per meeting and
signal it would do "whatever it takes" to keep 2022 inflation in check (see Brazil pre-
COPOM: Whatever it takes). It shifted strategy due to increased market uncertainty
regarding the fiscal commitment, resulting in a faster pace of hikes and a higher
expected terminal rate.
We expect a 150bp hike in December, finishing 2021 at 9.25%. We then expect

COPOM to raise Selic in the following two meetings, by 150bps in February to 10.75%
and then 75bps in March, reaching 11.50% as the terminal rate. We believe the
Central Bank would have reduced the rate in 2022 if not for the elections. However, as
long as the next presidential administration maintains a prudent fiscal stance, we believe
COPOM can start to reduce the rate in 2023 in its first meeting, and we think it could
reach 6.5-7.0%, roughly in line with a neutral stance.

We expect 2022 growth to be weak but with no recession Next year's growth should be
We expect growth of 0.6% QoQ in Q321 and 0.5% QoQ in Q421. This growth profile weaker, but starting from a better
would result in a 5.1% forecast for the year. For next year, we expect quarterly rates of initial fiscal position.The debt
around 0% for the first three quarters, a recent and more negative expectation derived dynamics have worsened, but we are
from higher fiscal uncertainty and a subsequent increase in economic uncertainty. We far from Fiscal Dominance.
expect a resumption of growth in Q422. The risks are to the downside, and are quite
dependant on the fiscal arrangements to be agreed in Congress for next year by the end
of December. Increased expenditures can only happen before year-end as the budget
proposal and electoral law prevents expenditure increases in an election year.
Debt/GDP eased due to a high deflator and FX intervention

Notably, the fiscal position was better than expected in March and April. Improved tax FX could be weaker in H122 due to
collection and a high GDP deflator have done the trick in 2021 (see The Good, the Bad election uncertainty.
and the Ugly). We expect debt to GDP to also be lower next year because of the high
deflator. Another factor that has helped the debt-to-GDP dynamics has been
FX intervention. In 2021, the BCB has sold US$7bn by September, and we expect it to
sell at least US$3bn more this year. Next year, as electoral uncertainty is likely to stress
FX markets, we expect the central bank to sell US$30bn of its US$300bn reserves. We
now expect 2036 debt to GDP at 89.9% vs. 86.1% in the previous forecasts, even
though the 2021 starting point improved to 82.1% vs. 85.3%. Also, the forecast of the
average primary surplus for 2030-2040 has dropped to 0.3% from 0.4%. The
assumption is maintenance of the adjusted spending cap.
We forecast 5.8 for the BRL-USD exchange rate in 2021 and 2022
Our structural currency models suggest the FX equilibrium rate to be around 4.5-4.8
reais per US dollar. However, the risk premium and uncertainty are the dominant forces
in FX dynamics. Therefore, our best judgement is a small depreciation from the current
level, although we believe FX could be weaker by H122.
2022 elections: Bolsonaro vs. Lula seems to be the most likely scenario
Most polls suggest the main contenders for the Presidential election are President Our base case scenario is Bolsonaro
Bolsonaro and former President Lula. The most likely scenario as per current polls and vs. Lula in the second round.
the base case used in our forecast is for them both to reach the second round. The first
round will happen on 2 Oct and the second round (with only the top two
contenders) will be on 30 Oct. Although it is possible for another candidate to reach the
second round, it seems unlikely for the following two main reasons.
First, both the former and incumbent presidents are influential among their
constituencies and polls suggest they will probably have between 25-35% of the votes
in the first round. That opens up about 30-50% for a third-way candidate. However, the
third and fourth place candidates in recent polls are Sergio Moro (the former Justice
Minister and a judge who prosecuted and arrested former President Lula) and Ciro
Gomes (a left-wing former governor who finished third in the last election). They add up
to two-thirds of the non Lula-Bolsonaro pool. In other words, they are divided as well, so
even if there was only one candidate, the candidate would hardly offer a common
denominator among such a polarized electorate.
Second, the more candidates, the less likely there is to be a convergence. So far, we have Independent of the winner, fiscal
confirmed as preliminary candidates Senate President Rodrigo Pacheco (center-right responsibility will be a key focal
coalition), Sergio Moro (center candidate), Ciro Gomes (leftist candidate) and one point for markets.
candidate from PSDB (either the São Paulo or Rio Grande do Sul Governor). Those
candidates would compete for around 40% of the votes. Aug 5 is the deadline for
candidate enrolment in the 2022 elections.
Both Bolsonaro and Lula can present good or bad fiscal prospects
We anticipate a tight race in the election. There is no clear favourite, although Lula is
ahead in the latest polls. If policy under Bolsonaro turns more populist, the risk is higher
inflation, lower growth and a weaker currency, all emanating from increased uncertainty
regarding the fiscal dynamics. Those risks are greater before this year-end. Market
uncertainty around a Lula presidency could increase from March until August, when his
economic aides will become known.

Convergence in 2023: Neutral rate, lower inflation and stronger growth
We expect the policy rate to start declining in the first 2023 meeting and to reach
6.5% by the end of 2023, with inflation converging to the 3.25% target for the year,
resulting in a real interest rate of 3.25%, exactly the mid-point of our 3.0-3.5% neutral
range. GDP growth could return to around 2.25%. The BRL could appreciate in nominal
terms to 5.2, closer to the long-term equilibrium FX derived from models.
The key would be sounder fiscal policy, which we believe either of the likely presidential
candidates could adopt. Bolsonaro's incentive to do so is clear. There would possibly be
less need for populism after the election and the economy would perform better if
financial conditions eased. However, it may take until at least until March-April '23
before uncertainty truly subsides.
Lula's economic policy and choices were very different from the ones chosen by former
President Dilma Roussef. Lula was a critic of her economic policy, and he may not keep
the spending cap and could try to reform the constitutional amendment (although a
new rule would have to be proposed and written as a constitutional amendment). Or the
spending cap could simply remain. In any case, as his prior presidency showed, Lula is
capable of being pragmatic. Also, Congress will be more conservative and divided than it
was during the Lula or Dilma administrations. It is thus harder to foresee Brazil repeating
other Latin American populist episodes, and Brazil has stronger institutions that provide
some checks and balances.
The risk to 2022 and 2023 is if Bolsonaro refuses to be flexible in fiscal agreements or if
Lula does not appoint a credible economic minister. It is difficult to predict how the
market would react to those scenarios, but it seems reasonable to expect negative
growth if either is the case.
Other risks to our outlook

In our main global scenario, core inflation decelerates next year and the US Fed delays Alternative scenarios are related to 1)
the start of the normalization of interest rates until 2023. This would be positive for Resurgence of COVID, 2) Structurally
LatAm as a whole and is the scenario on which we base our assumptions. In an election higher inflation and 3) Faster-than-
year (2022), the most significant risk factors for the Brazilian economy are populist fiscal expected economic recovery.
proposals by the two main contenders, given how sensitive markets have been to that
historically. However, that is not the only risk:
The first risk scenario is another COVID mutation that puts pressure on the
government to reinstate lockdowns, while inflation remains resilient, with more
persistent disruption to the production of goods and faster FED hikes due to tighter
labor supply (see the 'Alternative Scenarios' section elsewhere in this Outlook). This
scenario is one of high inflation and recession, leading GDP to contract 0.7% (almost
2% weaker than in our base case), with CPI only 0.3% higher, at 4.3%, with a very
similar core. The GDP contraction and the inflation shock would largely net each other
out from the central bank's perspective. We assume the central bank would reduce Selic
to 9.5% after setting it at 11.5% in March.
The second scenario is structurally higher inflation, which would pull FED hikes
into 2022 and create currency weakness. In this environment, we have higher inflation
assumptions, with core at 4.9%. The BCB does not do additional hikes given how much
it has already done, and so the Selic base case is for it to stay at 11.5% until the end of
the year, with GDP slightly weaker, at 0.8%.
The third scenario is one of accelerated recovery without structurally higher

inflation kicking in. This environment would produce 1.9% growth next year, as the
central bank keeps Selic at 11.5% but takes more time to reduce it, although reaching
the same level at the end of 2023. Headline Inflation and core are a bit higher but not as
high as with structurally high inflation.

Figure 272: GDP level and forecasts Figure 273: Economic uncertainty and GDP
(Q419=100) (z-score)
Source : IBGE, UBS estimates Source : BCB, FGV, UBS
Figure 274: Uncertainty on election periods Figure 275: UBS and FOCUS survey inflation forecasts
(Index, 2006-15 avg. = 100)
Source : FGV, UBS Source : BCB, UBS estimates
Figure 276: UBS Inflation Surprise and Target Credibility Figure 277: Long term and short term expectations
indexes (YoY, ppts) (YoY, ppts)
Source : BCB, IBGE, UBS Source : BCB, IBGE, UBS

Figure 278: FOCUS survey inflation forecasts (%YoY) Figure 279: UBS and FOCUS survey Selic forecasts
(%YoY)
Source : BCB, UBS Source : BCB, UBS estimates
Figure 280: UBS and FOCUS survey GDP forecasts Figure 281: Real tax collections
(% YoY)
Source : BCB, UBS estimates Source : SRF, UBS
Figure 282: Gross public debt forecasts Figure 283: Gross public debt comparison
(% GDP) (% GDP)
Source : BCB, UBS estimates Source : BCB, UBS estimates as of 28 Oct, 2021.

Brazil
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 1800 2062 1885 1839 1423 1598 1640 1831
Real GDP growth, % -3.3 1.3 1.8 1.4 -4.1 5.1 1.2 2.2
Private consumption, % y/y -3.8 2.0 2.4 2.2 -5.6 3.5 1.4 2.7
Government consumption, % y/y 0.2 -0.7 0.8 -0.4 -4.7 0.3 2.0 1.2
Gross Fixed Capital formation, % y/y -12.1 -2.6 5.2 3.4 -1.1 14.4 -5.9 2.4
Exports, % y/y 0.9 4.9 4.1 -2.4 -1.8 9.0 2.1 2.0
Imports, % y/y -10.3 6.7 7.7 1.1 -10.1 11.6 -4.8 3.0
Domestic private credit, %y/y -5.1 2.3 9.3 9.3 15.6 11.7 11.0 7.5
USD/BRL (year-end) 3.26 3.31 3.87 4.03 5.20 5.80 5.80 5.20
Fiscal accounts
Revenue, % GDP 30.6 30.4 30.6 31.4 29.4 30.0 31.0 31.0
Expenditure, % GDP 39.6 38.3 37.7 37.3 42.7 36.2 37.6 37.8
Balance of payments
Trade balance, USD bn 48 67 58 47 51 80 90 70
Exports, USD bn 185 218 239 224 210 300 290 280
Imports, USD bn 138 151 181 177 159 220 200 210
as % of GDP -1.4 -1.1 -2.7 -3.5 -1.8 -0.9 -1.0 -1.5
Source : BCB, IBGE, IMF, Haver, National Statistics, UBS forecasts.

Chile
After a temporary boom (fuelled by fiscal stimulus and pension fund withdrawals) we
expect the Chilean economy to show a significant moderation through our forecast
horizon.
On the political front, presidential elections and the redrafting of the constitution will
remain a source of constant uncertainty through next year.
Chile faces a complex economic and political scenario. The economy is going through a The economy is going through a
consumption-led boom and running more than 8% above its pre-pandemic levels, amid boom, and risks for macroeconomic
record fiscal stimulus and Congress approval of three rounds of partial pension fund imbalances down the road have
withdrawals. As a consequence, this year GDP will likely grow around 11%, almost grown...
doubling the pace of decline in 2020. Soaring demand – in a context of domestic and
international supply restrictions – has led to a fast rise in consumer prices, adding to
pressures coming from the global rise in energy and agricultural prices. With inflation
likely approaching 6% by YE, a weakening peso (reflecting risks related to politics and
Congressional decisions), and growing risks of de-anchoring of price expectations, the
Central Bank has stepped in by switching to an aggressive tightening mode, hiking its
policy rate by 225bps since Jul, with more to come in the next months.
On the political front, Chile is immersed in two processes which imply potentially ...together with uncertainty around
sensible changes to the pillars of its institutional and economic model. First, general outcomes of key political processes
elections are due on Nov-21 and, although the race is still open, the odds for a such as elections and the redrafting
consolidation of victory for the left-wing political parties (following the result of the of the new Constitution
plebiscite for a constitutional overhaul and elections for members of the Constitutional
Convention) are relatively high, in our view. More importantly, the Constitutional
Convention is starting its work on redrafting the new Constitution, a process that will
extend through 1H’2022. While the final outcome of both processes is still unknown, it
is worth remembering that social demands and mistrust in the political representation
system were at the heart of the 2019 protests, which ultimately led to the start of the
Constitutional process. The stakes are high for the Constitutional Convention to channel
the broad dissatisfaction regarding the Chilean model. At the same time, the new
government will take office under rules of a political system that may potentially end up
being strikingly different once the new Carta Magna is finished and ready to be ratified
in a compulsory popular plebiscite in late 3Q'22.
We think that, if a left-wing option wins the presidential race, interactions between the
Convention and the new government will likely deepen the transformation of specific
aspects of the Chilean model, including: i/ the role of the state in the provision of public
services such as health and education; ii/ the pension system and its administration; iii/
the rules of natural resources exploitation; iv/ attributions of the legislative branch and
subnational governments in expenditure matters and budget elaboration; and v/
mechanisms of citizen participation in state-level decisions, among others. Conversely, if
a right-wing option obtains a victory, while markets may interpret this as a sign of relief,
we would not discard high levels of confrontation down the road between the new
government and the Convention, with the latter having the ultimate power to alter the
system of representation and government altogether.
In the midst of these unprecedented changes, how do we see the economy landing after We expect significant growth
the COVID shock? In our baseline, the economy shows a significant moderation and moderation and a weakened fiscal
grows below potential (2.3% and 1.3% in 2022 and 2023 respectively), on the back of: position through our forecast
i/ the withdrawal of fiscal stimulus and additional liquidity measures, ii/ uncertainty horizon
related to political processes affecting private spending and investment; and iii/
contractionary monetary policy hitting economic activity and the cost of credit by late
2022. We expect inflation to decline only gradually, staying close to 5% through 1H'22,
to then decline and reach 3.8% and 3.6% in YE22 and YE23, respectively. On the fiscal
front, the incoming administration will find significantly reduced fiscal space, as
sovereign funds are almost exhausted (currently at USD 2.4bn, versus USD 14.2bn in
2019), and the odds for higher public expenditure to accommodate social demands and
other obligations related to the new Constitution are high. In this context, we expect
greater scrutiny of credit rating agencies over Chile's commitment to fiscal
consolidation. The delicate equilibrium between delivering the promised social change
and preserving macroeconomic stability should put Chile's FX under pressure through
our forecast horizon: we expect the peso to be at 830 and 840 against the dollar in 2022
and 2023, respectively.

Chile
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 250 277 298 282 244 295 310 333
Real GDP growth, % 1.7 1.2 3.9 1.1 -5.8 10.7 2.3 1.3
Government consumption, % y/y 7.2 4.6 4.3 -0.3 -3.9 8.6 2.5 3.5
Gross Fixed Capital formation, % y/y -1.3 -3.1 4.8 4.2 -11.5 13.7 1.7 -2.0
Exports, % y/y 0.5 -1.5 5.0 -2.3 -1.0 0.6 2.9 1.8
Imports, % y/y 0.9 4.6 7.9 -2.3 -12.7 23.1 3.1 1.7
Industrial Production (%) -0.9 -1.2 3.5 -0.6 -1.0 2.3 1.8 1.1
USD/CLP (year-end) 667.3 615.2 695.7 744.6 711.2 780.0 835.0 845.0
Fiscal accounts
Revenue, % GDP 20.6 20.8 21.8 21.3 19.9 24.1 21.0 20.8
Expenditure, % GDP 23.4 23.6 23.5 24.1 27.2 32.2 25.0 25.0
Balance of payments
Exports, USD bn 61 69 75 69 73 94 92 93
Imports, USD bn 56 61 71 66 55 78 83 83
Current account balance, USD bn -5 -6 -11 -10 3 -7 -9 -7
as % of GDP -2.0 -2.3 -3.6 -3.7 1.4 -2.3 -3.0 -2.2
Foreign direct investment (net), USD bn 5 1 7 3 -3 1 2 2
Source : BCCh, INE, IMF, Haver, National Statistics, UBS forecasts.

Colombia
The economy is bouncing back from the COVID shock faster than anticipated.
However, the recovery is unequal, and has widened fiscal and external imbalances.
The electoral cycle will likely be a source of uncertainty through next year. Policy
challenges to be addressed by the new government include fiscal consolidation and
growth-enhancing reforms.
After posting a GDP decline of 7% in 2020, the Colombian economy is bouncing back at The economy is recovering faster
a faster pace than initially expected. Economic activity reached pre-pandemic levels in than anticipated. However, some
3Q'21, and will likely close this year with growth above 9%, mainly on account of imbalances constitute potential
household consumption strength. However, some aspects of the recovery show its sources of vulnerability down the
vulnerability: first, despite broader reopening amid fast vaccination, the rebound is road
unequal across sectors, and investment continues to lag behind other demand
components; similarly, employment growth is slower than that of the economy, taking
unemployment rates to decline only gradually despite the good news on the growth
front, and the fact that participation rates remain below pre-pandemic levels.
The COVID shock also widened Colombia's fiscal and external imbalances. Public debt
rose from 51% to 65% of GDP between 2019 and 2020. In addition – and as a
consequence of the policy decision to continue supporting the economy with fiscal
stimulus through 2021 – the fiscal deficit will likely be above 8% of GDP this year, a
record level for a second consecutive year. In May, the government's unsuccessful
attempt to pass a bill for a comprehensive tax reform triggered a series of downgrades
by credit rating agencies, which took Colombia's debt to non-investment grade
category. While a smaller and more modest-in-scope tax bill was approved a few months
shortly after the withdrawal of the first tax reform bill, closing the fiscal gap and
stabilizing public debt will still require a permanent rise in revenues of at least 0.6% of
GDP within the next two years. On the external front, challenges are also on the rise:
despite the rise of oil prices through 2021, the current account deficit is widening again,
and will likely reach 5% of GDP this year. The strength in imports amid a strong
economic recovery exceeds growth in exports, as oil production has stabilized at low
levels after years of decline in investment in exploration.
These important topics will be a source of debate through the electoral campaign season 2022 is an electoral year for
ahead of the May'22 general elections. While it is unclear whether Colombia can escape Colombia. Barring drastic changes in
the regional trend of growing polarization in political processes (see for instance the economic policies by the new
2021 elections in Peru and Chile), it is reasonable to expect electoral uncertainty to have administration, we see Colombia
some impact on private sector sentiment through the first half of next year. Taking it all growing at its potential in 2022 and
together – and assuming no drastic changes in economic policies by the new 2023
administration – we expect Colombia to grow at its potential rate through our forecast
horizon (3.7% and 3.4% in 2022 and 2023). On the inflation front, after reaching a
peak in 1Q'22, headline should gradually moderate as food prices and other shocks to
non-core items dissipate, returning to the CB's target range by YE22 (3.7%; 3.2% in
YE2023). Lastly, we see Banrep bringing the policy rate above neutrality by YE2022
(5.00%), responding to inflation pressures as the output gap continues to close through
the year. On the FX front, we expect the COP to remain stable at 3800 per USD through
our forecast horizon, considering the relatively wide external and fiscal gaps according
to our numbers, and the uncertainty around elections next year.
Regardless of who wins the presidential race, 2022 will be a year of pivotal decisions for
the Colombian economy. The new administration will need to discuss a comprehensive
tax reform to cover the fiscal gap and stabilize debt during its first year in office, as the
fiscal situation continues to be under scrutiny by markets and credit rating agencies. In
addition, the relaunch of an agenda of much needed growth-enhancing reforms could
show that, beyond political disagreements, Colombia's political class is still capable of
reaching broad-based consensus around economic policies, in contrast to other
countries in the Latin America region.

Colombia
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 283 312 333 323 272 307 328 349
Real GDP growth, % 2.0 1.6 2.7 3.3 -6.8 9.1 3.7 3.4
Exports, % y/y -0.2 2.6 0.8 3.1 -18.3 6.5 2.8 3.0
Imports, % y/y -3.5 1.0 5.8 7.3 -17.3 13.6 4.4 3.5
Industrial Production (%) 4.0 -0.6 2.1 1.7 -10.5 4.0 3.0 2.5
USD/COP (year-end) 3001 2984 3250 3277 3433 3770 3800 3800
Fiscal accounts
General government budget balance, % GDP 1/ -4.0 -3.7 -3.1 -2.5 -7.8 -8.6 -7.0 -5.2
Revenue, % GDP 14.9 15.7 15.1 16.2 15.2 16.1 16.2 16.7
Expenditure, % GDP 18.9 19.3 18.2 18.6 23.0 24.8 23.2 21.9
Primary balance, % GDP -1.1 -0.8 -0.3 0.4 -4.9 -5.3 -3.5 -2.0
Balance of payments
Exports, USD bn 34 40 44 41 32 39 41 41
Imports, USD bn 43 44 50 51 41 51 53 55
as % of GDP -4.3 -3.3 -3.9 -4.6 -3.6 -4.9 -4.6 -4.2
Source : Haver, National Statistics, UBS forecasts. 1 and 2/ refer to Central Govt

Mexico
The economy still playing catch-up, but lagging the recovery relative to Latam peers.
Proposed electricity reform is largest idiosyncratic risk to our baseline.
A lackluster economic recovery

The Mexican economy appears poised to grow by 5.3% this year, meaningfully higher Despite stronger-than-expected
than consensus expected a year ago (3.2%, according to the Nov’20 Banxico survey), growth, Mexico's recovery has thus
even after adjusting for the unexpected hit on GDP growth in Q3’21 from the far been subpar
outsourcing reform (a negative impact of over 1 percentage point in the next four
quarters that should dissipate over time). This speaks more about the market’s failure to
predict a statistical rebound in growth following one of the largest recessions in history
than it does about a fundamental strength in the Mexican economy. True, Mexico did
not implement the fiscal stimulus in the face of COVID that many other countries put in
place. But it is equally true that few countries enjoyed the external tailwinds coming
from the US recovery that Mexico has. In this regard, we think the fact that Mexico has
lagged the recovery in Latam is disappointing. By our estimates, the economy will not
return to 2019 levels until H2'22. The output gap, meanwhile, should remain in negative
territory until H2’23, by our numbers.
Sector reopening and US strength driving the recovery

The Mexican economy is undoubtedly benefiting from the strength of the US, both Contrary to popular belief, the post-
through higher exports and historically high remittances. But the taxonomy of Mexico’s COVID recovery owes more to the
recovery thus far does not support the view that it has been primarily export-led. In fact, reopening than to the strength of the
after an early boost, manufacturing exports have stalled on account of supply US economy
bottlenecks, with the shortage of microchips hitting Mexico’s auto sector particularly
hard. Instead, it is services that that have done much of the heavy lifting. The reopening
of the economy, partly a reflection of Mexico’s vaccination drive (which, despite now
having 78% of the adult population with at least one dose, has also lagged that of its
Latam peers) and social fatigue with mobility restrictions, has allowed services to play
catch-up in recent quarters. New COVID waves can take a toll on growth, as the Delta
strand showed in Q3’21, but their effect on activity is likely to be less pronounced than
earlier waves.
Looking ahead to 2022 and 2023, we expect the economy to grow by 2.6% and 2.0% Growth to remain above potential in
respectively, both above where we would estimate potential to be at this point (roughly 2022-23, but only because there will
1-1.5%). That’s because a number of sectors still have plenty of room to recover. Service still room for reopening catch-up
sectors such as lodging and restaurants and entertainment activities are still operating
some 20% below pre-crisis levels. Our forecasts may also prove too low if the chip
shortages are resolved earlier than expected, kicking auto production into a higher gear.
Still, once the economy converges in terms of opening, we think underlying growth will The dearth in private investment is
be below its historical average. The key reason for our projected fall in potential output is the Achilles' heel of the economy and
that private investment remains subdued. Although it is rising from its COVID crisis lows, the key reason why we see potential
at just 17.8% of GDP at present, and in the absence of a demographic dividend or a growth at no more than 1-1.5%.
surge in productivity, investment is too low to sustain economic growth above
population growth, by our estimates. Despite Mexico’s being well positioned to take
advantage of global trends such as nearshoring (thanks to its manufacturing base, its
trade treaties like USMCA, and of course, its proximity to the US), uncertainty over
economic policy has dampened investment interest in Mexico in recent years.
No major fiscal slippage in our forecast period

On the fiscal front, we do not expect major changes to the direction of policy under the Despite inertial spending pressures,
recently appointed new minister of Finance, Rogelio Ramirez de la O. The 2022 budget we think the government will stand
proposal currently being discussed by Congress appears anchored on President Lopez by its pledge for fiscal austerity, with
Obrador’s priorities: favoring expenditure on his preferred social programs and only a modest increase in the debt-
infrastructure projects, while keeping all other government spending constrained; to-GDP ratio in our forecast period
continuing to provide Pemex with financial support; and not raising taxes. Despite the
government now budgeting for a small primary deficit in 2022, we think the authorities
will remain committed to fiscal austerity. Nor are we concerned about the government's
2022 budgetary estimates: at 4.1% and 1.82mbd, economic growth and oil production
estimates may be too optimistic, but they will likely be compensated by an oil price
assumption (USD55pb on Mexican crude) that looks low. Moreover, the current
administration has demonstrated great willingness and ability to raise tax revenues by
widening the tax base and clamping down on tax evasion, to the point where these

gains should no longer be deemed as non-recurrent. While we recognize some of
Mexico’s fiscal weaknesses (a low tax take, depleted rainy day funds, and questionable
spending priorities, including Pemex), we expect only a modest rise in the debt-to-GDP
ratio in our forecast period.
Inflation likely to subside, but risks remain skewed to the upside

Not unlike many countries around the world, Mexico is facing a triple shock on the We expect inflation shocks to subside
inflation front, namely: i) rising energy prices, especially LP gas; ii) persistently high in 2022, but recognise that risks are
merchandise goods prices, partly on the back of global supply bottlenecks, and iii) rising skewed towards inflation remaining
service prices as the economy reopens. Inflation looks set to end 2021 at close to 7%, more persistent
while core inflation will likely top 5.3% this year, its highest level since 2009. We expect
inflation to recede next year as fuel prices stabilize and supply bottlenecks are eased,
with headline and core falling to 3.7% and 3.5% by year-end. However, we recognize
that risks to our forecasts are skewed to the upside: inflation is widespread (over 65% of
CPI items are currently posting inflation above the CB’s 3% +-1% tolerance band);
merchandise goods inflation has shown no signs of receding; and we expect some
services prices, like education fees, to play catch up.
Banxico to raise rates 5.75% in 2021, 6.25% in 2022

High inflation coupled with an economy that still exhibits a large negative output gap Rising core inflation will likely lead
and that decelerated in Q3’21 puts the Central Bank in a difficult position. Banxico has Banxico to pick up the pace of hikes
raised its benchmark rate by 75bps to 4.75% so far this year, with a divided board. While in Q4'21. However, we think the
the authorities still see the current inflation shock as temporary, the majority of the authorities will be in no hurry to take
board see its magnitude, breadth, and persistence as a risk to the price-setting interest rates above neutral
mechanism and to inflation expectations more generally. Continued upside surprises to
core inflation readings lead us to think that Banxico will increase the pace of its rate hikes
to 50bps in November, taking the benchmark rate to 5.75% by year-end, followed by a
further 50bps of hikes in Q1’22 under incoming governor Arturo Herrera. This would
bring interest rates to neutral territory next year. Provided inflation starts receding by
Q2’22, we think Banxico would only resume tightening in 2023 as the Fed’s first hike
comes into focus. We remain of the view that the market is pricing in too many rate
hikes, and that Banxico is unlikely to be in a hurry to take rates above neutral given the
size of the output gap and that Fed rate hikes still lie well into the future.
Peso unlikely to strengthen going forward

Mexico's current account balance swung into surplus during the pandemic, thanks to A current account turning into deficit
the early recovery in manufacturing exports, the compression in imports on account of coupled with ongoing portfolio
the recession, and the boom in remittances. In the context of stagnant FDI, this surplus outflows should reduce support for
has counterbalanced the ongoing portfolio outflows Mexico is witnessing, both by local the peso
and foreign investors, particularly in fixed income securities. With the economy
recovering and manufacturing exports constrained by supply bottlenecks, we see the
trade balance and the current account slipping back into deficit, removing some of the
support the peso has enjoyed in the last couple of years. We see the USDMXN sliding to
21.0 by YE'22 and to 21.50 by YE'23.
Electricity reform the biggest idiosyncratic risk to the outlook

Despite Mexico’s lackluster recovery, we believe its strong links to the US economy, the Although we think it unlikely that
stability of its public debt, and the absence of a major election in our forecast period the proposed constitutional reform
make it a 'safe haven' of sorts amid its Latam peers at present (the peso is the best on electricity will be approved in its
performing currency in Latam YTD, as is the local bolsa). The biggest idiosyncratic risk we current form, if it were, it would
see to this state of affairs is whether the recently proposed constitutional reform on constitute a watershed event, one
electricity will be approved. While the government sees this reform as a mechanism for that would likely lead to a further
levelling the playing field for state-owned electricity company CFE, if approved in its collapse in investment and drive
current form, it would cancel existing electricity contracts with the private sector, would Mexico into recession
give CFE control of the electricity market, and would eliminate independent regulators.
Not only would the reform likely lead to higher electricity costs and a greater reliance on
fossil fuels for generation, it would also likely expose Mexico to litigation under USMCA
and under international trade treaties. More importantly, it may act as a further
deterrent to investment more widely. We think the impact of the reform on market
sentiment and on activity may be even larger that the cancellation of the Mexico City
airport in 2018. Approval could put Mexico back in recession in 2023.

Figure 284: Services vs industry sectors (sa, Sep'19- Figure 285: Services by type (sa, Sep'19-Feb'20=100)
Feb'20=100)
Source : Haver, INEGI, UBS Source : Haver, INEGI, UBS
Figure 286: Labour gap (wide unemployment rate) Figure 287: Public debt creating flows
Figure 288: Oil vs Non-Oil Trade balance (12m sum, USD bn) Figure 289: Contributions to 12m inflation update

Mexico
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 1078 1159 1222 1269 1074 1269 1353 1380
Real GDP growth, % 2.6 2.1 2.2 -0.2 -8.3 5.3 2.6 2.0
Government consumption, % y/y 2.6 0.7 2.8 -1.3 2.3 1.8 2.0 2.0
Gross Fixed Capital formation, % y/y 0.8 -1.2 1.0 -4.6 -18.3 13.5 6.7 4.0
Exports, % y/y 3.6 4.2 5.9 1.5 -7.3 8.5 7.7 5.0
Imports, % y/y 2.9 6.4 5.9 -0.7 -14.6 12.5 9.0 6.0
Industrial Production (%) 0.3 -0.2 0.5 -1.8 -9.9 7.6 2.8 2.8
Domestic private credit, %y/y 16.3 9.8 12.3 6.7 3.3 -1.8 7.0 10.0
USD/MXN (year-end) 20.7 19.8 19.7 18.8 19.9 20.0 21.0 21.5
Fiscal accounts
Revenue, % GDP 24.1 22.6 21.7 22.0 23.1 22.5 22.1 22.1
Expenditure, % GDP 26.6 23.6 23.8 23.7 26.0 25.3 25.3 25.5
Primary balance, % GDP -0.1 1.4 0.5 1.1 0.0 0.1 -0.3 -0.2
Balance of payments
Trade balance, USD bn -13 -11 -14 5 34 -1 -6 -14
Exports, USD bn 374 409 451 461 417 485 516 543
Imports, USD bn 387 420 464 455 383 486 522 556
Current account balance, USD bn -24 -20 -25 -4 26 4 1 -5
as % of GDP -2.3 -1.8 -2.1 -0.3 2.4 0.4 0.1 -0.4
Source : Banxico, INEGI, IMF, Haver, National Statistics, UBS forecasts.

Peru
The new government faces important limits to the implementation of its agenda:
Congressional opposition, disagreements within its own political coalition and low
popular support for an agenda of drastic economic changes.
Erratic signals of compromise with economic stability and confrontation should
weigh on growth through our forecast horizon.
After some highly eventful first months in office, the new government led by Pedro The new government’s agenda for
Castillo continues to send mixed signals regarding its commitment to economic stability. drastic changes to the economic
True, the appointments of Julio Velarde at the CB presidency and Pedro Francke as head model is facing important limits to its
of the ministry of finance remain the key anchors of macroeconomic responsibility. implementation
However, private sector confidence has not picked up yet. All told, the balance of power
suggests to us that perspectives for major change continue to be limited: i/ the ruling
party has 37/130 seats in Congress, limiting its ability to pass ordinary legislation, let
alone confidence votes, the budget bill, or constitutional reforms; ii/ moderate members
in the ruling party coalition seem to be gaining prominence in the government; and iii/
support for a major revision to the economic and institutional model in Peru through a
Constitutional assembly (one of Castillo's main campaign promises) is currently low, as
Peruvians see economic reactivation and improvements to the education and health
systems as priorities. If anything, all these elements suggest to us that disagreements
between state powers is likely to stay at high levels through our forecast horizon.
Can the balance of power change in favor of an agenda for drastic economic changes?
While polls and the political climate don't currently support such a view, the following
will need to be monitored closely: i/ Congress' capacity to preserve its political capital
and unity in opposition to the ruling party coalition; and ii/ the outcome of the 2022
regional and municipal elections, due on Oct-22, which will likely reflect to what extent
the new left-wing government (and specifically Peru Libre, Castillo's party) is gaining
popularity across the country.
All told, the absence of clear and consistent signals of economic stability will likely take a We expect Peru to grow below
toll on economic activity. True, growth in 2021 should exceed expectations (UBSe: potential in our forecast horizon,
12.6%); however, leading indicators for private investment are already pointing to a with a contraction in investment in
sharp decline in the first months of next year. As reopening effects fade away, we think 2022.
the economy will stabilize at below-potential growth rates, specifically, 2.4% for 2022
and 2.0% for 2023. Uncertainty regarding economic policies and a constant climate of
confrontation between the executive branch and Congress will lead investment to show
a 3% decline next year, by our estimates. By contrast, we expect mining output and
public expenditure to partially offset the deceleration in private spending through our
forecast horizon. On the inflation front, the combination of higher energy and food
prices - exacerbated by double-digit PEN depreciation against the dollar amid political
uncertainty - should keep headline high and above the CB's target through 1H2022,
after which we expect it to return to target (2.9% by YE2022, and 2.5% by the end of
2023). As a consequence, we see the CB continuing to normalize monetary policy,
taking the rate to almost neutral by the end of 2022 (3.25%) and 3.75% in YE 2023.
The combination of moderation in imports demand (amid below-potential growth) and

positive growth in mining output should make the current account stay below 1% of
GDP through our forecast horizon. With a smaller external deficit - and a relatively
prudent fiscal policy - depreciation pressures on PEN will depend to a greater extent on
political developments. This is why we see the FX at 3.90 vs USD through all our forecast
horizon.

Peru
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 194 214 225 229 200 215 221 227
Real GDP growth, % 4.1 2.5 4.0 2.2 -11.0 12.6 2.4 2.0
Government consumption, % y/y -0.5 0.7 0.1 2.2 7.2 9.2 2.0 2.5
Gross Fixed Capital formation, % y/y -4.9 -1.4 4.7 3.3 -16.3 33.5 -2.7 1.2
Exports, % y/y 9.1 7.4 2.4 1.6 -20.8 9.7 4.5 1.6
Imports, % y/y -2.3 3.9 3.2 1.2 -15.6 14.4 3.3 2.5
USD/PEN (year-end) 3.40 3.25 3.36 3.31 3.62 3.90 3.90 3.90
Fiscal accounts
Revenue, % GDP 18.7 18.2 19.2 19.8 17.8 20.1 19.8 19.7
Expenditure, % GDP 21.0 21.2 21.5 20.1 24.7 22.7 22.0 21.6
Balance of payments
Exports, USD bn 37 45 49 48 43 61 62 63
Imports, USD bn 35 39 42 41 35 47 50 52
as % of GDP -2.6 -1.3 -1.7 -1.5 0.8 -1.2 -0.4 -0.7
Net International Investment Position, % GDP -39.1 -36.9 -37.0 -37.2 -45.8 -47.2 -46.1 0.0
Source : BCRP, INEI, Haver, National Statistics, UBS forecasts. 1/ refers to Central Government

Venezuela
The economy likely stabilized in 2021 although at low levels, amid incipient
liberalization of productive activities to the private sector.
The Maduro regime’s openness to dialogue with the opposition will likely remain
limited, following a pragmatic approach to maintain its survival.
The Venezuelan economy is finally giving some signs of stabilization in 2021, although The economy is in the process of
at record low levels that are still compatible with a severe and unprecedented economic bottoming out...
depression. True, the COVID shock recession sets a low bar for a rebound, but beyond
base of comparison and reopening effects, there is an incipient reactivation in
productive activities. First, the liberalization of economic activities – which dates back to
measures taken in 2018-19 by the Maduro regime – accelerated in 2020, allowing for
more participation of the private sector in activities that used to be under strict control of
the government, such as imports of goods, manufacturing and selected services. In
addition, the de-facto dollarization – and the regime’s diminishing opposition to it – has
provided some stability to economic agents with access to dollars and willing to engage
in transactions and store value, in a context where inflation remains high and above
1,000% y-o-y. In that regard, the recent launch of a new currency – the Bolivar digital,
with six fewer zeroes than its predecessor – is another example of the constant loss of
value of the local currency which pushes Venezuelan citizens to intensify their use of
dollars and digital payments. Lastly, on the public sector front, the government
continues to struggle to increase proceeds from oil extraction, amid international
sanctions that limit its set of trade partners and years of underinvestment and the drop
of productive capacity in the oil sector.
While signs of stabilization are good news, we think that perspectives for a meaningful …although far from the beginning of
economic reactivation in the next years are limited. First, the Venezuelan economy has a true and long-lasting reactivation
shrunk dramatically in less than a decade, currently being about 20% of its size in 2014.
The significant erosion in productive capacity of the majority of sectors (and oil
production in particular), and the unprecedented loss of human capital amid migration
(more than 5mn Venezuelans live abroad according to the latest UN calculations) makes
it very difficult to envision a fast recovery. Second, measures that allowed the recent
improvement in economic activity respond to the government’s decision to avoid further
economic collapse and guarantee the regime's survival, rather than to a structural
change in its economic policy orientation. Official FX controls, monetization of fiscal
deficits that fuel inflation, and policies to maintain a predominant role of the public
sector across the economy are still the main guidelines of the Maduro regime.
Additionally, prospects for change on the political front remain limited, in our view. In The Maduro-Opposition negotiations
September, the Maduro regime officially engaged in negotiations with the opposition, provide limited perspectives of
under the oversight of international mediators. While the process came to a halt in mid- political change in our forecast
Oct after the extradition of Colombian businessman Alex Saab to the US on charges of horizon, in our view
money laundering on behalf of the Maduro regime, we think that perspectives for a
deep political change as a result of these negotiations are limited even if this impasse is
solved. First, the opposition arrives to the negotiation with potentially diminished
bargaining power, having witnessed a possible loss of support from the international
community (in particular, after the gradual dismantling of the Lima group following
Argentina's withdrawal and loss of support from Peru). And second, the issues to be
discussed in the negotiations seem to leave political change off the table, at least in the
short term. For the Maduro regime, the main goal of the negotiations is the relaxation of
sanctions to Venezuela, following a pragmatic approach to guarantee the survival of the
regime, with some limited concessions to the opposition, such as participation in
upcoming political processes including regional and municipal elections. On the other
hand, the opposition is focused on opening the door for humanitarian assistance related
to the COVID emergency and to securing minimum conditions for its participation in
future electoral processes. All told, and provided that negotiations resume in the near
term, the prospects for a transition towards free political participation and the
celebration of transparent presidential elections remain limited, in our view.

Venezuela
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, local currency bn 1/ 0 2 2039 903988 21984317 453 4943 41525
GDP, USD bn 279 144 98 64 58 56 52 83
Real GDP growth, % -17.0 -15.7 -19.6 -36.2 -30.0 -1.0 4.0 5.0
Private consumption, % y/y NA NA NA NA NA NA NA NA
Government consumption, % y/y NA NA NA NA NA NA NA NA
Gross Fixed Capital formation, % y/y NA NA NA NA NA NA NA NA
Exports, % y/y NA NA NA NA NA NA NA NA
Imports, % y/y NA NA NA NA NA NA NA NA
Industrial Production (%) -22.9 -19.1 -36.4 -30.0 -34.0 5.0 5.0 5.0
Policy rate, % (year-end) 2/ 14.96 14.70 14.52 25.00 36.00 NA NA NA
10 year bond yield, % (year-end) 3/ 23.42 NA NA NA NA NA NA NA
USD/VEB (year-end) 0 0 638 46620 1107198 10 105 840
Fiscal accounts
Revenue, % GDP 17.1 9.0 4.2 6.0 7.0 7.0 8.0 9.0
Expenditure, % GDP 34.9 40.8 34.7 31.0 17.0 16.0 16.0 16.0
of which domestic public debt, % GDP 12.9 14.7 15.0 NA NA NA NA NA
of which external public debt,% GDP 49.3 51.1 51.4 NA NA NA NA NA
% domestic public debt held by non-residents NA NA NA NA NA NA NA NA
Public debt held by the central bank, % GDP 4.3 26.3 NA NA NA NA NA NA
Balance of payments
Exports, USD bn 27 34 34 16 12 13 15 17
Imports, USD bn 16 12 13 6 8 9 10 11
Current account balance, USD bn -4 9 6 3 -3 -1 2 2
as % of GDP -1.4 6.1 6.4 4.7 -5.2 -1.8 3.5 1.8
Foreign direct investment (net), USD bn 0 -2 0 0 0 1 1 1
Net International Investment Position, % GDP NA NA NA NA NA NA NA NA

Reinhard Cluse
Economist
reinhard.cluse@ubs.com
+44-20-7568 6722
Felix Huefner
Economist
felix.huefner@ubs.com
+49-69-1369 8280
Anna Titareva
Economist
anna.titareva@ubs.com
+44-20-7568 5083
Jennifer Aslin
Economist
jennifer.aslin@ubs.com
+44-20-7568 6585
Western Europe

Pivotal Questions Q: What is the Eurozone's growth outlook for 2022-23?

We forecast Eurozone GDP to grow by 5.1% in 2021 (unchanged), 4.8% in 2022 (previously 5.3%),
and 2.0% in 2023. While the recent slowdown in growth amid supply bottlenecks and higher energy
prices has made some downward revisions to our 2022 forecasts necessary, we argue that overall
growth momentum remains reasonably strong, thanks above all to the ongoing recovery of domestic
demand, with growth remaining above trend in 2022 and decelerating towards trend during 2023.
Q: How much of an inflation challenge is the Eurozone facing?

We maintain the view that the current spike in inflation is likely to be temporary, given that it has
been largely driven by higher energy prices and, more recently, supply bottlenecks. Against this
backdrop, following a peak of 4.3% y/y in November, we expect inflation to drop back below the
ECB's 2% target in Q4 2022, implying a decline in the annual average from 2.5% in 2021 to 2.2% in
2022 and 1.5% in 2023. However, we see risks of high inflation becoming more embedded in
inflation expectations, ultimately leading to a stronger pick-up in wage growth and core inflation.
Q: What is the outlook for monetary and fiscal policy?

We expect the ECB to terminate its Pandemic Emergency Purchase Programme (PEPP) at the end of
March 2022, but continue with its Asset Purchase Programme (APP) in 2022 and 2023, albeit with
gradually decreasing intensity, to ensure ongoing accommodation to bring inflation back to the
2% target in a sustainable fashion. We do not expect the ECB to hike its deposit rate, currently at -
0.5%, in 2022 or 2023. Fiscal stimulus will be cut back gradually, with less than half of the Covid-
related spending cut back in 2022 and three of the larger Eurozone economies likely to post budget
deficits above 3% of GDP even in 2023.
UBS VIEW Despite current headwinds, most of which we expect to be temporary, we think growth will remain
above-trend in 2022 before decelerating towards trend during 2023, with support from household
consumption, fixed investment as well as monetary and fiscal policy, including the EU recovery fund,
which we expect to gather full momentum in 2022, mainly through spending on the green transition
and on digitalisation. We expect the current spike in inflation to be transitory, with inflation rates
falling in H1 2022, but will watch wage growth carefully for signs of higher core inflation later in
2022 and 2023.
WHAT´S PRICED IN? Our new 2022 Eurozone GDP growth forecast of 4.8% is above consensus (4.3%) as well as the
latest forecasts by the IMF (4.3%) and the OECD (4.6%).
UPSIDE / DOWNSIDE RISK Downside risk: New flare-ups in Covid infections and the emergence of new Covid strains against
which the currently available vaccines provide little or no protection; a further tightening of supply
bottlenecks (transport delays, availability of key supplies) or a further rise in energy prices; inflation
rising a lot higher and/or staying persistently above the 2% target for longer than anticipated, forcing
the ECB to deliver a faster and more significant normalisation/tightening than currently anticipated,
with negative implications for sovereign bond markets and risk assets; negative developments in
China. Upside risk: Larger positive impact from the EU recovery fund, larger rebound in household
consumption based on large amounts of "forced" savings; significant fall in energy prices, faster-
than-expected recovery of labour markets; new wave of collaboration at the EU level to boost
confidence.
New forecasts Old forecasts Consensus New vs Old forecasts UBS vs Consensus
2021F 2022F 2023F 2021F 2022F 2021F 2022F 2023F 2021F 2022F 2021F 2022F 2023F
Eurozone 5.1 4.8 2.0 5.1 5.3 5.0 4.3 2.1 0.0 -0.5 0.1 0.5 -0.1
Germany 2.8 4.9 1.8 3.7 4.9 2.8 4.4 2.0 -0.9 0.0 0.0 0.5 -0.2
France 6.7 3.8 1.7 6.0 4.7 6.1 4.0 2.1 0.7 -0.9 0.6 -0.2 -0.4
Italy 6.2 4.5 1.5 5.0 4.7 6.1 4.3 2.0 1.2 -0.2 0.1 0.2 -0.4
Spain 4.6 6.1 3.3 5.9 6.6 5.6 5.8 3.1 -1.3 -0.5 -1.0 0.3 0.2
UK 7.0 4.6 1.5 7.0 5.8 7.0 5.0 2.0 0.1 -1.2 0.0 -0.4 -0.5
Switzerland 3.1 3.1 1.7 3.3 3.0 3.4 3.0 1.6 -0.2 0.0 -0.3 0.1 0.1
Source : UBS estimates, Bloomberg consensus median forecasts.

Eurozone
We forecast 5.1% GDP growth in 2021, 4.8% in 2022 and 2.0% in 2023, driven
by domestic demand. We expect inflation to peak in November 2021 and fall
back below the ECB's 2% target by Q4 2022. Although peak stimulus is now
over, we expect fiscal and monetary policy normalisation to proceed only
gradually.
Key downside risks relate to the emergence of new Covid strains, a sharper and
more persistent rise in inflation that would trigger an early ECB tightening, an
intensification of supply bottlenecks, and new challenges in China. Upside risk
could stem from a larger-than-expected impact of the EU recovery fund, stronger-
than-expected household consumption due to large "forced" savings, lower
energy prices, or new significant policy initiatives at the European level.
The Eurozone economic outlook has become subject to greater uncertainty in recent We now expect GDP growth of 5.1%
weeks, amid higher energy prices and supply bottlenecks related to logistics and the in 2021, 4.8% in 2022 and 2.0% in
availability of key inputs, such as chips or energy. Nevertheless, we believe the overall 2022
economic outlook remains very respectable, with growth continuing well above trend in
2022 and then decelerating towards trend over the course of 2023. Specifically,
following the 6.5% contraction in 2020, we anticipate GDP growth of 5.1% in 2021
(unchanged), 4.8% in 2022 (previously 5.3%, consensus 4.3%), and 2.0% in 2023
(consensus 2.1%). Despite the sharp rise in energy prices, we expect household
consumption to continue to benefit from large amounts of "forced" savings
accumulated during the Covid crisis. Fixed investment, particularly in areas related to the
greening of the economy and digitalisation, should benefit as spending from the
EU recovery fund (NGEU) gains momentum. Domestic demand should also be
supported by ongoing accommodation from monetary and fiscal policy. Although
stimulus has now peaked, we expect policy support to be reduced only gradually.
Following a contraction of -0.3% q/q (-1.2% y/y) in Q1 2021, Eurozone growth Growth to remain well above trend
accelerated to 2.1% q/q (14.2% y/y ) in Q2. In Q3, the economy grew by 2.2% q/q in 2021/22 before decelerating to
(3.7% y/y), better than expected in light of the worsening supply bottlenecks and higher trend during 2023
energy prices. For Q4, we now expect a growth rate of 0.8% q/q (4.9% y/y), less than
we would have anticipated a while back. All combined, this yields an unchanged 2021
growth forecast of 5.1%. However, the lower Q4 growth expectation, and hence
weaker statistical carryover, puts downward pressure on our 2022 growth forecast,
which we are cutting to 4.8% from 5.3%. In sequential terms, we expect q/q growth to
pick up again in Q1/Q2 2022 (to 1.1/1.3%) as headwinds from energy and supply
bottlenecks ease a bit. However, later in 2022 and over the course of 2023, q/q growth
should continue to decelerate and eventually return to around trend growth (i.e.
0.3% q/q) as the post-crisis bounce runs out and the impact of expansionary fiscal and
monetary policy wanes. This would imply an annual growth rate of 2.0% in 2023. As
previously, we anticipate real GDP to return to its pre-crisis level by Q4 2021; by the end
of 2023, it should be 5.3% higher.
In nominal terms, we expect Eurozone GDP to grow by 6.7% in 2021, 6.4% in 2022 Nominal GDP growth expected at
and 3.5% in 2023, following -5.0% in 2020, with a return to pre-crisis levels as early as 6.7% 2021, 6.4% 2022 and
Q3 2021. By the end of 2023, nominal GDP should be 12.2% above pre-crisis levels 3.5% 2023, after -5% 2020
(Figure 295).

Figure 290: Real GDP growth and contributions Figure 291: Quarterly GDP growth
12.5
6 10
5.1 15
4.8 8
4
6
10
2.8
4
2 1.8 2.0
1.6 5
2
-0.37 -0.30
0 0 2.10 2.21 0.8 1.3 0.6 0.5 0.5 0.3 0.3 0.3 0
1.1
-2
-2 -3.48 -5
2020F: -6.5%
-4
2021F: 5.1%
2022F: 4.8% -10
-4 -6
2023F: 2.0%
-8 -15
-6
-6.5 -10
-11.69
-20
-8 -12
2017 2018 2019 2020 2021F 2022F 2023F
-14 -25
Private consumption Govt consumption Fixed investment Q1 20 Q3 20 Q1 21 Q3 21 Q1 22F Q3 22F Q1 23F Q3 23F
Net exports Stocks Real GDP growth, % %qoq (LHS) %yoy (RHS)
Figure 292: Industrial production & retail sales, %y/y Figure 293: Eurozone household excess savings
15.0 26 800
%, y/y % savings rate 6.6% of GDP in Q2 2021 €bn
24 700
10.0
600
22
500
5.0 20
13% - savings rate in 2019
400
18
0.0 300
16
200
-5.0 14 100
12 0
-10.0 1Q-20 2Q-20 3Q-20 4Q-20 1Q-21 2Q-21
Jan-13 Nov-13 Sep-14 Jul-15 May-16 Mar-17 Jan-18 Nov-18 Sep-19 Jul-20 May-21
Germany (RHS) France (RHS) Italy (RHS) Spain (RHS) Rest (RHS) Savings rate (LHS)
industrial production, %y/y Retail sales, % y/y
Source : Haver, UBS Source : Haver, UBS. Bars denote the extent of estimated accumulated excess
savings
Figure 294: Eurozone PMIs Figure 295: Eurozone real and nominal GDP, %y/y
70 8
Index, 50+ = Expansion %y/y
6
60
4
50
2
40
0
30
-2
20 -4
10 -6
Jan13 Oct13 Jul14 Apr15 Jan16 Oct16 Jul17 Apr18 Jan19 Oct19 Jul20 Apr21
-8
PMI Manufacturing PMI Services PMI Composite 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 2020 2022F
Real GDP, %y/y Nominal GDP, %y/y
Source : Markit PMI, UBS Source : Haver, UBS estimates.

Country specifics
Germany is suffering from supply disruptions more than any other large Eurozone Germany: GDP growth of 2.8% in
country and we lower our 2021 GDP growth forecasts to 2.8% from 3.7% previously 2021E, 4.9% in 2022E and 1.8% in
(consensus 2.8%). However, full order books imply that production should recover in 2023E
2022, boosting GDP growth to 4.9% (unchanged, consensus 4.4%), also helped by
likely greater spending by the new government. Wage growth so far has remained
moderate, but risks of second-round effects are rising as inflation remains elevated. A
key focus is the collective wage negotiations in the metals and engineering sector in
September 2022. We forecast 1.8% growth in 2023 (consensus 2%).
In France, supply disruptions have so far had less of an impact than in Germany, given France: GDP growth of 6.7% in
the larger share of services in GDP, and we raise our 2021 forecast by 70bp to 6.7% 2021E, 3.8% in 2022E and 1.7% in
(consensus 6.1%). Following strong Q3 growth of 3% q/q, GDP is just 0.1% below its 2023E
pre-pandemic level, marking a faster return than in other large Eurozone countries. For
2022, we lower our projection to 3.8% (from 4.7%, consensus 4%). The government
has recently put in place fiscal measures worth ½% of GDP to ease the headwind from
higher energy costs, and we expect a budget deficit of 5% of GDP in 2022 (down from
8.1%) and a debt level of 114% of GDP. The Presidential election in April 2022 will be a
key focus, increasing uncertainty, not least as regards the outlook for structural reforms.
For 2023, we forecast growth to decelerate to 1.7%, closer to its potential growth rate
(consensus 2.1%).
For Italy, we raise our 2021 forecast from 5% to 6.2% (consensus 6.1%), as the Italy: GDP growth of 6.2% in 2021E,
economy recovered strongly in Q2 and Q3. Assuming some deceleration of growth in 4.5% in 2022E and 1.5% in 2023E
Q4 due to ongoing supply disruptions, we lower our 2022 GDP forecast to 4.5% (from
4.7%, consensus 4.3%). For 2023, we predict 1.5%, well above Italy's historical average
growth rate (consensus 2%). We believe that investments financed from the
EU recovery fund will add around ½pp to growth in both 2021 and 2022. The budget
deficit is projected to decline to 5.8% of GDP in 2022 (from 9.5% this year) and 3.9% in
2023. We forecast a debt ratio of 151% in 2022, up from 134.6% in 2019. Political
uncertainty is likely to increase, with Presidential elections taking place before February
2022 and the next scheduled parliamentary elections before June 2023.
For Spain we expect GDP to grow by 4.6% in 2021 (cut from 5.9%, consensus 5.6%), Spain: GDP growth 4.6% in 2021E,
6.1% in 2022 (cut from 6.6%, consensus 5.8%) and 3.3% in 2023 (consensus 3.1%), 6.1% in 2022E and 3.3% in 2023E
with real GDP returning to pre-crisis levels in late 2022. GDP data for Q1 and Q2 2021
has been revised downwards and Q3 growth has disappointed, but the growth outlook
for 2022/2023 seems favourable, supported by strong household consumption, fixed
investment (boosted by the EU recovery fund) and a rebound in tourism. We expect the
consolidation of public finances to proceed relatively slowly: even by 2023, when we
assume EU fiscal rules will apply again, the budget deficit is still likely to be markedly
above 3% of GDP. We believe the election cycle – with a general election due at the end
of 2023 at the latest – might also contribute to the fiscal stance remaining reasonably
accommodative.
For the UK we project GDP growth of 7.0% in 2021 (consensus 7.0%), followed by UK: GDP growth 7.0% in 2021E, 4.6%
4.6% in 2022 (cut from 5.8%, consensus 5.0%) and 1.5% in 2023 (consensus 2.0%), in 2022E and 1.5% in 2023E
supported by the private sector recovery. While the rising cost of living, in particular
energy prices, is likely to weigh on household consumption over the coming months, a
strong labour market recovery and large stocks of accumulated savings should support
the recovery in domestic demand. Our baseline assumes that GDP returns to pre-Covid
levels in Q1 2022. Given the sharp increase in inflation, albeit likely largely temporary,
we expect the BoE to deliver its first hike of the cycle, 15bps, in December 2021,
followed by another two 25bps hikes each in 2022 and 2023. The stronger recovery in
growth has allowed the Chancellor to announce additional spending. However, the
automatic expiry of Covid-related support measures still implies a sizeable drag on
growth next year.
For Switzerland, we lower our 2021 forecast by 20bp to 3.1% (consensus 3.4%) to Switzerland: GDP growth 3.1% in
reflect the impact of supply disruptions on activity in H2. However, we raise our 2022 call both 2021E and 2022E, and 1.7% in
slightly to 3.1% (consensus 3%). For 2023, we project 1.7% growth (consensus 1.6%). 2023E
GDP should have returned to pre-Covid levels in Q3 2021, before the Eurozone. Inflation
has increased, as elsewhere, but our expected peak of 1.5% in December 2021 remains
well within the SNB’s 0-2% inflation target range. For 2022 and 2023, we project

average inflation of 0.7% and 0.6%. We expect the SNB to leave policy rates on hold
and resort to FX interventions if faced with an appreciating franc. Over the longer term,
continued uncertainty about the Swiss-EU institutional framework agreement could
become a headwind to the Swiss-EU trading relationship.
Figure 296: New, old and consensus GDP growth forecasts, % y/y
New forecasts Old forecasts Consensus New vs Old forecasts UBS vs Consensus
2021F 2022F 2023F 2021F 2022F 2021F 2022F 2023F 2021F 2022F 2021F 2022F 2023F
Eurozone 5.1 4.8 2.0 5.1 5.3 5.0 4.3 2.1 0.0 -0.5 0.1 0.5 -0.1
Germany 2.8 4.9 1.8 3.7 4.9 2.8 4.4 2.0 -0.9 0.0 0.0 0.5 -0.2
France 6.7 3.8 1.7 6.0 4.7 6.1 4.0 2.1 0.7 -0.9 0.6 -0.2 -0.4
Italy 6.2 4.5 1.5 5.0 4.7 6.1 4.3 2.0 1.2 -0.2 0.1 0.2 -0.4
Spain 4.6 6.1 3.3 5.9 6.6 5.6 5.8 3.1 -1.3 -0.5 -1.0 0.3 0.2
UK 7.0 4.6 1.5 7.0 5.8 7.0 5.0 2.0 0.1 -1.2 0.0 -0.4 -0.5
Switzerland 3.1 3.1 1.7 3.3 3.0 3.4 3.0 1.6 -0.2 0.0 -0.3 0.1 0.1
Source : UBS estimates, Bloomberg consensus median forecasts.
Figure 297: Annual real GDP growth, % Figure 298: Mobility restrictiveness rating
8.0 7.0
6.7 6.2 UBS mobility restrictiveness rating (scale of 0-10)
6.1
6.0 5.14.8 4.9 10
4.5 4.6 4.6
3.8
4.0 3.3 3.13.1 9
2.8
2.0 1.8 1.7 1.5 1.7
2.0 1.5 8
0.0 7
-2.0 6
-2.5 5
-4.0
4 Italy
-6.0 -4.9
France
-6.5 3 Germany
-8.0 Eurozone
-8.0
-9.0
2 Spain
-10.0
-9.7 UK
-10.8 1
-12.0
Eurozone Germany France Italy Spain UK Switzerland 0
10Mar20 17Jun20 24Sep20 01Jan21 10Apr21 18Jul21 25Oct21
2020 2021F 2022F 2023F
Source : Haver, UBS estimates Source : UBS calculations
Figure 299: When will GDP return to pre-crisis levels? Figure 300: The recovery from the Covid crisis – uneven
pace
105
GDP levels compared to Q4- Q4-21 Q4-22
Q4-20 Index, Q4-19=100
19Eurozone
100
Q4-20 Q4-21 Q4-22
Germany
Q4-20 Q4-21 Q4-22 95
France
Q4-20 Q4-21 Q4-22
Italy 90
Q4-20 Q4-21 Q4-22

Spain 85
Q4-20 Q4-21 Q4-22
UK
80
Q4-20 Q4-21 Q4-22
Switzerland
75 8
4Q-19 2Q-20 4Q-20 2Q-21 4Q-21 2Q-22 4Q-22 % y/y2Q-23 4Q-23
-10 -8 -6 -4 -2 0 2 4 6 6
Eurozone Germany France Italy Spain UK Switzerland
4

Fiscal policy – modest consolidation in 2022
The strong rebound in GDP this year should normally be accompanied by lower budget 2021 Eurozone headline budget
deficits, as a cyclical upturn leads to rising revenue and lower expenditure. But this is not deficit near 2020 levels
what is happening. In fact, we expect the 2021 Eurozone headline budget deficit to
increase slightly to 7.5% of GDP (from 7.2% in 2020). Accordingly, the cyclically-
adjusted primary balance, which excludes cyclical effects and hence measures the
discretionary fiscal impulse, deteriorates by 2.2% of GDP this year to -4.4% from -2.2%
of GDP, almost equal to the 2.5%-of-GDP stimulus in 2020. This mainly reflects
governments extending income support schemes for this year.
Fiscal consolidation should start in 2022, although we expect it to be on a modest scale. Modest consolidation in 2022
Headline deficits are projected to improve by 3.5pp to 4% of GDP for the Eurozone through lower expenditure
aggregate, which implies a cut-back in fiscal stimulus equivalent to 1.7% of GDP
(measured by the change in the cyclically-adjusted primary balance). While on a
historical perspective this stands out as a large adjustment (Figure 301), it cuts back less
than half of the 4.7% of GDP Covid stimulus that was put in place in 2020/21. Also, this
adjustment is solely due to lower expenditure, as it reflects less spending on income
support schemes such as short-time work, as labour is being reabsorbed. In other words,
we believe economies should be able to withstand this reduced-spending headwind, as
it reflects better growth prospects. Some countries have also added new expansionary
measures, such as support to households to mitigate the impact of higher energy prices
(e.g. transfers to households in France) or income tax cuts (e.g. in Italy). The new
government in Germany also has indicated increased spending which, however, still
needs to be specified and may be put in place as a supplementary budget in 2022. The
Stability and Growth Pact was suspended since 2020 under the "general escape clause"
and will remain so in 2022. Offsetting some of the consolidation in national budgets is
increased spending from the EU recovery fund (Next Generation EU, NGEU), which
could add 0.2% of GDP when just considering the grants element (see below).
For 2023, we expect the Eurozone budget deficit to fall to 2.6% of GDP and fiscal Fiscal rules likely to be applied
stimulus to be reduced by 0.6% of GDP (cyclically-adjusted primary balance to fall from flexibly in 2023
2.7% GDP in 2022 to 2.1% of GDP in 2023). France, Italy and Spain are likely to post
deficits greater than 3% (in line with the indications from their draft budgets, see Box 1)
even as the Stability and Growth Pact (SGP) is likely to be reactivated in 2023. We expect
an active discussion about the future of the fiscal rules to take place in 2022, in
particular on options for reform (see Fiscal rules after Covid-19 - Q&A). We do not
expect a fully-fledged revamp of the rules to be enacted in time for the reactivation of
the SGP, as some countries may oppose what they would consider excessive flexibility,
and also because time appears too short to implement legal changes even if agreement
were reached quickly. Nevertheless, we expect the current fiscal rules to be applied very
flexibly, for example by giving countries with excessive deficits ample time to adjust.
The substantial stimulus implemented in 2020/21 will raise the Eurozone debt level to Eurozone debt level up 15pp since
101% of GDP in 2021E, 15pp above 2019. Strong GDP growth projected in 2022/23 2019 to 101% of GDP
implies that the debt ratio should decline slightly to 98% by 2023, even as deficits stay
elevated.

Figure 301: Fiscal impulse* Figure 302: Eurozone fiscal position* (% of GDP)
Eurozone government debt, % of GDP
2.0 105
% of GDP "Fiscal effort": negative 2021F
1.5 impact on GDP growth 2022F
100
2020 2023F
1.0 2014
95 2012 2015 2016
2013
0.5
90 2017
0.0 2010 2011 2018
85 2019
-0.5
80
-1.0
2009
-1.5 75
2004 2005 2000
-2.0 70 2008
2003
-2.5 65 2002 2001 2007
2006
-3.0
2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021F 2022F 2023F
60
Germany France Italy Spain Finland
-8 -7 -6 0.2 -5 -4 -3 -2 -1 0
% of GDP Eurozone budget balance, % of GDP
Austria Estonia Luxembourg Greece Netherlands 0.0
Source : Haver, EC, UBS estimates. * Change in cyclically adjusted primary balance. Source : European Commission, Haver, UBS estimates. *Deficit and debt stock.
Note: For 2021-23, we only show our forecasts for Germany, France, Italy and Spain
with the difference to the Eurozone aggregate explained by other countries
Figure 303: Headline budget balances, % of GDP Figure 304: Cyclically adjusted primary balances, % of GDP
4 3
% GDP % GDP
1.8
1.5 2 1.5
2
1
0.3
0
0
-0.6
-2 -1.4 -1.6 -1
-2.6 -2.8 -2.9 -1.3
-4 -3.1 -2 -1.4 -1.5 -1.6
-4.0 -4.2 -3.9 -3.9 -2.1
-4.3 -2.2 -2.3
-5.0 -3 -2.5 -2.5-2.3
-6 -5.3 -2.7 -2.8
-5.8 -3.0 -3.1-3.2
-6.3 -4 -3.7
-8 -7.2-7.5 -4.2 -4.1
-8.1 -5 -4.4 -4.5 -4.5
-8.4
-10 -9.1
-9.5-9.5 -6
-5.9
-12 -11.0 -7
EZ GE FR IT SP EZ GE FR IT SP
2019 2020F 2021F 2022F 2023F 2019 2020F 2021F 2022F 2023F
120122118
Source : Haver, UBS estimates. Source : Haver, UBS estimates.
Figure 305: Next Generation EU (€750bn), €bn Figure 306: Grants & loans from EU recovery fund*
25
200 €bn, 2018 prices % GDP
Horizon Europe Invest EU 180
(grants) (guarantees) Rural Development 20
5.0 5.6 (grants) 160
7.5
Just Transition 140
Fund (JTF) (grants) 15
10.0 120
ReactEU (grants)
47.5 100
RescEU (grants) 80 10
1.9
60
Recovery and
Resilience Facility 40 5
(RRF) (loans)
360 20
Recovery and
Resilience 0 0
Facility (RRF)
Finland
Spain
Poland
Greece
Czechia
Lithuania
Austria
Sweden
Denmark
Luxembourg
Ireland
Malta
France
Portugal
Germany
Latvia
Romania
Italy
Hungary
Belgium
Croatia
Slovenia
Estonia
Netherlands
Cyprus
Slovakia
Bulgaria
(grants)
312.5
Loans (RRF) Grants (RRF, ReactEU, EAFRD, Just Transition) Loans and grants as % GDP (RHS)
Source : UBS Source : UBS calculations *Note: The allocation excludes grants from Horizon
Europe, Invest EU, RescEU, which combined account for 1% of all NGEU funds.

Box 1: How much fiscal consolidation lies ahead?
In our projections for the fiscal outlook (see above), we use indications from
governments' budget plans and adjust them using our macro forecasts and
expectations. A key input are the 2022 draft budgets which were submitted to
the European Commission (EC) in mid-October, as usual. These provide an
update to the 2021 budget deficit projections, fiscal plans for 2022 and some
indications for 2023. The overall message is that governments now expect even
less consolidation in 2022 than they did previously.
As was already indicated in their Stability Programmes from April, governments 2021 headline deficits similar to 2020,
have maintained substantial fiscal stimulus in 2021. The Eurozone headline continued stimulus
budget deficit (weighted average of EU governments' plans) is likely to be 7.6%
of GDP, after 7.2% in 2020. With growth recovering strongly this year, the
almost unchanged headline deficits imply a fiscal stimulus of 2.4% of GDP, after
2.5% in 2020 (as measured by the change in cyclically adjusted primary
balances).
Figure 307: Eurozone headline Figure 308: Eurozone fiscal impulse

budget balance, % of GDP (change in cyclically adjusted
primary balance), % of GDP
0.0 4.0
-1.0 3.0
-2.0 2.0
-3.0 1.0
-4.0
0.0
-5.0
-1.0
-6.0
-7.0 -2.0
-8.0 -3.0
-9.0 -4.0
-10.0 -5.0
2020 2021 2022 2023 2020 2021 2022 2023
IMF Fiscal Monitor Oct 2021 2021 Stability Programmes 2022 draft budget IMF Fiscal Monitor Oct 2021 2021 Stability Programmes 2022 draft budget
Source : 2022 draft budgetary plans and 2021 Source : 2022 draft budgetary plans and 2021
Stability Programmes, IMF, EC, UBS Stability Programmes, IMF, EC, UBS. Note: The
difference in the assessment of fiscal stimulus in
2020 between the IMF and the Stability Programmes
reflect differences in the size of the output gap used
to calculate the cyclical component. The IMF's
estimate for the output gap is around 2pp lower
than the one used by the EC (and governments); a
smaller gap implies less cyclical adjustment and
hence a larger estimate for discretionary spending
(as headline deficit projections are almost equal). See
for a broader discussion page 2 in Eurozone: 2021
fiscal boost much larger than thought.
The Eurozone headline budget deficit, according to the draft budgets, is likely to Fiscal consolidation in 2022, but less
improve by 3.5pp in 2022 to 4.1% of GDP. On a cyclically adjusted basis, this than half the Covid stimulus cut-back
implies fiscal consolidation equivalent to 1.8% of GDP, less than half the
aggregate 4.9% of GDP stimulus delivered in 2020 and 2021. The size of
consolidation is around 1% of GDP lower than envisaged in the April Stability
Programmes and the latest IMF projections (but in line with our most recent
Global Fiscal Stimulus Tracker), and is hence a dovish surprise. All consolidation
occurs through lower expenditure rather than higher revenue. This reflects
reduced use of income support schemes as growth picks up, and suggests that
governments do not plan to raise taxes. By country, Italy's draft budget
comprises new measures worth €30bn, including €12bn for income tax cuts.
Also, new expenditure has been added, including support measures such as
price caps and household support, intended to dampen the impact of rising
energy prices. France plans additional expenditure of €10.2bn (mostly in 2022)
in this area, with €6.2bn energy-related spending. The German budget is very
much preliminary, as the incoming government is unlikely to approve the 2022
budget until next year. So far, the (still vague) indications are for increased
spending on the green transition in the years ahead. All draft budgets are now
being evaluated by the EC and have to be passed in national parliaments by the
end of the year (and can still change until then).

Figure 309: Eurozone, level of Figure 310: Eurozone, revenues and
cyclically adjusted primary balance, expenditures, % of GDP
% of GDP
2.0 56.0
1.0
54.0
0.0
52.0
-1.0
50.0
-2.0
48.0
-3.0
-4.0 46.0
-5.0 44.0
-6.0 42.0
2019 2020 2021 2022 2023
2023 40.0
2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022
IMF Fiscal Monitor Oct 2021 2022 draft budget 2021 Stability Programmes
2022 draft budget Revenues Expenditures
Source : 2022 draft budgetary plans and 2021 Source : 2022 draft budgetary plans, IMF, UBS
Stability Programmes, IMF, EC, UBS
Relative to governments' draft budgets, we assume slightly less stimulus this

year, but also slightly less consolidation in 2022. This is primarily due to Germany,
where we think the government will end up spending less than assumed in the
draft budget this year, but more in 2022 (when the new government implements
its policy).
A few countries also provide budget projections for 2023/24. France, Italy and A glimpse into 2023/24 – France, Italy
Spain project headline deficits to remain above 3% of GDP in 2024, while the and Spain expect deficits above 3%
German plan envisages 0.5% (although this may change, see above). The fact of GDP
that the French, Italian and Spanish plans exceed the SGP's 3% limit over the
medium term suggests they expect either that the fiscal rules will be revised or
that the existing rules will be applied flexibly when they come back into force in
2023. The EC has just launched a public debate about reform of the rules (with
specific guidance expected in Q1 2022), highlighting the challenges of reducing
debt levels in a growth-friendly way and the need for more investment, not least
in fighting climate change. Frequently raised reform options include changing
the debt-reduction rule (giving countries with debt levels above 60% more time
to reduce their debt) and excluding net investment from the deficit calculations
(see Eurozone: Fiscal rules after Covid-19 - Q&A). The extent of any reform of the
fiscal rules will also depend on the position of the incoming German
government. Exploratory talks involving the three parties most likely to form the
next government have been vague in this context, but leave the door open for
more substantial changes. The parties have thus far agreed that "[t]he Stability
and Growth Pact has proven its flexibility. On its basis we aim to secure growth,
maintain debt sustainability and provide for climate-friendly investments."

Box 2: EU recovery fund a key pillar of EU fiscal policy
As we laid out in greater detail in our report EU recovery fund: Where will all the NGEU a key driver of growth in
money go, the EU's Next Generation EU package (NGEU), which has an overall 2022/23
envelope of €750bn (5.5% of GDP, comprising grants worth €390bn and loans
worth €360bn to be spent over 2021-26), will be a key pillar of EU fiscal policy
and a key driver of investment over the coming years. In nominal terms, Italy,
Spain, Poland and France are likely to be the biggest recipients of NGEU funds. In
terms of share of GDP, however, Bulgaria, Croatia and Greece – i.e. countries
with lower per-capita GDPs – are likely to be the biggest recipients (Figure 306,
above).
Figure 311 shows the projected annual payments of grants and loans (% of Total payments likely to rise from 0.6-
GDP). Total payments (grants and loans) were scheduled to amount to 0.6-0.7% 0.7% of GDP in 2021 to 1.2-1.3% of
of GDP in 2021 before rising to 1.2-1.3% of GDP per year in 2022-24 and then GDP p.a. in 2022-24
dropping off in 2025-26.
As regards the estimated impact on GDP growth, we think the grants element of Grants from the EU recovery fund to
the EU recovery fund could lift Eurozone GDP growth by c.0.2pp in 2021 and lift Eurozone GDP growth by 0.2pp in
2022, but more in the EU countries that receive above-average payments in 2021 and 2022; growth impact of
terms of GDP. We think the loan element could add another 0.4pp to Eurozone loans more uncertain
GDP in 2021 and 0.2pp in 2022 under the optimistic assumption that the
available loans are (1) taken up in full and (2) are used to fund additional
projects.
Figure 311: Projected payments of Figure 312: Incremental GDP growth

grants & loans (% of GDP) impact of grants (pp)*
1.4 0.8 % of GDP
% of GDP
1.2 0.6
0.4
1.0
0.2
0.8
0.0
0.6
-0.2
0.4
-0.4
0.2 -0.6
0.0 -0.8
EU
EU
EU
EU
EU
EU
Eurozone
Eurozone
Eurozone
Eurozone
Eurozone
Eurozone
EU
EU
EU
EU
EU
EU
Eurozone
Eurozone
Eurozone
Eurozone
Eurozone
Eurozone
2021 2022 2023 2024 2025 2026 2021 2022 2023 2024 2025 2026
Grants Loans Grants Loans
Source : UBS calculations Source : UBS calculations *The GDP impact is

calculated based on the flow of grants. The decrease
in flows in 2025 and 2026, ceteris paribus, implies a
negative impact on GDP growth.
Specifically, we expect grants to boost German GDP growth by 0.1pp in both

2021 and 2022, French GDP growth by 0.2pp in each of 2021 and 2022, Italian
GDP growth by 0.4pp in each of 2021 and 2022, and Spanish GDP growth by
0.6pp in each of 2021 and 2022. Italy has also requested €122.6bn in loans from
the RRF, in addition to grants. According to the Italian Recovery and Resilience
Plan, 43.6% of this amount will be used to finance new projects, which could
add another 0.5pp and 0.3pp to Italian GDP in 2021 and 2022, respectively.
Figure 313: Projected payments of Figure 314: Incremental GDP growth

grants, % of GDP impact of grants (pp)*
1.8 % of GDP 0.8 % of GDP
1.6 0.6
1.4 0.4
1.2 0.2
1.0 0.0
0.8 -0.2
0.6 -0.4
0.4 -0.6
0.2 -0.8
0.0 -1.0
2021 2022 2023 2024 2025 2026 2021 2022 2023 2024 2025 2026
Germany France Italy Spain Germany France Italy Spain
Source : European Commission, UBS estimates Source : European Commission, UBS estimates *The
GDP impact is calculated based on the flow of
grants. The decrease in flows in 2025 and 2026,
ceteris paribus, implies a negative impact on GDP
growth.

So into which sectors will the money go? The EC has defined seven flagship 45% of NGEU to support the green
areas for RRF spending: (i) clean technologies and renewables; (ii) energy transition, 27% for digitalisation
efficiency of buildings; (iii) sustainable transport and charging stations; (iv) rapid
broadband services; (v) digitalisation of public administration; (vi) data cloud
capacities and sustainable processors; and (vii) enhancement of digital skills.
According to our analysis, 45% of the grants (€141bn, 1.1% of EU GDP) will be
spent on the green transition, such as sustainable transport and EV charging
stations (€55bn), greater energy efficiency of buildings (€34.5bn), and clean
technologies and renewables (€26.9bn). Some 27% will go into digitalisation,
above all the modernisation of public administration (€41.4bn). And 22%
(€69.5bn) will support productivity-enhancing measures (education and
training).
Figure 315: EU – sectoral spending Figure 316: EU – sectoral spending

intentions based on national intentions based on national
Recovery and Resilience Plans (% Recovery and Resilience Plans
total grants) (grants, % of GDP)
% GDP
Other policies, 6% Other policies, 0.1
Green transition,
45% Productivity,
Productivity, competitiveness
competitiveness and innovation, 0.5
and innovation, Green transition,
22% 1.1
Digital
transformation,
27% Digital
transformation, 0.7
Source : National Recovery and Resilience plans, UBS Source : National Recovery and Resilience plans, UBS
calculations calculations
Labour markets during and after the crisis

The resilience of European labour markets – thanks to major public support via short- Short-time work schemes have
time and furlough schemes – has been one of the defining features of the Covid crisis. provided crucial support during the
Following a pre-crisis low of 7.1%, Eurozone unemployment rose to a peak of 8.6% in crisis and contributed to a quicker
August 2020, before declining to 7.4% in September 2021. As such, the labour market labour market recovery
fallout was modest when considering the enormous shock that the Covid crisis and
related mobility restrictions caused to Eurozone output. To a large extent, the
explanation lies in governments' large-scale interventions in labour markets via short-
time work and furlough schemes; without these, the rise in unemployment would have
been much sharper, and the resulting hit to household confidence and consumption
(which represents 55% of Eurozone GDP) would have been much worse.
To show the "real" extent of labour market stress, we have devised our own measure of Shadow unemployment still well
"shadow unemployment", which peaked at 21.7% in Q2 2020 before falling back to above headline unemployment, but
11% in Q2 2021. Furlough schemes will remain in place in many Eurozone countries at gap to narrow over time
least until end-2021 – in Italy until end-December 2021, in Spain until end-February
2022, and even longer in Germany and France (link). In France, however, the generous
conditions prevailing throughout the pandemic were tightened in September. We
expect the gap between shadow and official unemployment to narrow further as the
economic recovery continues. In other words, to the degree that labour markets recover,
governments can steadily reduce their support measures.

Figure 317: Eurozone unemployment (%) Figure 318: Official and shadow unemployment (%)
30 %
% 25
25
20
20
15
15
10
10
5
5
0 0
Jan-07 Jul-08 Jan-10 Jul-11 Jan-13 Jul-14 Jan-16 Jul-17 Jan-19 Jul-20 1Q-11 1Q-12 1Q-13 1Q-14 1Q-15 1Q-16 1Q-17 1Q-18 1Q-19 1Q-20 1Q-21
Eurozone Germany France Italy Spain Official unemployment rate Shadow unemployment rate
Figure 319: Official and shadow unemployment rates (%) Figure 320: Shadow unemployment breakdown (%)
30 Q2-21
Q1-21
Q4-20
SP
Q3-20
25 Q2-20
Shadow Q2-21
unemployment Q1-21
19.7 Q4-20
IT
20 rate Q3-20
Official Q2-20
unemployment 15.2 15.3 Q2-21
Q1-21
15 12.8 Q4-20
FR
rate
Q3-20
11.0 13.2 Q2-20
12.9 8.8 13.0 Q2-21
10 Q1-21
GE
7.3 Q4-20
Q3-20
Q2-20
5 Q2-21
Q1-21
Q4-20
EZ
Q3-20
0 Q2-20
Eurozone Germany France Italy Spain 0 5 10 15 20 25 30
Official UR
2Q-20 3Q-20 4Q-20 1Q-21 2Q-21 Additional unemployment due to short-time work and inactivity
Source : Haver, UBS calculations Source : Haver, UBS calculations
Figure 321: Short-time workers Figure 322: Unemployment rate forecasts (%)
35 18
% 16.2
% of employees
16
30 13.9
14 13.0
25
12
9.8 9.9 9.5
20 10
8.1 8.18.0 8.0
8 7.4 7.3
15
6
10 4.1
4 3.2 3.3
5 2
0 0
Mar-20 Jun-20 Sep-20 Dec-20 Mar-21 Jun-21 Sep-21 Eurozone Germany France Italy Spain
Germany France Italy Spain end-19 end-20 (F) end-21(F) end-22 (F) end-23(F)
Source : Federal Labour Office, Dares, INPS, Spanish government, UBS calculations. Source : Haver, UBS estimates
*Based on the actual take-up rather than the number of applications.
Amid the ongoing recovery and the apparent absence so far of significant scarring,
another aspect of the labour market is likely to grow in importance, namely wage
growth, which is likely to be key to the Eurozone inflation outlook over the next few
years; more on this below.

Headline inflation likely to ease, but core to rise in 2022/23
After falling into negative territory in H2 2020, a pick-up in inflation in 2021 was The sharp rise in inflation is likely to
anticipated, driven by strong positive energy base-effects and several one-off factors be temporary, but we see risks of
such as the reversal of the VAT rate cut, the new CO2 pricing scheme in Germany and inflation remaining high for longer
the revision of HICP weightings. However, the actual rise turned out to be much stronger
than we expected at the start of 2021, with inflation reaching an all-time high of 4.1%
in October, and we now expect a peak of 4.3% in November. While we expect this rise
to be largely temporary, with inflation falling back below the ECB's 2% target by Q4
2022, we acknowledge the risks that inflation might remain elevated for even longer
than assumed in our baseline. Overall, we expect headline inflation to average 2.5% in
2021, 2.2% in 2022 and 1.5% in 2023. We expect core inflation to rise from 1.4% in
2021 to 1.6% in 2022 and 2023.
Figure 323: Eurozone headline and core HICP, % y/y Figure 324: Eurozone inflation and key drivers, ppt
4.5
% y/y
Forecast % y/y Forecast
4.0
3.5
3.0
2.5 ECB target
ECB target 2.0
1.5
1.0
0.5 0.0
-0.5 -1.0
-1.5 -2.0
Jan-19 Jul-19 Jan-20 Jul-20 Jan-21 Jul-21 Jan-22 Jul-22 Jan-23 Jul-23 Jan-11 May-12 Sep-13 Jan-15 May-16 Sep-17 Jan-19 May-20 Sep-21 Jan-23
Germany France Italy Spain Rest Euro area
Core Food Energy Headline
Source : Haver, UBS estimates. Source : Haver, UBS estimates.
Two factors underpin our view that the rise in inflation is likely to be temporary: some
automatic unwinding of one-off factors in January 2022, and the temporary nature of
factors that have pushed inflation higher this year.
First, our baseline assumes that Eurozone inflation peaks at 4.3% y/y in November 2021 A combination of one-offs should
before declining to 4.1% y/y in December and more significantly to 3% in January. The bring inflation lower in January 2022
sharp decline in early 2022 is largely mechanical and can be explained by three factors:
(a) the hike in German VAT in January 2021 will disappear from the y/y inflation
calculation (which should trigger a decline in Eurozone inflation of around 0.3pp); (b)
the negative energy base effect related to a combination of higher German CO2 prices
and higher fuel prices in January 2021 (with an impact of 0.4pp on Eurozone inflation);
and (c) base effects related to changes in the timing of winter sales in Italy and France in
2021 (around 0.2pp).
Second, the faster-than-expected rise in inflation has been largely due to a sharp The upward price pressures from
increase in energy prices on the back of soaring oil and natural gas prices. More recently, energy and supply bottlenecks
the impact of supply bottlenecks on goods prices has also contributed to the rise in should be temporary...
inflation. However, the upward price pressures from both these factors should be
temporary. Stabilisation in energy prices, even at a high level, would lead to an
automatic decline in annual inflation rates in a year’s time (negative base effects); and
the eventual easing in supply bottlenecks should limit further increases in goods prices,
resulting in a one-off price level adjustment with no significant implications for medium-
term inflation.

Figure 325: Eurozone inflation – faster than expected rise Figure 326: Oil and gas prices
in 2021
4.5 350 UK gas prices up 299% since Jan-21 140

% y/y
4.0
300 European gas prices up 361% since Jan-21 120
3.5
3.0 250 100
Oil up 66% since Jan-21
2.5 200 80
2.0
1.5 150 60
1.0 100 40
0.5
50 20
0.0
-0.5 0 0
-1.0 Jan-10 Jul-11 Jan-13 Jul-14 Jan-16 Jul-17 Jan-19 Jul-20
Jan-20 Apr-20 Jul-20 Oct-20 Jan-21 Apr-21 Jul-21 Oct-21 UK Natural gas (GBP/therm, LHS) Europe Natural gas (EUR/Mhw, LHS)
October 2021 outturn January 2021 projections
Oil ($ bbl, RHS)
Source : Haver, UBS Source : Haver, Bloomberg and UBS
However, the key risk is that a combination of temporary factors keeping inflation high ...but there are risks that they have a
could become more embedded in inflation expectations. Higher inflation expectations, more persistent impact
in turn, could make trade unions and workers more aggressive in their wage demands,
and ultimately lead to a stronger pick-up in wage growth and core inflation. In addition,
it is likely that unions and employees will want to achieve compensation in the 2022
wage round for unexpectedly high inflation in H2 2021. All told, while we expect wage
growth to recover to its pre-crisis peak of 2.5% by the end of 2023, a faster and/or
stronger pick-up than this could lead to inflation remaining elevated for longer than we
currently expect. This would also present the ECB with difficult choices.

Box 3: Wage growth key for inflation outlook
In theory, with labour costs in general accounting for around 50% of total Historically, the trend of core
businesses expenses, in a situation where real wages grow faster than inflation has matched negotiated
productivity, companies, facing higher costs, should be raising the prices of the wages relatively well
goods and services they produce (link). Against this backdrop, it has been our
long-standing view that a sustained pick-up in core inflation requires higher
wage growth. Indeed, historically, the trend of core inflation has matched
negotiated wages relatively well – even though there have been occasions when
wages rose but core inflation remained tame (Figure 327).
Figure 327: Eurozone core inflation Figure 328: Eurozone negotiated

and negotiated wages (% y/y) wages (% y/y)
% y/y
4.0
4.0 % y/y
3.5
3.5
3.0
3.0
2.5
2.5
2.0
2.0
1.5
1.5
1.0 1.0
0.5 0.5
0.0 0.0
Jan-97 Nov-99 Sep-02 Jul-05 May-08 Mar-11 Jan-14 Nov-16 Sep-19 Jan-96 Jul-98 Jan-01 Jul-03 Jan-06 Jul-08 Jan-11 Jul-13 Jan-16 Jul-18 Jan-21
ECB Eurozone negotiated wages
Core HICP Monthly Eurozone negotiated wages UBS monthly indicator of Eurozone negotiated wages
Figure 329: Eurozone nominal Figure 330: Eurozone real negotiated

negotiated wages – country wages – country breakdown (% y/y)
breakdown (% y/y)
% y/y % y/y
4.0 4.0
3.5 3.0
3.0
2.0
2.5
1.0
2.0
0.0
1.5
1.0 -1.0
0.5 -2.0
0.0 -3.0
Jan-12 Jan-13 Jan-14 Jan-15 Jan-16 Jan-17 Jan-18 Jan-19 Jan-20 Jan-21 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16 Jan-17 Jan-18 Jan-19 Jan-20 Jan-21
Eurozone Germany France Eurozone Germany France
Italy Spain Netherlands Italy Spain Netherlands
Our monthly negotiated wage tracker suggests that, after peaking at 2.5% y/y in Wage growth has slowed during the
early 2019, Eurozone negotiated wage growth has been slowing (from 2.1% in pandemic, but we expect it to pick up
January 2020 to 1.6% in August 2021). The slowdown in wage growth during in 2022 and 2023
the pandemic is not surprising given the weaker negotiating position of workers
and trade unions amid strong demand for short-time work schemes and
concerns about unemployment. However, we expect this trend to change in
2022, in the context of what appears to be a relatively quick reabsorption of
labour market slack (i.e. the return of currently furloughed workers to
employment), labour shortages, and likely more aggressive negotiating tactics
by the trade unions in the context of higher-than-expected inflation; as we show
in Figure 330, the sharp rise in inflation in recent months has pushed Eurozone
real wage growth into negative territory.
Labour shortages
According to the latest European Commission Economic Sentiment survey, Labour shortages, if driven by more
25.4% of services and 22.6% of Eurozone industrial companies (both above the structural factors, could spill over
pre-Covid level) indicated labour shortages as a headwind to production in Q4, into higher wages
despite the ongoing, albeit rapidly falling, use of short-time work schemes. We
think this could be explained by two factors – first, a mismatch of skills between
available workers and vacancies and, second, Covid-related disruptions (e.g.
workers retraining and temporarily dropping out of the labour force or foreign
workers returning to their home countries during the pandemic). Overall, we
expect these labour shortages to prove largely temporary.
However, if current labour shortages turn out to be driven more by structural

changes, for example workers permanently switching jobs from restaurants to

delivery services, once economies fully reopen and fiscal support measures
(including short-time work) come to an end, companies might be forced to pay a
premium to attract new workers and possibly raise the wages of their existing
employees to prevent them from leaving. This could lead to higher wage growth
in some sectors, and – combined with higher expected inflation – spill over into
broader wage trends.
Figure 331: Industry – % of firms Figure 332: Services – % of firms

reporting labour shortages reporting labour shortages
30 35
25 30
20 25
20
15
15
10
10
5
5
0 0
-5 -5
Jan-90 Jan-94 Jan-98 Jan-02 Jan-06 Jan-10 Jan-14 Jan-18 Jan-03 Jul-05 Jan-08 Jul-10 Jan-13 Jul-15 Jan-18 Jul-20
France Italy Germany Spain Eurozone France Italy Germany Spain Eurozone
Source : Haver, UBS Source : Haver, UBS. Note: Negative values are due
to seasonal adjustment.
Wage negotiations – Germany the one to watch

As always in Germany, wage deals are done on a staggered basis, so it is crucial This year's key wage round in
to watch the timing of negotiations (and also the duration of wage agreements). Germany resulted in a very modest
A key wage round earlier this year in the German metals industry (covering 9.1% wage increase...
of employees), according to our calculations, resulted in a very moderate
increase of 0.7% on average over 2021 and 2022. Given that the current
agreement will last until September 2022 and the fact that metals industry wage
deals are typically followed by other manufacturing sectors, we expect wage
growth across the manufacturing sector to remain moderate this year, despite
the stronger sector performance compared to the services sector.
This year's wage negotiations in other sectors have so far pointed to wage
growth close to previous rounds, even as the initial demands by trade unions
were lower than in previous years; these settlements run until at least 2023. In
the retail sector (5.8% of all employees), wages are set to rise by an annual
average of 2.4% over 2021/22 (1.7% in 2021, 3% in 2022), compared to 2.2%
over 2019-20. In construction (1.5% of all employees), the recent wage deal
foresees average wage growth of 3.1% over 2021-23 (4.1% in 2021, 3% in
2022 and 2.2% in 2023), close to what was agreed in the last wage deal in
2018. Next up this year are state-level public employees (2.4% of employees),
where the trade union's initial demand is 5% versus 6% in 2019.
We expect German headline inflation to peak at 5.3% y/y in November, before ...but we think that next year's wage
gradually declining over the course of 2022. Our current baseline suggests that round is likely to produce higher
by September 2022, when the current metals industry wage agreement expires, wage settlements
inflation in Germany will likely drop below 2%. However, with high inflation
implying negative real wage growth throughout 2021 and at least H1 2022, we
expect the IG Metall trade union to go into the 2022 wage round with relatively
aggressive wage demands, aiming to compensate workers for the loss of
purchasing power. Assuming that by that time supply bottlenecks will have
eased and demand remains robust, we expect the next wage round to result in a
wage settlement closer to the pre-Covid levels of around 3%. The wage
negotiations in the chemicals industry (1.3% of employees) in March 2022 may
provide some indication of emerging wage pressures in the industrial sector. A
strong outcome from the negotiations in the industrial sector is also likely to
strengthen the bargaining position of the union representing federal level public
sector employees, where the new wage deal is due in December 2022.

Figure 333: German metals industry Figure 334: Share of employees for
wage negotiations results, %y/y which wages are negotiated – sector
breakdown
7%
30
6%
25
5%
20
4%
15
3%
10
2%
1% 5
0% 0
2013 2015 2016 2018 2021 2017 2018 2019 2020 2021 2022
Union demand Negotiated settlement Metals Public sector Retail Construction other
Source : WSI Tarifarchiv, UBS calculations. Note: Source : WSI Tarifarchiv, UBS.
Chart shows the average wage increase over the
duration of the wage settlement.
Figure 335: Timeline of German

wage negotiations
12
% of employees covered Public sector, federal level
10
Metals industry
8
Retail
6
Construction
4
Public sector,
state level
2
Chemical
0
Jan19 Jun19 Nov19 Apr20 Sep20 Feb21 Jul21 Dec21 May22 Oct22
Source : WSI Tarifarchiv, UBS.
Minimum wages are set to rise across the region

The minimum wage in Germany is currently set at €9.60 and is scheduled to
increase to €9.82 on 1 January 2022 and to €10.45 on 1 July 2022. However, the
recent preliminary agreement of the the current "traffic light" exploratory
coalition talks suggests a bigger increase (to €12) could take place in 2022.
Official statistics suggest that 3.5% of all German employees are paid the If approved by the new coalition, the
minimum wage (in addition, 1.3% are paid below the minimum wage, in part increase in the German minimum
because of exemptions). This suggests that a 14.8% increase in the minimum wage could have a significant impact
wage (from €10.45 to €12) could increase aggregate German wage growth by on Eurozone wage growth
0.5-0.7pp (and Eurozone aggregate wage growth by around 0.2pp).
Before coming into force, however, the increase has to be included in a formal
coalition agreement. Given that the coalition talks are likely to take time, we
would expect the increase (if agreed) to take place by July rather than January,
reinforcing our expectations of stronger wage growth in H2 2022.
Elsewhere in the region, minimum wages are also rising in France and Spain. In The minimum wage is also rising in
France (link, link), the minimum wage went up by 2.2% on 1 October 2021, with France and Spain, but the impact is
the increase triggered by the French Labour Code requirement to adjust the likely to be smaller
minimum wage when inflation exceeds 2%. With the change affecting around
13% of employees, it could lift aggregate wage growth in France by around
0.4pp (but only around 6bps for the Eurozone). The next minimum wage
increase will take place on 1 January 2022, as part of the usual annual
adjustment.
In Spain, the minimum wage is set to increase by 1.6% from 1 January 2022.
However, given that a much larger (22.3%) increase in 2019 led to a c0.3pp
increase in aggregate wage growth, we expect the impact of the upcoming
increase to be negligible at the Eurozone level.
All in all, we expect the upcoming minimum wage increases to add 0.3pp to
Eurozone wage growth, which would raise Eurozone inflation by around 0.1pp.

The wage-inflation pass-through is likely to be stronger this time
Our estimates suggest that a 1% increase in Eurozone wage growth historically
leads to a 0.3pp rise in core inflation (0.2pp in headline inflation). Using this
sensitivity, a return of Eurozone wage growth to the pre-Covid level of around
2% could lift Eurozone core inflation by 0.1pp, while a rise to the 2019 peak of
2.5% (our current baseline) would lift core inflation by around 0.3pp.
Unlike in 2019, when stronger wage growth did not result in a significant pick- We expect relatively strong wage-
up in core inflation, we expect the wage-inflation pass-through to be close to inflation pass-through on the back of
historical estimates. As we argued in 2019, one possible explanation for a companies' strong pricing power
weaker pass-through at that time is that as the demand outlook weakened, the supported by above-trend growth
ability of firms to pass higher input costs on to output prices (pricing power)
declined. However, with our baseline foreseeing GDP growing well above trend
in 2022 and then settling towards trend during 2023, we expect companies'
pricing power to hold up, allowing them to pass on higher labour costs.
A significant pick-up in wage growth could expose core inflation to upward A meaningful pick-up in wage
pressure and hence signal to the ECB that the chances of a sustainable return of growth could lift the outlook for core
inflation to the target are improving. This could prompt the ECB to accelerate its inflation and force the ECB to act
monetary policy normalisation.
ECB: Gradual normalisation of policy in 2022/23

How will the ECB conduct monetary policy in 2022 and 2023? Before we look forward,
we need to look back, as a number of ECB decisions from 2021 are likely to have a major
influence on the ECB’s policy in the coming years.
In July 2021, the ECB finalised its strategy review and rolled out new forward The ECB's new forward guidance has
guidance, which sets conditions for future interest rate hikes (currently -0.5%) and the raised the hurdle for policy
termination of QE. The ECB said that the Governing Council expects policy rates to normalisation
remain at their present or lower levels until it sees inflation reaching 2% ”well ahead of
the end of its projection horizon” and “durably for the rest of the projection horizon”,
and it judges that “realised progress in underlying inflation is sufficiently advanced” to
be consistent with the medium-term target of 2%. It added that this “may also imply a
transitory period in which inflation is moderately above target.” With this, the ECB
signalled that, before hiking rates, it wants to be much more confident than in the past
that it will meet its inflation target in a sustainable fashion, and it explicitly indicated that
it would be willing to tolerate a temporary overshooting of the target. As a
consequence, the ECB has clearly raised the hurdle for monetary policy normalisation.
The ECB also reiterated that its monthly asset purchases would “end shortly before it No rate hikes before the end of QE
starts raising the key ECB interest rates”, thus making it clear that when the time for
policy normalisation comes, it will first end QE and only then hike rates, not the other
way round.
The ECB has also signalled that it will take major policy decisions on 16 December 2021; ECB likely to take major policy
we think these will largely set the course for ECB policy in 2022. Based on new staff decisions on 16 December 2021
macroeconomic projections, which will include 2024 for the first time – and which we
expect to show that inflation will be below the 2% target in 2023 and 2024 – we expect
the ECB to take the following decisions on 16 December:
First, judging that the worst of the pandemic is largely over, the ECB will not extend PEPP likely to be terminated at the
the Pandemic Emergency Purchase Programme (PEPP) beyond the end of March end of March 2022
2022. However, according to the ECB’s current guidance, it will continue to reinvest the
principal payments from maturing securities purchased under the PEPP until at least the
end of 2023. So far, the ECB has used c€1.48 trillion of the overall PEPP envelope of
€1.85 trillion. Following purchases of €60-70bn in Q4 2021, we anticipate monthly
purchases of around €50-60bn in Q1 2022, provided financing conditions remain
supportive. As a result, around €75bn of the total PEPP envelope of €1.85 trillion would
remain unused by the time the programme comes to an end in late March 2022.

Figure 336: ECB asset purchases Figure 337: ECB asset purchases, cumulatively
200 4500
EUR bn EURbn
4000
150 3500
3000
100
2500
2000
50
1500
1000
0
500
0
-50 Oct14 Jul15 Apr16 Jan17 Oct17 Jul18 Apr19 Jan20 Oct20 Jul21
Oct14 Jul15 Apr16 Jan17 Oct17 Jul18 Apr19 Jan20 Oct20 Jul21
ABS PP CBPP3 CSPP (corp bonds) PSPP PEPP ABS PP CBPP3 CSPP (corp bonds) PSPP PEPP
Source : Haver, ECB , UBS Source : Haver, ECB , UBS
Figure 338: ECB asset purchases & 10y German Bund yield Figure 339: Combining APP and PEPP, the ECB is already
above the 33% issuer limit in many countries but PEPP
holdings are exempt from issuer limit calculations
50 0.0 50%
EUR, bn %
Week ending 22 -0.1 45% PEPP APP 33% limit
40
Oct
-0.2 40%
30
-0.3 35%
20
-0.4 30%
10 25%
-0.5
0 20%
-0.6
15%
-10 -0.7
10%
-20 -0.8
Dec-19 Mar-20 Jun-20 Sep-20 Dec-20 Mar-21 Jun-21 Sep-21 5%
PEPP APP Germany 10Y Bund yield (RHS) 0%
PT FI IE AT NL ES DE FR IT BE
Source : Haver, UBS Source : ECB, Bloomberg, UBS calculations
Second, to avoid cliff-edge effects when terminating the PEPP and to provide sufficient APP likely to be beefed up as of April
stimulus to return inflation sustainably to the 2% target, we think the ECB will 2022, when PEPP has ended
(temporarily) increase its Asset Purchase Programme (APP) above the current
amount of €20bn per month. This could happen in one of three ways:
(a) The ECB could raise the monthly APP amounts from €20bn to perhaps €40bn for
the duration of Q2 2022 (or longer) and then subsequently reduce the amount
again;
(b) The ECB could add an extra envelope for the APP to beef up the underlying APP
purchases of €20bn per month (similar to the temporary €120bn envelope the
ECB launched at the outset of the Covid crisis in March 2020), possibly stressing that
it might not use the full amount; or
(c) The ECB could move the entire APP from a monthly purchase scheme to an
envelope-based programme, in which it would allocate a larger amount for a longer
period (e.g. €300-400bn for a full year).
In our view, option (b), i.e. the extra envelope, is perhaps most likely, but we will watch We think an additional envelope on
closely over the coming weeks for any signals from ECB policymakers as to which way top of the monthly APP purchases of
they might be leaning. In any event, we believe the ECB will be more generous with its €20bn is probably the most likely
asset purchases in Q2 2022 to make sure that cliff-edge effects are avoided when it option
switches off the PEPP. However, we would expect the ECB to subsequently reduce the
underlying APP purchases again over H2 2022. Specifically, we think the ECB might
run the APP at a pace of €40bn in Q2 and Q3, before reducing purchases to €30bn in Q4

2022 and then to a "steady state" of €20bn as of Q1 2023. This would imply asset
purchases of €555bn in 2022 and €240bn in 2023, after €1,086bn in 2020 and
€1,051bn in 2021.
In this context, we would also highlight a recent speech by Isabel Schnabel, who argued Will APP turn more into a "signalling
that the character of the APP programme will likely change over time. As she explained, and commitment device"?
the main aim of the ECB’s asset purchases during earlier phases of the Covid crisis was to
stabilise markets and keep long-term bond yields low in order to maintain favourable
financing conditions. But, going forward, the asset purchases will increasingly become a
“signalling and commitment device” for ECB policy rates: what will become most
important is not the size of the monthly asset purchases, but how long the programme is
likely to run. After all, the ECB has signalled that rate hikes will only happen once QE has
ended. Hence, when the ECB finally signals that the end of the QE is getting closer, the
markets will know that rate hikes might also be approaching. Conversely, as long as QE
runs, rates should not be expected to rise.
Given that we do not expect the ECB to sustainably meet its inflation target for quite APP to run, and deposit rate to stay
some time, we expect the APP to continue, and the depo rate to stay at the current at -0.5%, for the foreseeable future
rate of -0.5% for the foreseeable future (i.e. at least until the end of our new
forecast horizon of end-2023, and probably even longer). Obviously, should the inflation
outlook change in a way that the likelihood of inflation being at or above the target in
2023/24 increases significantly (for example, against the background of much higher
wage growth as of 2022, see Box 3), the ECB would be forced to normalise its monetary
policy much faster; in this case, the APP and the first rate hike might well occur before
the end of 2023. But to reiterate, this is not our base-case scenario.
Figure 340: Key ECB interest rates Figure 341: Eurosystem balance sheet
6
10000
EUR bn Peak at 72% of GDP
Forecast
3 39% of
GDP
2 5000
15% of
GDP
1
11% of
0 GDP
-1
0
-2 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
Other assets Main refinancing operations
Jan-99 Jan-01 Jan-03 Jan-05 Jan-07 Jan-09 Jan-11 Jan-13 Jan-15 Jan-17 Jan-19 Jan-21 PSPP PEPP
ECB refi rate Deposit rate ABS purchases Covered Bond Purchase Programme 3
EONIA 3mth Euribor rate CSPP (corp bonds) LTRO (Dec-11, Feb-12 (3-yr))
Marginal lending facility rate TLTRO-I TLTRO-II
Source : ECB, UBS Source : ECB, Haver, UBS *Note: this projection assumes that APP purchases will run
until mid-2024.
Third, we expect the 16 December meeting to lead to an extension of the TLTRO-III TLTRO-III likely to be extended, but
funding-for-lending scheme to Eurozone banks, adding four more auctions in March, with less attractive pricing
June, September and December 2022. The ECB has recently argued that the TLTROs play
a “key role in preserving favourable bank financing conditions for households and
firms”, and we therefore think it will probably extend the scheme. However, we believe
the ECB will probably make the pricing of the new TLTROs less attractive, by removing
the sweetener that applies to the current TLTROs; this would effectively lift the
preferential rate from -1.0% to -0.5% (depo rate). If the ECB did not extend the scheme,
its balance sheet would likely suffer a sharp contraction (by roughly 20% of GDP), and
financial conditions could potentially tighten meaningfully when the current set of
TLTROs expires in 2023/2024 (see Figures 341-343). Nevertheless, we believe that a rise
in the TLTRO-borrowing rate as of June 2022 would likely lead many banks to pay back
their TLTRO borrowings and reduce the take-up of the additional auctions during H2
2022.

Figure 342: Outstanding TLTROs borrowings* Figure 343: TLTROs vs excess liquidity
2,500 20 EUR bn %
EURbn Forecast % GDP 4,500 150
18
4,000
2,000 16 130
3,500
14
3,000 110
1,500 12
2,500
10 90
2,000
1,000 8
1,500 70
6
1,000
500 4 50
500
2
0 30
0 0 Sep-14 Sep-15 Sep-16 Sep-17 Sep-18 Sep-19 Sep-20
Sep-14 Nov-15 Jan-17 Mar-18 May-19 Jul-20 Sep-21 Nov-22 Jan-24 Mar-25 Excess liquidity (€bn)
TLTRO-I TLTRO-II
TLTRO-III PELTROs TLTROs & PELTROs
TLTROs & PELTROs (% of GDP) TLTROs & PELTROs as a share of excess liquidity (RHS)
Source : ECB, UBS *This profile includes four additional auctions in 2022 and Source : ECB, UBS
assumes that 60% of the stock of the TLTROs will be repaid in June 2022
Fourth, we believe the ECB will not raise the issue/r limits for its APP (33% for We doubt the ECB will raise issue/r
sovereign bonds, 50% for supranational bonds) in the December meeting, but maintain limits for the APP at this stage
this as an option for the future. However, the ECB might well signal that the capital key,
while guiding its APP over the longer term, might not always apply strictly in the short
term; in doing so, the ECB would copy onto the APP a feature that it currently uses for
the PEPP. We have argued before that raising the issue/r limit or abandoning the capital
key would expose the ECB’s APP to new legal risk from the German Constitutional Court
(GCC). A case against the ECB’s PEPP is currently pending before the GCC.
Finally, the ECB will have to consider in December whether or not to change the Will the ECB lower its credit criteria
eligibility rules for the APP. The sensitivity of this issue applies chiefly to Greek so that Greek government bonds can
sovereign bonds, which are included in the ECB's PEPP programme but not the APP, as be included in the APP?
the latter requires an investment-grade rating, which Greek sovereign bonds do not
currently enjoy. As a consequence, if the ECB were to decide not to change the APP
rules, and there is no follow-up programme to the PEPP (featuring ongoing flexibility, as
discussed in the press), ECB purchases of Greek sovereign bonds would end when the
PEPP terminates at the end of March 2022. Greek central bank governor Yannis
Stournaras has explicitly lobbied for a change in the eligibility rules that would allow
Greek sovereign bonds to become eligible for the APP (link, link), but we are not sure
whether this proposal would gain majority support in the Governing Council. We will
follow any newsflow on this very closely ahead of the December meeting to see which
way the GC might be leaning. We note that the ECB would still be able to buy Greek
sovereign bonds as part of the reinvestment of maturing PEPP securities (which will
continue until at least the end of 2023, as mentioned above). The issue of the eligibility
of Greek sovereign bonds for the APP should not be confused with their eligibility as
collateral for ECB refinancing operations. At the outset of the Covid crisis, the
ECB issued a waiver according to which sovereign Greek debt could be accepted as
collateral (despite its sub-investment-grade status that prevented this before the crisis)
until June 2022, and we believe the ECB will sooner or later have to decide whether or
not to extend this waiver; Governor Stournaras has said he expects the waiver to be
extended. (For our latest macro update on Greece, please see our report: "Greece,
ticking all the boxes for a strong recovery, 15 September 2021.)
According to our base-case scenario, the Eurosystem balance sheet will continue to
grow from €8.3trn currently (70% of Eurozone GDP) to a peak of c.€9trn (72% of GDP)
by May 2022.
An important decision the ECB will have to take sometime in 2023 is whether or not to ECB due to decide in 2023 whether or
launch a digital euro, i.e. its own central bank digital currency (CBDC). Following not to launch a digital euro in 2026
extensive preliminary work, the ECB decided in July 2021 to launch a two-year
investigation, during which the technical work on a digital euro will be intensified. In
2023, the ECB will then make a final decision on whether or not to launch a digital euro.
In the event of a positive decision, which we anticipate, another three years of
preparation would be required, so that the digital euro might be launched sometime in
2026. For details, see our note: The ECB and the digital euro: A primer, 14 September
2021.

Figure 344: US and German 10y yield, and spread Figure 345: 10-year EMU GDP-weighted yield
2.0 350 1.00 2.50
300 0.50
1.5
2.00
250 0.00
1.0
200 1.50
-0.50
0.5
150 -1.00
1.00
0.0
100
-1.50
-0.5 0.50
50
-2.00
-1.0 0
Jan 20 Mar 20 Apr 20 Jun 20 Aug 20 Oct 20 Dec 20 Feb 21 Apr 21 Jun 21 Aug 21 Oct 21 -2.50 0.00
Jan-20 Mar-20 Apr-20 Jun-20 Aug-20 Oct-20 Dec-20 Feb-21 Apr-21 Jun-21 Aug-21 Oct-21
German 10-yr yield, % (lhs) US 10-yr yield, % (lhs) US vs German 10yr spread, bp (rhs)
Gap between nominal and real, bps (RHS) Nominal Real
Source : Haver, UBS Source : Haver, Bloomberg, UBS
Figure 346: European 10y yield, % Figure 347: 10y spread vis-à-vis Germany, bp
1.5 160
spread
10-yr yields, % 140
1.0
120
100
0.5
80
0.0 60
40
-0.5
20
0
-1.0 Jan-21 Feb-21 Mar-21 Apr-21 May-21 Jun-21 Aug-21 Sep-21 Oct-21
Jan-21 Feb-21 Mar-21 Apr-21 May-21 Jun-21 Aug-21 Sep-21 Oct-21
Germany France Italy Spain Greece Cyprus Portugal

France Italy Spain Greece Cyprus Portugal
Figure 348: Eurozone private sector loan growth,% y/y Figure 349: Eurozone private sector loan growth, % y/y
10 10
% y/y
% y/y
8 8
6 6
4 4
2 2
0
0
-2
-2
-4
-4
-6
-6
08 09 10 11 12 13 14 15 16 17 18 19 20 21 -8
Non-financial corporations Consumer credit House purchases 08 09 10 11 12 13 14 15 16 17 18 19 20 21
Other lending Total private sector credit Eurozone Germany France Italy Spain Netherlands
Source : Haver, ECB, UBS Note: Loans to non-financial corporations are adjusted for Source : Haver, ECB, UBS Note: Eurozone private sector credit ECB's official series.
sales and securitization; consumer credit, loans for house purchases and other For countries, private sector credit is calculated as the weighted average of adjusted
household loans are not adjusted; total private sector credit ECB's official series. loans to non-financial corporations and households.

Downside and upside risks
From a real economic perspective, new flare-ups in Covid infections, and particularly the Downside risk: New Covid variants,
emergence of new Covid strains against which the currently available vaccinations supply constraints, more aggressive
provide little or no protection, are probably the biggest downside risk, as they might rise in inflation
leave governments no choice but to roll out new mobility restrictions.
A further tightening of supply bottlenecks (transport delays, availability of key supplies)

or rise in energy prices could also lead to a further slowdown in growth over the coming
quarters. Equally, should current disruptions take a lot longer to clear, the downside risks
to growth would increase. Further bad news from China could also affect the Eurozone
negatively, as previous episodes (2014/15 and 2017/18) have shown.
While we believe that the current rise in inflation is temporary and should reverse again
in 2022, we acknowledge that the scenario of inflation rising much more sharply in the
short term and/or remaining well above the target for much longer could prove
disruptive for real economic and financial market sentiment, as it might leave the ECB no
choice but to deliver a faster and/or more extensive monetary policy normalisation/
tightening than is currently anticipated. This could unsettle risk markets and sovereign
bond markets, particularly of the more highly indebted countries in the south of Europe.
Should the Fed normalise US monetary policy much faster than we currently anticipate,
financial conditions and sentiment in the Eurozone would also likely suffer.
On the positive side, the comprehensive and efficient usage of EU recovery funds could Upside risk: EU recovery fund,
boost growth by more than our conservative estimates assume. Should Eurozone household dissaving, lower energy
households deploy the large stocks of forced savings faster than we anticipate, growth prices, new European political
might be boosted above our forecast. A significant fall of energy prices would also help. initiatives
The recovery of labour markets and credit growth might also proceed faster than
expected and imply upside risk.
Last but not least, should the EU/Eurozone enjoy a new wave of cooperation (with a new
government in Germany in place and the French presidential elections out of the way),
confidence might be boosted and European investment initiatives might be further
strengthened.

Eurozone
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 11962 12690 13711 13425 13013 14494 15837 17158
Real GDP growth, % 1.8 2.8 1.8 1.6 -6.5 5.1 4.8 2.0
Exports, % y/y 3.0 6.0 3.6 2.7 -9.4 9.4 6.3 3.9
Imports, % y/y 4.3 5.4 3.7 4.8 -9.3 5.8 4.5 3.9
CPI inflation, % y/y (year-end) 0.7 1.4 1.9 1.0 -0.3 4.1 1.2 1.4
Effective Policy rate, % (year-end)* -0.40 -0.40 -0.40 -0.50 -0.50 -0.50 -0.50 -0.50
10 year bond yield, % (year-end) 0.21 0.43 0.25 -0.19 -0.58 -0.10 0.25 0.50
EUR/USD (year-end) 1.05 1.20 1.15 1.12 1.23 1.18 1.25 1.30
EUR/GBP (year-end) 0.86 0.89 0.89 0.85 0.90 0.83 0.80 0.80
Fiscal accounts
Revenue, % GDP 46.3 46.2 46.5 46.4 46.8 46.1 47.3 48.3
Expenditure, % GDP 47.8 47.2 46.9 47.0 54.1 53.6 51.3 50.9
Primary balance, % GDP 0.6 1.0 1.4 1.0 -5.7 -6.1 -2.7 -1.4
of which domestic public debt, % GDP - - - - - - - -
of which external public debt,% GDP - - - - - - - -
% domestic public debt held by non-residents - - - - - - - -
Balance of payments
Trade balance, EUR bn 360 348 287 312 341 352 329 329
Exports, EUR bn 2112 2271 2335 2399 2184 2384 2448 2608
Imports, EUR bn 1752 1923 2049 2087 1843 2032 2119 2279
Current account balance, EUR bn 329 355 353 288 213 267 285 281
as % of GDP 3.0 3.2 3.0 2.4 1.9 2.2 2.2 2.1
Foreign direct investment (net), EUR bn 108 54 117 89 -175 80 100 100
Total FX reserves, EUR bn 707.6 669.7 719.1 813.6 879.7 839.0 779.0 719.0
Foreign exchange reserves excl gold, EUR bn 326.9 294.6 330.6 344.4 345.0 348.1 332.1 316.1

Germany
We lower our 2021 GDP growth forecast to 2.8% (from 3.7%; consensus 2.8%), as
the headwinds from supply disruptions are weighing on industry, even as the services
sector rebounded when the restrictions were lifted. With order books full, we still
project strong growth of 4.9% in 2022 (unchanged, consensus 4.4%) and forecast
1.8% in 2023 (consensus 2%). Wage growth so far has remained moderate, but
risks of second-round effects are rising as inflation remains elevated. A key focus will
be the metals sector wage negotiations in September 2022.
We project the new government to implement modest fiscal stimulus of c1% of GDP
over 2022 and 2023, partly as public investment and partly as investment support for
companies. We also think carbon taxes are set to rise further. By contrast, the new
German government might not be a key driver of European institutional reform.
Q3 GDP growth in Germany came in at 1.8% q/q, as supply constraints hitting the Weaker growth this year, stronger
manufacturing sector partly offset stronger consumption. We assume that these growth in 2022 as headwinds fade
headwinds will dissipate only gradually, taking until spring 2022, and, accordingly, have
cut our 2021 GDP projection by 90bp to 2.8%. Higher energy prices are likely to shave
around 30bp off growth. Given full order books and solid consumer spending, we
expect 2022 to see solid growth of 4.9%, helped by a rebound in manufacturing
production. In 2023, the economy should settle at 1.8%, above its estimated potential
growth rate. If our forecast is accurate, the German economy will have regained its pre-
Covid GDP level in Q1 2022.
The supply disruptions have hit the German auto sector particularly hard. While overall Supply disruptions dampen growth
industrial production is down 6% this year, motor vehicles production is down 28%, due by around 1pp
to the lack of crucial chip components. With the car sector accounting for 4.5% of GDP,
supply disruptions should dampen 2021 GDP growth by around 1pp. While the
UBS autos team expects these disruptions to ease and production to rebound sharply in
2022, the exact timing is uncertain and remains a downside risk.
German inflation has risen further than in other Eurozone countries: we project a peak in Higher inflation than elsewhere,
November of 5.3% versus 4.3% in the Eurozone, partly driven by base effects from the wage growth in focus
reversal of the temporary VAT cut in 2020 and the increase in the CO2 price at the
beginning of 2021. Once these base effects drop out, inflation should fall back again to
2% in H2 2022. Yet, there is a risk that higher temporary inflation leads to second-round
effects in wage negotiations, which could imply upside risks for inflation over the longer
term. Wage settlements in 2021, notably in manufacturing, have been very moderate,
while recent settlements in the retail and construction sectors were close to levels seen
pre-Covid. But improved labour market conditions and higher inflation rates, combined
with a likely substantial hike in the minimum wage next year, have increased the risks
that trade unions will be more forceful in the time ahead.
The labour market is improving faster than expected and we forecast the unemployment Labour market is improving rapidly
rate to decline to 3.3% by end-2023 – just above the pre-crisis low of 3% and down
from a temporary peak of 4.1% in late 2020. The number of short-time workers has
declined to 610k in September (from 6 million in April 2020), as mobility restrictions
were lifted, although numbers have recently risen again slightly in manufacturing.
Less expenditure on short-time work will also contribute to a declining budget deficit, Declining budget deficits, but also
which is projected to fall from 6.3% of GDP in 2021 to 2.8% in 2022 and 1.4% in 2023. more spending by the new
As the coalition-building after the election continues, we expect relative stability in government
economic policies as a three-party coalition involves compromises. We believe the most
meaningful change will be tighter climate change policies (including a higher CO2
price), fiscal expansion aimed at increasing public and private investment to perhaps 1%
of GDP, and a higher minimum wage. At the European level, we expect the new
government to follow a muddle-through approach rather than agreeing to wide-
ranging changes in the institutional set-up, including the fiscal rules.
Key downside risks to growth are longer-than-assumed supply disruptions weighing on Downside risks from supply
production, slowing world demand for German goods, and renewed mobility disruptions, global demand and new
restrictions. More forceful fiscal spending by the new government (and a potential restrictions
softening of the European fiscal rules) would be upside risks for near-term demand.

Figure 350: GDP growth components Figure 351: Industrial production and orders, 2015=100
10.0 130.00
Contribution to y/y GDP, ppt Forecast
8.0
120.00
6.0
110.00
4.0
2.0
100.00
0.0
90.00
-2.0
-4.0 80.00
-6.0
70.00
-8.0
-10.0 60.00
Q1 10 Q1 12 Q1 14 Q1 16 Q1 18 Q1 20 Q1 22 Jan-2010 May-2011 Sep-2012 Jan-2014 May-2015 Sep-2016 Jan-2018 May-2019 Sep-2020
Household Consumption Government Consumption Fixed Investment Manufacturing orders Industrial production
Net Exports Stocks Real GDP, %y/y
Source : Haver, UBS estimates Source : Haver, UBS
Figure 352: Industrial production, 2015=100 Figure 353: Negotiated wages by sector, % y/y
120 5.0%
110
4.0%
100
3.0%
90
80
2.0%
70
1.0%
60
50 0.0%
Jan15 Jul15 Jan16 Jul16 Jan17 Jul17 Jan18 Jul18 Jan19 Jul19 Jan20 Jul20 Jan21 Jul21 Jan-11 Jun-12 Nov-13 Apr-15 Sep-16 Feb-18 Jul-19 Dec-20
Industry Total economy Metal industry Services

excl constr Manufacturing Transport Chemical Metals
Source : Haver, UBS Source : Haver, UBS.
Figure 354: Timing of wage negotiations, share of total Figure 355: Eurozone vs Germany inflation
employees for which wages are negotiated
30 0
%y/y
25 0
20
0
15
0
10
0
5
0
0
2017 2018 2019 2020 2021 2022
Metals Public sector Retail Construction other 0
99 02 05 08 11 14 17 20
Eurozone Germany
Source : WSI Tarifarchiv, UBS. Source : Haver, UBS

Figure 356: Unemployment and short-time workers Figure 357: Factors limiting production, %
7000000 3600 80
3400 70
6000000
3200 60
5000000
50
3000
4000000
40
2800
3000000 30
2600
2000000 20
2400
10
1000000 2200
00
0 2000
Jan-08 Jul-09 Jan-11 Jul-12 Jan-14 Jul-15 Jan-17 Jul-18 Jan-20 Jul-21 (10)
Mar-1991 Aug-1995 Jan-2000 Jun-2004 Nov-2008 Apr-2013 Sep-2017
Short-time workers Unemployed persons ('000) (RHS)
Labour Equipment
Source : Haver, ifo, UBS Source : Haver, UBS
Figure 358: Change in unemployment rates vs 12 months ago across German

counties
Source : BfA, Haver, UBS Evidence Lab ( > Access Dataset)
Figure 359: Government budget balances, % of GDP Figure 360: Government investment as % of GDP
4.0 5
Government
forecast 4.5
2.0
4
0.0 3.5
(2.0)
2.5
2
(4.0)
1.5
(6.0) 1
0.5
(8.0)
1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 2020 2022 0
2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
Headline budget balance Structural budget balance
France United States Germany Italy United Kingdom
Source : Haver, German Ministry of Finance, UBS Source : Haver, UBS

Germany
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 3462 3696 3983 3895 3837 4201 4580 4955
Real GDP growth, % 2.1 3.0 1.1 1.1 -4.9 2.8 4.9 1.8
Private consumption, % y/y 2.2 1.7 1.4 1.6 -6.1 -0.2 5.8 1.1
Exports, % y/y 2.3 5.6 2.5 1.1 -10.1 7.1 5.3 4.3
Imports, % y/y 4.4 5.7 4.0 2.9 -9.2 5.9 3.7 4.5
10 year bond yield, % (year-end) 0.21 0.43 0.25 -0.19 -0.58 -0.10 0.25 0.50
EUR/USD (year-end) 1.05 1.20 1.15 1.12 1.23 1.18 1.25 1.30
EUR/GBP (year-end) 0.86 0.89 0.89 0.85 0.90 0.83 0.80 0.80
Fiscal accounts
General government budget balance, % GDP 1.2 1.4 1.8 1.5 -4.2 -6.3 -2.8 -1.4
Revenue, % GDP 45.5 45.6 46.3 46.7 46.9 47.0 47.0 46.8
Expenditure, % GDP 44.4 44.2 44.5 45.2 51.1 53.0 50.0 48.2
Public debt held by the central bank, % GDP - - - - - - - -
Balance of payments
Exports, EUR bn 1173 1260 1299 1310 1185 1203 1292 1333
Imports, EUR bn 924 1004 1071 1091 998 1033 1102 1141
as % of GDP 8.4 7.8 7.9 7.6 6.8 7.1 6.7 7.0
Foreign direct investment (net), EUR bn 43 34 20 76 -1 40 40 40
Total FX reserves, EUR bn - - - - - - - -
Foreign exchange reserves excl gold, EUR bn - - - - - - - -
Total FX reserves, % GDP - - - - - - - -

France
We raise our 2021 forecast by 70bp to 6.7% (consensus 6.1%), given much
stronger-than-expected growth in Q3, and lower our 2022 projection to 3.8% (from
4.7%, consensus 4%). For 2023, we forecast growth to decelerate to 1.7%
(consensus 2.1%), closer to its potential growth rate. Supply disruptions have less of
an impact on France than on Germany, given the larger share of services in GDP.
Labour markets have held up well, and we project the unemployment rate to remain
close to its current level of 8% over the forecast horizon.
The government has recently put in place fiscal measures worth ½% of GDP to ease
the headwind from higher energy costs. We expect the budget deficit to decline to
5% of GDP next year with a debt level of 114% of GDP. The Presidential election in
April 2022 will be a key focus point, increasing uncertainty also as regards the
outlook for structural reforms.
Q3 GDP came in at 3% q/q, stronger than in the Eurozone overall, as consumption Pre-Covid GDP level almost recovered
continued to rebound forcefully. We now project 2021 growth of 6.7%, up from 6%, in Q3 2021
partly because of historical upward revisions and solid Q3 growth, declining to 3.8% in
2022 and 1.7% in 2023. With GDP in Q3 just 0.1% below Q4 2019, France has
essentially returned to pre-Covid GDP levels earlier than Germany. France is less affected
by the supply disruptions than Germany, owing to the smaller share of manufacturing in
GDP (16% in France versus 28% in Germany, Figure 362). Consumer demand will be hit
by higher energy prices, but the government has decided to cap gas prices at its October
level throughout 2022 and announced transfers for lower-income households.
The labour market has held up better than expected in our last projection. Employment Unemployment declines, labour
in Q2 was 0.6% above pre-Covid levels as increased employment in the public sector shortages rise
and construction offset declines in manufacturing. The unemployment rate, at 8%, is
close to pre-Covid levels, but 500k workers remained on short-time in August (down
from 4.6 million in April 2020). The government is gradually tightening the conditions
for the use of short-time work, with companies having to shoulder a larger share of the
costs. Still, labour shortages have increased recently, as in other countries, and even as
unemployment remains relatively elevated.
The budget deficit is set to decline only gradually this year, to 8.1% after 9.1% in 2020, Budget deficit to remain above 3% of
even as growth is rebounding sharply and implying that substantial fiscal stimulus is still GDP in 2023
provided. In addition to the income support schemes, this stimulus reflects the measures
of the two-year “plan de relance” fiscal plan announced in September 2020, of around
€25bn (1% of GDP) in 2021 (including €10bn or 0.4% of GDP in production tax cuts
implemented in January). More recently, fiscal support of around ½% of GDP has been
put in place to dampen the impact of high energy prices on consumers, including a gas
price freeze throughout 2022 and one-time transfers of €100 to lower-income
households. The government plans only a gradual reduction of its budget deficit to 5%
in 2022 and 3.9% in 2023. Public debt is set to stand at 114% of GDP by 2023, up from
97.5% in 2019. Hence, both deficit and debt should remain above the limits set by the
Stability and Growth Pact, which is likely to be reactivated in 2023. We assume that the
EC will apply sufficient country-specific flexibility to allow France to maintain most of its
fiscal support.
A key focus for 2022 will be the Presidential election in April and the subsequent 2022 Presidential election a key focus
parliamentary elections in June. Opinion polls at this stage suggest President Macron
should remain in office, but the list of candidates is not yet official. In contrast to 2017,
France’s membership of the EU does not so far feature as a policy item, and, hence, the
election may be less systemically-important than last time. On the domestic agenda, the
future of reform implementation is an open question, with President Macron having
planned a pension reform that would unify the various pension regimes. As regards
Europe, the Presidential election will matter for decisions on European integration and
the reform of the fiscal framework, and the French EU presidency in H1 2022 may be
important in this regard.
Given the importance of the services sector, a resurgence of virus mutants remains a Virus mutations are a risk, but
downside risk to growth. At the same time, 73% of the population is vaccinated – a vaccination rates are high
higher rate than in many other large European economies, notably Germany.

Figure 361: GDP growth components Figure 362: Share of manufacturing, % of GDP
20 30
Forecast
15
25
10
20
5
0 15
-5
10
-10
5
-15
-20 0
Q1 07 Q1 09 Q1 11 Q1 13 Q1 15 Q1 17 Q1 19 Q1 21 Q1 23 Germany Japan Italy United States France Canada United
Kingdom
Household Consumption Government Consumption Fixed Investment
Manufacturing Services supplied to manufacturing
Net Exports Stocks Real GDP, % y/y
Source : Haver, UBS estimates Source : OECD, UBS
Figure 363: Business confidence Figure 364: Short-time workers, % of employment

35
% of employees
110
30
100
25
90 20
80 15
10
70
5
60
0
50 Mar-20 Jun-20 Sep-20 Dec-20 Mar-21 Jun-21 Sep-21
1501 1510 1607 1704 1801 1810 1907 2004 2101 2110 Germany France Italy Spain
INSEE Mfg climate INSEE Services climate
Source : Haver, UBS Source : National labour offices, UBS
Figure 365: Employment and unemployment, thousand Figure 366: Change in employment by sector 2021 Q2 vs
2019 Q4, thousand
25800 3300
25600 3100 Public employment 59.6
25400 2900
Non-market services 58.2
25200
2700
25000
2500 Market services 8.8
24800
2300
24600
Construction 64.6
2100
24400
24200 1900
Manufacturing -49.7
24000 1700
23800 1500 Agriculture 3.9
Jan-15 Oct-15 Jul-16 Apr-17 Jan-18 Oct-18 Jul-19 Apr-20 Jan-21
Employment Unemployment (RHS) -60.0 -40.0 -20.0 0.0 20.0 40.0 60.0 80.0

Figure 367: Working-age population (15-64 years), actual Figure 368: Fixed investment/GDP, %
and projections, 2020 = 100
120 25%
100
23%
80
21%
60
19%
40
17%
20
0 15%
20 23 26 29 32 35 38 41 44 47 50 53 56 59 62 65 68 71 74 77 80 83 86 89 92 95 98 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21
France Germany Italy Eurozone France Germany Italy
110
Figure 369: Non-financial corporate debt, % of GDP Figure 370: Percentage of population vaccinated
180 Share population fully vaccinated vs 1st dose received (%)
0 20 40 60 80 100
UAE
160 China
Chile
Singapore
Spain
140 Canada
Malaysia
Israel
120 Korea
Japan
France
New Zealand
100 Italy
Australia
Argentina
80 UK
Brazil
Taiwan
Germany
60 Turkey
Mar00 Sep01 Mar03 Sep04 Mar06 Sep07 Mar09 Sep10 Mar12 Sep13 Mar15 Sep16 Mar18 Sep19 Mar21 Switzerland
US
France Eurozone Advanced Economies
Fully vaccinated (% of population) Received a single dose (% of population)
Figure 371: Government debt, % of GDP Figure 372: Budget deficit, % of GDP
140 00
(01)
120
(02)
100 (03)
(04)
80
(05)
60
(06)
40 (07)
(08)
20
(09)
00 (10)
95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22 23 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22 23
France: Gen Govt: Net Lending [+] or Net Borrowing [-] (% of GDP)
France: General Government Debt as a Percentage of GDP (%) Stability and Growth Pact 3% deficit limit
Source : Haver, French 2022 draft budget, UBS Source : Haver, French 2022 draft budget, UBS

France
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 2470 2597 2793 2730 2629 2963 3191 3439
Real GDP growth, % 1.0 2.4 1.8 1.8 -8.0 6.7 3.8 1.7
Government consumption, % y/y 1.4 1.4 0.8 1.0 -3.2 6.2 1.4 1.0
Exports, % y/y 1.7 4.6 4.6 1.5 -16.1 8.0 6.0 3.8
Imports, % y/y 2.9 4.7 3.1 2.4 -12.2 6.7 5.1 3.8
Industrial Production (%) 0.4 2.3 0.6 0.5 -10.8 6.4 2.9 1.6
10 year bond yield, % (year-end) 0.68 0.78 0.71 0.12 -0.34 0.15 0.45 0.65
EUR/USD (year-end) 1.05 1.20 1.15 1.12 1.23 1.18 1.25 1.30
EUR/GBP (year-end) 0.86 0.89 0.89 0.85 0.90 0.83 0.80 0.80
Fiscal accounts
Revenue, % GDP 53.0 53.5 53.4 52.3 52.9 52.4 52.3 52.0
Expenditure, % GDP 56.7 56.5 55.6 55.4 62.1 60.5 57.3 55.9
Balance of payments
Trade balance, EUR bn -32 -46 -51 -47 -60 -63 -56 -56
Exports, EUR bn 471 495 520 534 441 476 505 524
Imports, EUR bn 503 541 571 580 501 541 575 604
Current account balance, EUR bn -12 -18 -20 -7 -44 -23 -25 -25
as % of GDP -0.5 -0.8 -0.8 -0.3 -1.9 -0.9 -1.0 -0.9
Foreign direct investment (net), EUR bn 38 10 51 5 36 20 21 21

Italy
We raise our 2021 GDP forecast from 5% to 6.2% (consensus 6.1%) on account of
the very strong rebound in Q2 and Q3. With some deceleration of growth in Q4 due
to ongoing supply disruptions, we lower our 2022 GDP forecast to 4.5% (from
4.7%; consensus 4.3%). For 2023, we predict 1.5% (consensus 2%) – well above
Italy's historical average growth rate.
We believe that investments financed by the EU recovery fund will add around ½pp
to growth in both 2021 and 2022. The budget deficit is projected to decline to 3.9%
of GDP by 2023 (from 9.5% this year). The debt ratio should stand at 148.2% in
2023 – up from 134.6% in 2019. Political uncertainty is expected to increase with
Presidential elections taking place before February 2022 and the next scheduled
parliamentary elections before June 2023.
Following GDP growth of 2.7% q/q in Q2 and 2.6% in Q3, both better than expected, GDP growth well above historical
we raise our 2021 forecast to 6.2% from 5%. But GDP would still be 0.9% below its average through 2023
pre-pandemic level in Q4 2021, at a time when the Eurozone in aggregate is expected to
have recovered its Q4 2019 level, illustrating the potential for Italy to catch up. For 2022
and 2023, we forecast growth rates of 4.5% and 1.5%, respectively. These are well
above Italy's average historical growth rate of ½%, helped by investments financed by
the EU recovery fund.
Unemployment has risen only slightly during the Covid crisis to a peak of 10.1% and Unemployment is low, but so is
now stands at 9.3%, below its pre-Covid level of 9.8%. However, labour force labour participation
participation, at 64.2%, still remains around 1pp below its pre-Covid level, suggesting
either that more people will start looking for work as the economy normalises (and,
hence, implying higher unemployment still to come), or that some have left the labour
force permanently. We project some normalisation in labour force participation, which
implies some temporary increase in unemployment in the next quarters, and also a
further increase in employment. At the end of 2023, we forecast an unemployment rate
of 9.5%, slightly below pre-Covid levels.
The budget deficit is expected to remain elevated at 9.5% of GDP this year, in line with Budget deficit to remain above 3% of
last year’s level. Along with continued income support measures, this also reflects a GDP in 2023
supplementary budget worth 1.9% of GDP, intended to finance additional expenditures
related to Italy’s Recovery and Resilience Plan (the latter is estimated to boost GDP
growth by 0.4pp in both 2021 and 2022, and by 0.3% in 2023). In 2022, we estimate
the budget deficit is set to decline to 5.8% of GDP (implying 1.6% of tightening in
cyclically-adjusted terms), but the 2022 draft budget also includes new support
measures worth €30bn (1.6% of GDP), including income tax cuts. For 2023, we forecast
the budget deficit to decline to 3.9% of GDP, and, hence, above the Stability and
Growth Pact deficit ceiling at a time when the Pact is set to be reactivated in 2023.
Nevertheless, the favourable nominal growth outlook implies that the debt ratio may
decline from 155.6% of GDP in 2020 to just under 150% by 2023.
Political uncertainty is likely to come on the agenda over the coming months. The Political uncertainty to rise with
mandate of current President Mattarella will end on 2 February and a successor will have Presidential and parliamentary
to be elected in the weeks before. This matters because if Prime Minister Draghi were to elections ahead
be elected for this post, this would raise questions about whether the current
technocratic government could continue, and the prospect of snap elections would
increase. Beyond the Presidential elections, the next scheduled parliamentary election is
to be held by 1 June 2023 at the latest (five years after the previous election and no later
than 70 days after this date), implying that campaigning may start in H2 2022. This
political uncertainty could matter for the outlook for structural reforms and could also
impact expectations about Italy's future fiscal path.
Downside risks include a renewed increase in mobility restrictions as Covid infections rise Italy's high public debt vulnerable to
(although 70.1% of the population are fully vaccinated). Also, given Italy’s high debt rise in bond yields
level, a substantial increase in bond yields, perhaps triggered by political uncertainty or a
change in monetary policy expectations, would pose a downside risk to growth. Upside
risks include a stronger-than-expected impact of structural reforms, significant reform of
the European fiscal rules that would provide more fiscal space over the longer term, and
further steps in European integration (including more permanent transfers to Italy).

Figure 373: Real GDP growth (%) Figure 374: Italy budget deficit, % of GDP
18 8
Govt.
Forecast forecast
15 6
12 4
9
2
6
0
3
0 -2
-3 -4
-6
-6
-9
-8
-12
-15 -10
-18 -12
Q1 07 Q1 10 Q1 13 Q1 16 Q1 19 Q1 22 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22
Net Exports Fixed Investment Government Consumption Budget balance Primary balance
Household Consumption Stocks GDP
Source : Haver, UBS estimates. Source : Haver, Italy MEF, UBS estimates
Figure 375: Business sentiment Figure 376: Public debt and interest expenses
65 120.0 160 12
150
60 110.0 10
140
55 100.0 8
130
50 90.0 120 6
110
45 80.0 4
100
40 70.0 2
90
35 60.0 80 0
Jan10 Dec10 Nov11 Oct12 Sep13 Aug14 Jul15 Jun16 May17 Apr18 Mar19 Feb20 Jan21 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22
Composite PMI Istat Business conf (2010=100, RHS) Gross debt (% of GDP) Implicit interest rate (% of gross public debt), RHS
Figure 377: Real GDP levels, Q1 2008=100 Figure 378: Consumer confidence, % balance
120 80
115 60
110 40
105
20
100
0
95
-20
90
-40
85
-60
80
-80
75 Q1-2005 Q4-2006 Q3-2008 Q2-2010 Q1-2012 Q4-2013 Q3-2015 Q2-2017 Q1-2019 Q4-2020
Q1-2008Q2-2009Q3-2010Q4-2011Q1-2013Q2-2014Q3-2015Q4-2016Q1-2018Q2-2019Q3-2020
Eurozone Italy Germany France Spain Major purchases, % balance Unemployment expectations
Source : Haver, UBS Source : Haver, INPS, UBS

Figure 379: Take-up of government guaranteed loans, % of Figure 380: Labour force participation, %
GDP
14% 90
12% 80
10%
70
8%
60
6%
4% 50
2% 40
0%
30
Mar-20 Jun-20 Sep-20 Dec-20 Mar-21 Jun-21 Germany Spain Eurozone France Italy
Germany France Italy Spain Switzerland UK LF participation total Female LF participation
Source : Haver, national sources, UBS estimates. Source : Haver, UBS
Figure 381: Payouts to Italy from the EU recovery fund, Figure 382: EU recovery fund: Fiscal impulse per year
% of GDP (grants only)
3.0 0.8 % of GDP

0.6
2.5 0.4
2.0 0.2
0.0
1.5 -0.2
-0.4
1.0
-0.6
0.5 -0.8
-1.0
0.0 2021E 2022E 2023E 2024E 2025E 2026E
2021E 2022E 2023E 2024E 2025E 2026E
Germany France Italy Spain
grants loans used for new spending loans used for existing spending
Source : Italian Recovery and Resilience Plan, UBS calculations. Source : EC, UBS calculations.
Figure 383: Household consumption and savings Figure 384: Labour market, %
25 20.0 68 14.0
15.0 66 13.0
20 64
10.0 12.0
62
5.0 11.0
15
60
0.0 10.0
58
10 9.0
-5.0
56
-10.0 8.0
54
05
52 7.0
-15.0
50 6.0
00 -20.0
Jan-2012 Feb-2013 Mar-2014 Apr-2015 May-2016 Jun-2017 Jul-2018 Aug-2019 Sep-2020
Mar-00 Mar-02 Mar-04 Mar-06 Mar-08 Mar-10 Mar-12 Mar-14 Mar-16 Mar-18 Mar-20
Gross HH savings rate, % (LHS) HH consumption, % y/y (RHS) Labour force participation Employment rate Unemployment rate (RHS)

Italy
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 1877 1964 2092 2009 1888 2117 2304 2494
Real GDP growth, % 1.4 1.7 0.8 0.4 -9.0 6.2 4.5 1.5
Government consumption, % y/y 0.7 -0.1 0.1 -0.5 1.9 0.9 -0.1 0.2
Exports, % y/y 1.9 6.0 1.6 1.8 -14.7 10.5 2.4 1.8
Imports, % y/y 4.2 6.5 2.8 -0.5 -13.4 11.2 2.8 3.2
CPI inflation, % y/y (average) 0.0 1.3 1.2 0.6 -0.1 1.8 1.5 0.8
Domestic private credit, %y/y -0.2 -0.8 0.6 -1.6 3.1 1.6 1.2 0.8
EUR/USD (year-end) 1.05 1.20 1.15 1.12 1.23 1.18 1.25 1.30
EUR/GBP (year-end) 0.86 0.89 0.89 0.85 0.90 0.83 0.80 0.80
Fiscal accounts
Revenue, % GDP 46.7 46.3 46.2 47.1 47.8 48.0 46.9 47.3
Expenditure, % GDP 49.1 48.8 48.4 48.6 57.3 57.5 52.6 51.2
Balance of payments
Exports, EUR bn 406 435 451 459 411 426 438 444
Imports, EUR bn 346 380 405 398 343 360 373 384
as % of GDP 2.6 2.6 2.5 3.2 3.8 3.3 2.7 2.8
Foreign direct investment (net), EUR bn -11 0 -5 1 19 1 1 1
Net International Investment Position, % GDP -11.6 -7.0 -4.3 -1.0 2.4 5.3 5.4 5.7

Spain
We project annual GDP growth of 4.6% in 2021 (cut from 5.9%), 6.1% in 2022 (cut
from 6.6%; consensus 5.8%), and 3.3% in 2023 (consensus 3.1%), supported by
strong household consumption, fixed investment (boosted by the EU recovery fund),
and a rebound in tourism.
We expect the consolidation of public finances to proceed relatively slowly – even by
2023, when we assume EU fiscal rules apply again, the budget deficit is likely to be
markedly above 3% of GDP. We believe the election cycle might also contribute to
the fiscal stance remaining fairly accommodative.
Following the deep GDP contraction of 10.8% in 2020 – above all, due to very strict GDP expected to grow by 4.6% in
lockdown measures, and a high dependency on tourism and hospitality – we now 2021, 6.1% in 2022, and 3.3% in 2023
expect the Spanish economy to grow by 4.6% in 2021, a downward revision from 5.9%
previously. The cut for 2021 has become necessary as the National Institute of Statistics
recently revised the GDP growth rates for Q1 (from -0.4% to -0.6% q/q) and Q2 (from
2.8% to 1.1% q/q) and as Q3 GDP growth has fallen short of expectations (2.0% q/q).
For Q4, we now expect a rate of 2.0% q/q (4.5% y/y).
Despite the weaker-than-expected economic performance in recent months, we project Key drivers of growth: household
the economic recovery to gain steam again over the course of 2022 as bottlenecks ease, consumption, fixed investment
rendering an annual GDP growth rate of 6.1% (6.6% previously). As before, we expect (supported by NGEU), and recovery
household consumption to benefit from the large stock of forced savings (€61.5bn or in tourism
5.5% of GDP) and declining unemployment, which stood at 14% in August, down from
a crisis peak of 16.7%, and a little above the pre-crisis low of 13.7%; we expect a further
decline to less than 13% by end-2023. In September, 230,000 people (or 1.2% of
employees) still benefitted from the government's ERTE furlough scheme, down from a
peak of 3.5 million in April 2020; the scheme has been extended until end-February
2022. Fixed investment should benefit from significant receipts from the EU recovery
fund (NGEU). We estimate that Spain is eligible to receive an overall amount of up to
€163.2bn (13.7% of GDP), with €78.3bn in grants (6.6% of 2021 GDP) and up to
€84.9bn in loans. In nominal terms, Spain would thus receive the second highest
amount of all EU countries, after Italy. We have estimated that the grant element alone
could boost Spanish GDP growth by almost 0.6pp in both 2021 and 2022, and close to
0.4pp in 2023, with a heavy focus on the green and digital transition. The recovery in
tourism, which might only be completed by 2023, should also support growth. For
2023, we project a GDP growth rate of 3.3%, well above Spanish trend growth
(c.1.5%). According to this forecast, Spanish GDP would return to its pre-Covid level in
late 2022.
We expect Spain's budget balance to decline from -11% of GDP in 2020 to c. -8.4% of Moderate fiscal consolidation
GDP in 2021, in line with the government's latest estimate. At the same time, the expected for 2022 and 2023
cyclically-adjusted budget balance, which is a better reflection of the underlying fiscal
stance, is likely to have been broadly unchanged at around -3% of GDP this year. For
2022 and 2023, we expect budget balances of 5.3% and 4.3% of GDP, respectively,
with cyclically-adjusted primary balances of -2.5% and -2.3% of GDP. This would imply
fiscal tightening of 0.7pp in 2022 and 0.2pp in 2023. Although the EU fiscal rules should
apply again in 2023, after being suspended in 2020-2022, we do not expect this to
trigger major fiscal tightening in Spain. In fact, according to the government's 2022
draft budget, even by 2024, the budget deficit would still be modestly above the 3%
Maastricht threshold. We believe the election cycle might also contribute to a relatively
generous fiscal stance in the coming two years.
As a result of the Covid crisis, Spanish public debt rose from 95.5% of GDP in 2019 to Public debt to resume its downward
120% in 2020, and we expect a further rise to 121.6% of GDP in 2021. Due to strong trend, from an expected 121.6% of
growth and declining budget deficits, the debt stock is likely to fall to 118.3% of GDP in GDP in 2021
2022 and 116.9% in 2023. We see no major risks to the sustainability of Spanish public
debt, although we would expect Spanish debt dynamics to receive greater attention
once the ECB finally starts normalising its monetary policy.
The minority government of the Social Democrats (PSOE) and left-wing Podemos, under General elections are due by late
the leadership of Prime Minister Pedro Sánchez (PSOE), will be facing general elections 2023 at the latest, but might well
by December 2023 at the latest. However, we would not rule out that the election might happen earlier
take place earlier.

Figure 385: GDP growth (%) and contributions Figure 386: Quarterly growth outlook
9 20 20
forecast
6 15
15
10
3
10 5
0
0
-3 5
-5
-6
0 -10
-9
-15
-5
-12
-20
-15
-10 -25
2011 2013 2015 2017 2019 2021 2023
Q1 19 Q3 19 Q1 20 Q3 20 Q1 21F Q3 21 Q1 22F Q3 22F Q1 23F Q3 23F
Household consumption Government consumption Fixed Investment
%qoq (LHS) %yoy (RHS)
Net Exports Stocks GDP
Figure 387: Spanish GDP to return to pre-crisis level Figure 388: Unemployment rate, %
relatively late
GDP levels compared to Q4-19 30
Q4-20 Q4-21 Q4-22 Q4-23

Eurozone 25
0.5
Q4-20 Q4-21 Q4-22 Q4-23
Germany 20
Q4-20 Q4-21 Q4-22 Q4-23 15

France
Q4-20 10
Q4-21 Q4-22 Q4-23
Italy
5
Q4-20 Q4-21 Q4-22 Q4-23
Spain
0
-10 -8 -6 -4 -2 0 2 4 6 8
Eurozone Spain
Figure 389: International tourist arrivals in Spain, % Figure 390: Spain – excess savings
change and millions
1100 12 24 70
% disposable income €bn
22
60
900 10
20
18 50
700 8
16
6.3% - savings rate in 40
500 6 14 2019
30
12
300 4
10 20
100 2 8
10
6
-100 0
Jan-15 Jan-16 Jan-17 Jan-18 Jan-19 Jan-20 Jan-21 4 0
1Q-20 2Q-20 3Q-20 4Q-20 1Q-21 2Q-21
Tourist arrivals, millions (rhs)
Excess savings Savings rate (LHS)
Tourist arrivals, % y/y
Tourist arrivals, % change vs same month of 2019

Figure 391: Fiscal balances (% of GDP) Figure 392: Public debt (% of GDP)
0.0 140
fcst
120
-2.0
-2.5 -2.3
100
-4.0 -3.1 -3.2
-4.3 80
-6.0 -5.3
60
-8.0
-8.4 40
-10.0
20
-11.0
-12.0
2018 2019 2020 2021F 2022F 2023F 0
2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 2020 2022F
General government budget balance, % GDP Cyclically-adjusted primary balance, % GDP Government debt, % of GDP (rhs)
Figure 393: The 4 pillars of the Spanish RRF (€bn) Figure 394: Spain's expected receipts under NGEU
4.85 25
6.19
20
29.08 15
10
29.4
0
2021E 2022E 2023E 2024E 2025E 2026E
Grants Loans
Green transition Digital transformation Social and territorial cohesion Gender equality
Source : Spain Resilience and Recovery plan, UBS Source : UBS estimates
Figure 395: Spanish debt*, by sector (% of GDP) Figure 396: Spain private sector loans, %y/y
30
450 % y/y
% GDP
25
400
20
350
15
300 10
250 5
0
200
-5
150
-10
100
-15
50 -20
04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21
0 Non-financial corporations Consumer credit House purchases
1Q-99 1Q-02 1Q-05 1Q-08 1Q-11 1Q-14 1Q-17 1Q-20
Other household loans Total private sector
General government Households NFCs Financial institutions Total debt
Source : Haver, UBS. *Debt is calculated as a sum of loans and debt securities using Source : Haver, UBS
quarterly financial balance sheet data by sector

Spain
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 1232 1313 1421 1393 1282 1418 1566 1718
Real GDP growth, % 3.0 3.0 2.3 2.1 -10.8 4.6 6.1 3.3
Exports, % y/y 5.4 5.5 1.7 2.5 -20.2 11.4 12.4 5.8
Imports, % y/y 2.7 6.8 3.9 1.2 -15.2 11.0 6.7 3.7
CPI inflation, % y/y (average) -0.3 2.0 1.7 0.8 -0.3 2.9 2.5 0.8
Domestic private credit, %y/y -2.9 -1.8 -2.2 -0.6 2.1 -1.2 -1.6 -1.4
EUR/USD (year-end) 1.05 1.20 1.15 1.12 1.23 1.18 1.25 1.30
EUR/GBP (year-end) 0.86 0.89 0.89 0.85 0.90 0.83 0.80 0.80
Fiscal accounts
Revenue, % GDP 38.1 38.2 39.2 39.2 41.3 41.7 41.3 41.5
Expenditure, % GDP 42.4 41.2 41.7 42.1 52.3 50.1 46.6 45.8
Balance of payments
Trade balance, EUR bn -14 -22 -29 -27 -9 -12 -20 -30
Exports, EUR bn 259 281 291 295 265 301 315 329
Imports, EUR bn 274 303 321 321 274 313 335 358
as % of GDP 3.2 2.8 1.9 2.1 0.8 0.9 1.5 1.4
Foreign direct investment (net), EUR bn 11 12 -17 7 20 6 7 12

Switzerland
We lower our 2021 forecast by 20bp to 3.1%, but raise 2022 slightly to 3.1%
(consensus 3.4% and 3%, respectively), as supply disruptions that weigh on H2
2021 are assumed to dissipate in 2022. For 2023, we project 1.7% growth
(consensus 1.6%). GDP should have returned to its pre-Covid level in Q3 2021, one
quarter earlier than the Eurozone.
Inflation has increased as in other countries, but with an expected peak of 1.5% in
December 2021, it remains within the SNB’s 0-2% inflation target range. For 2022
and 2023, we project average inflation of 0.7% and 0.6%, respectively. The SNB is
expected to keep policy rates on hold until at least 2023 and resort to FX
interventions if faced with an appreciating franc. Over the longer term, continued
uncertainty about the Swiss-EU institutional framework agreement could become a
headwind to the Swiss-EU trading relationship.
Swiss GDP rebounded by 1.8% q/q in Q2 and is expected to have grown by 1.5% q/q in Switzerland to recover pre-Covid
Q3 (to be released on 26 November). Supply disruptions are expected to weigh on GDP level ahead of the Eurozone
activity during the rest of the year, but stronger production is expected in 2022 once
these disruptions dissipate and the large stock of orders can be worked off. For 2021
overall, we project GDP growth of 3.1% (after -2.5% in 2020), to be followed by 3.1%
in 2022 (consensus 3.4% and 3%, respectively), and 1.7% in 2023. Under this forecast,
Switzerland would have recovered its pre-Covid GDP level in Q3 2021, earlier than the
Eurozone and Germany.
Inflation in Switzerland has risen from -0.5% in January to 1.2% y/y in October, with Inflation increases, but remains well
around 60% of the increase driven by energy effects. We expect inflation to peak at within the SNB inflation band
1.5% in December, followed by a decline to an average of 0.7% in 2022 and 0.6% in
2023 when energy base effects are expected to fade. The SNB’s forecast (conditional on
unchanged policy rates) foresees inflation reaching 0.8% in Q2 2024. Hence, inflation
over the forecast horizon is expected to remain well within the SNB’s target range of
“below 2%” and close to its long-run average of around 1%.
In such an environment, SNB monetary policy is projected to stay on hold. Concerns We project the SNB to keep policy
about the negative side effects of continued negative rates, such as rising housing prices rates unchanged until at least 2023
and their impact on financial stability, exist, but the SNB seems intent on countering
these with macroprudential measures. Foreign exchange interventions remain a policy
tool even though the SNB has not made much use of it this year. Accordingly, the SNB’s
balance sheet has risen just slightly by 3pp this year to 145% of GDP in Q2, after having
surged by 23% of GDP in 2020. In the absence of meaningful FX interventions, sight
deposits have also stabilised and the SNB has left the tiering multiplier unchanged.
Currently, 77% of sight deposits are exempted from negative rates.
We expect the SNB policy rate to remain at -0.75% until end-2023 and probably Higher-than-assumed inflation and
beyond. We think the SNB will aim to at least maintain the current policy rate differential an earlier ECB hike could force the
to the ECB, which argues in favour of hiking rates only after the ECB has done so (and SNB to adjust earlier as well
perhaps with some delay on the part of the SNB). The key risk to this view is a much more
durable increase in inflation (in Switzerland and the Eurozone) than we assume, which
could bring forward expectations for ECB as well as SNB tightening. In our view,
SNB rate hikes ahead of the ECB would require a substantial depreciation of the franc,
which would drive the SNB inflation forecast above the SNB's target range, which is not
our baseline scenario. Conversely, if there were a need for an easier SNB policy stance,
perhaps as a result of franc appreciation dampening the inflation outlook, we think the
SNB would scale up FX interventions before considering rate cuts.
A key longer-run uncertainty is the future of Swiss-EU relations after the seven-year Swiss-EU trading relations a longer-
negotiations about an Institutional Framework Agreement (IFA) broke down in May term risk, given uncertainty about
2021. The IFA was intended to provide an institutional basis for updating existing, and the Institutional Framework
reaching new, bilateral agreements, which form the basis of the Swiss-EU trading Agreement
relationship. Over time, the risk is that existing agreements will not be updated or
upgraded when the EU changes its internal rules, and that no new agreements will be
reached. In turn, this could complicate Swiss firms' access to the EU market by increasing
bureaucratic hurdles, leading to a gradual erosion of the Swiss-EU trading relationship.

Figure 397: Real GDP growth Figure 398: Unemployment and short-time work
10
4.0 30
Forecast
8
3.5
25
6
3.0
4 20
2.5
2
2.0 15
0
1.5
10
-2
1.0
-4 5
0.5
-6
0.0 0
Jan-17 Sep-17 May-18 Jan-19 Sep-19 May-20 Jan-21 Sep-21
-8
-10
Q1 07 Q1 09 Q1 11 Q1 13 Q1 15 Q1 17 Q1 19 Q1 21 Unemployment rate Short-time worker, % of employment (RHS)
Domestic demand contribution to GDP, ppts Real GDP, %y/y
Source : Haver, UBS Source : Haver, SECO, UBS
Figure 399: Manufacturing and Services PMI Figure 400: Industrial production by sector, 2015=100
75 170
Index 50+ = Expansion
70 160
65
150
60
140
55
130
50
120
45
110
40
100
35
30 90
25 80
20 70
Jan-17 Jul-17 Jan-18 Jul-18 Jan-19 Jul-19 Jan-20 Jul-20 Jan-21 Jul-21 Q1-2012 Q1-2013 Q1-2014 Q1-2015 Q1-2016 Q1-2017 Q1-2018 Q1-2019 Q1-2020 Q1-2021
Manufacturing PMI Services PMI
Total Pharma Machinery & equipment
Figure 401: Swiss goods trading partners, % of total Figure 402: SNB balance sheet composition
160
2.0% 1.1% 0.8%
6.9%
140
EU 120
40.8% Asia
100
24.3% North America
Non-EU Europe 80
Central & South America

60
Africa
Oceania 40
20
24.2%
0
Q1-2010 Q2-2011 Q3-2012 Q4-2013 Q1-2015 Q2-2016 Q3-2017 Q4-2018 Q1-2020 Q2-2021
FX reserves, % of GDP Total assets, % of GDP
Source : BFS, UBS Source : OECD, UBS

Figure 403: Composition of FX reserves, Q2 2021 Figure 404: Inflation, % y/y
1.5
23%
1.0
0.5
Government bonds 0.0
Other bonds
11% Equities -0.5
66% -1.0
-1.5
-2.0
Mar-10 Mar-12 Mar-14 Mar-16 Mar-18 Mar-20 Mar-22
Headline inflation UBS forecast SNB forecast
Source : SNB, UBS Source : Haver, UBS
Figure 405: Inflation – domestic versus foreign, % y/y Figure 406: Exchange rate (EUR/CHF)
1.5 1.80
1.60
1
1.40
0.5 1.20
1.00
0
0.80 Minimum exchange rate
Sep-11 – Jan-15
-0.5 0.60
0.40
-1
0.20
-1.5 0.00
Jan-16 Jul-16 Jan-17 Jul-17 Jan-18 Jul-18 Jan-19 Jul-19 Jan-20 Jul-20 Jan-21 Jul-21 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14 Jan-16 Jan-18 Jan-20
Domestic goods and services Foreign goods and services
Figure 407: SNB versus ECB policy rates, % Figure 408: SNB sight deposits and exemption threshold,
million CHF
5.00 700,000
600,000
4.00
500,000
3.00
400,000
300,000
2.00
200,000
1.00
100,000
0.00 0
Jan15 Oct15 Jul16 Apr17 Jan18 Oct18 Jul19 Apr20 Jan21 Oct21
(1.00)
Jun02 Jul04 Aug06 Sep08 Oct10 Nov12 Dec14 Jan17 Feb19 Mar21
Total sight deposits at SNB Sight deposits exempted from negative rates
ECB main refinancing rate ECB deposit rate SNB 3M Libor target rate

Switzerland
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 696 705 736 733 753 808 827 844
Real GDP growth, % 2.0 1.7 2.9 1.2 -2.5 3.1 3.1 1.7
Government consumption, % y/y 0.4 0.6 1.0 0.7 3.5 6.3 -4.1 0.6
Exports, % y/y 6.8 3.7 4.9 1.5 -6.0 6.0 6.6 3.0
Imports, % y/y 4.0 3.9 3.5 2.3 -7.8 2.5 5.3 3.1
CPI inflation, % y/y (year-end) -0.2 0.8 0.9 -0.1 -0.7 1.1 0.3 0.2
Policy rate, % (year-end) -0.75 -0.75 -0.75 -0.75 -0.75 -0.75 -0.75 -0.75
10 year bond yield, % (year-end) -0.14 -0.07 -0.15 -0.46 -0.49 -0.10 0.20 0.45
USD/CHF (year-end) 1.00 0.99 1.00 0.97 0.88 0.90 0.90 0.91
EUR/CHF (year-end) 1.08 1.17 1.13 1.09 1.08 1.07 1.12 1.18
Fiscal accounts
Revenue, % GDP 32.3 33.1 32.6 32.8 33.7 33.2 33.0 33.0
Expenditure, % GDP 32.1 32.0 31.3 31.5 36.5 35.2 33.3 33.1
Primary balance, % GDP 0.4 1.3 1.4 1.5 -2.7 -1.9 -0.2 0.2
Balance of payments
Trade balance, CHF bn 61 63 71 71 58 71 75 76
Exports, CHF bn 322 324 338 340 330 348 367 374
Imports, CHF bn 261 260 267 270 272 276 292 297
Current account balance, CHF bn 54 41 38 36 27 53 57 56
as % of GDP 7.9 5.9 5.3 4.9 3.8 7.2 7.5 7.2
Foreign direct investment (net), CHF bn 16 -90 109 35 60 30 30 30
Total FX reserves, CHF bn 691.2 792.9 777.1 827.3 955.4 1036.1 1097.8 1135.5
Foreign exchange reserves excl gold, CHF bn 651.1 749.6 734.3 777.3 898.4 980.1 1032.1 1084.1

UK
We project annual GDP growth of 7.0% in 2021 (consensus: 7.0%), 4.6% in 2022
(cut from 5.8%, consensus 5.0%) and 1.5% in 2023 (consensus 2.0%). While the
rising cost of living, in particular energy prices, is likely to weigh on household
consumption over the coming months, the ongoing labour market recovery and
large stocks of accumulated savings are likely to support the recovery in domestic
demand. Our baseline assumes that GDP returns to pre-Covid levels in Q1 2022.
Against the backdrop of the sharp increase in inflation, albeit likely largely temporary,
we expect the BoE to deliver the first hike of the cycle, 15bps, in December 2021,
followed by another two (25bps) hikes each in 2022 and 2023. The stronger growth
recovery has allowed the Chancellor to announce additional spending in the Autumn
Budget. However, the automatic expiry of Covid-related measures still implies a
sizeable drag on growth next year.
Following the sharp 9.7% GDP contraction in 2020, we expect UK GDP to grow 7% in UK GDP forecast to grow by 7% this
2021. Against the backdrop of weaker indications from July and August monthly GDP, year, although growth in H2 is likely
we have lowered our GDP growth estimates for Q3 (to 1.5% q/q from 2.9%) and Q4 (to to be slower than previously
1% q/q from 1.7%). Despite these downward revisions, the upward revision to GDP expected
growth in H1 (to -1.4% q/q from -1.6% q/q for Q1, and to 5.5% q/q from 4.8% for Q2)
leaves our annual average forecast unchanged.
Our revised 2022 GDP forecast of 4.6% implies a 1.2pp downward revision, which can We now expect GDP to grow 4.6% in
be explained by two factors. First, a mechanical 1pp impact due to the negative 2022 (down from 5.8%) due to
statistical carry-over effect of weaker growth in H2 2021. Second, we expect higher fuel weaker growth in H2 2021 and
prices and an upcoming increase in gas and electricity tariffs in April 2022 to weigh on somewhat softer consumption in
households' disposable incomes, leading to marginally slower quarterly GDP growth 2022
rates in 2022.
Despite the expected headwind of rising energy prices, we continue to expect private Private consumption likely to be the
consumption to be the main driver of the recovery, supported by the ongoing labour main driver behind the recovery
market recovery and large stocks of accumulated savings. Our calculations suggest that
by the end of Q2 2021, UK households had accumulated £212bn (c.10% of GDP) in
excess savings, which we expect to cushion the impact of rising energy bills. After
peaking at 5.2% in December 2020, the unemployment rate declined to 4.5% in
August 2021, 0.7pp above the pre-crisis low of 3.8%. A record number of vacancies, in
combination with a sharp pick-up in hiring intentions, suggest that the labour market
recovery is likely to continue. While we expect the unemployment rate to edge up to
5.2% in Q4, following the end of the furlough scheme at the end of September, we
expect this increase to be temporary, such that a gradual decline should resume over the
course of 2022 and 2023. Overall, after growing 4.6% in 2022, we expect UK GDP to
grow 1.5% in 2023.
Between March 2020 and October 2021, the UK government announced £407bn Stronger recovery allows for more
(19.3% of GDP) of Covid-related fiscal measures, spread over three years. The stronger spending, although overall fiscal
growth recovery has enabled the Chancellor to announce, at the Budget in October, stance is still on track to get tighter
additional spending worth £50bn (2.2% of GDP) over FY21-23, while lowering deficit over the coming years
projections. While the fiscal drag on growth, measured as a change in the cyclically
adjusted primary balance, was revised down from the March Budget (to 4.2% from
5.4%), the overall fiscal stance is still projected to tighten over the coming years.
After delivering 65bps in rate cuts and £450bn in asset purchases (20% GDP) in BoE likely to begin the hiking cycle in
response to the Covid crisis, the BoE has recently turned hawkish, implying that it is likely 2021 but proceed steadily with two
to be one of the first major central banks to hike rates. Following the hawkish hikes each in 2022 and 2023
September MPC minutes, in particular the paragraph referring to Bank Rate as the
preferred initial tightening tool "even if that tightening became appropriate before the
end of the existing…asset purchase programme", expectations of rate hikes were
further fuelled by Governor Bailey's hawkish comments (link, link), suggesting rising
concerns about the medium-term inflation outlook. With the BoE staying on hold at its
most recent meeting on 4 November, we expect it to deliver the first hike of the cycle,
15bps, at the MPC meeting on 16 December. Despite a relatively early start to the hiking
cycle, we would expect the MPC to continue steadily, with two more hikes of 25bps
each in May and November 2022, followed by another two hikes of the same
magnitude in 2023.

Figure 409: UK GDP – component breakdown (% y/y) Figure 410: UK GDP forecast
GDP
40 20 25
% y/y, contr.
Forecast
30 15 20
15
20 10
10
10 5 5
0 0 0
-5 -5
-10
-10
-10
-20 -15
-15 -20
-30
1Q-15 1Q-16 1Q-17 1Q-18 1Q-19 1Q-20 1Q-21 1Q-22 1Q-23 -20 -25
Private consumption Government consumption 1Q-18 4Q-18 3Q-19 2Q-20 1Q-21 4Q-21 3Q-22 2Q-23
Fixed investment Inventories* GDP growth %q/q GDP growth % y/y (RHS)
Net exports GDP
20
Source : Haver, UBS estimates *Includes acquisitions & statistical discrepancy. Source : Haver, UBS estimates
Figure 411: UK GDP – sector breakdown (% q/q) Figure 412: Sector output
% q/q
Index, Jan-20=100
25 110
20
100
15
10 90
5 80
0
70
-5
-10 60
-15
50
-20
-25 40
1Q 20 2Q 20 3Q 20 4Q 20 1Q 21 2Q 21 3Q 21E Jan-20 Mar-20 May-20 Jul-20 Sep-20 Nov-20 Jan-21 Mar-21 May-21 Jul-21
Production Services Construction
Production Services Construction GDP
Source : Haver, UBS *Includes acquisitions & statistical discrepancy Source : Haver, UBS
Figure 413: Share of furloughed employees Figure 414: Shadow unemployment rate*
30 %
% labour force
25
25
20
20
15
15
10
10
5
5
0
0 Jan-20 Mar-20 May-20 Jul-20 Sep-20 Nov-20 Jan-21 Mar-21 May-21 Jul-21
Mar-20 May-20 Jul-20 Sep-20 Nov-20 Jan-21 Mar-21 May-21 Jul-21
Official unemployment rate Shadow rate (based on hours)
Source : HMRC, UBS calculations Source : Haver, UBS calculations *Based on hours worked

Figure 415: Vacancies and hiring intentions Figure 416: UK CPI inflation
K %, balance
1,200 3.0 6.0
% y/y Forecast
1,100 2.0 5.0
1,000 1.0 4.0
900 0.0 3.0
800 (1.0) 2% target
2.0
700 (2.0)
1.0
600 (3.0)
0.0
500 (4.0)
-1.0
400 (5.0)
-2.0
300 (6.0) Jan-11 May-12 Sep-13 Jan-15 May-16 Sep-17 Jan-19 May-20 Sep-21 Jan-23
Jan-05 Jan-07 Jan-09 Jan-11 Jan-13 Jan-15 Jan-17 Jan-19 Jan-21
Vacancies BoE agents' scores - hiring intentions (RHS) Core Food Energy Headline
Source : Haver, UBS *Note: BoE agents' scores is a spliced series of "new scores" Source : Haver, UBS estimates
that started in October 2017 and "old-scores" that are now discontinued.
Figure 417: Excess savings Figure 418: Fixed investment and investment intentions
25 250 25 4
Brexit EU/UK
20 referendum trade deal 3
20 200 15 2
10 1
15 150 5 0
Savings rate in 0 -1
2019 (4.6%)
10 100 -5 -2
-10 -3
5 50
-15 -4
-20 -5
0 0
-25 -6
1Q-20 2Q-20 3Q-20 4Q-20 1Q-21 2Q-21
1Q-05 1Q-07 1Q-09 1Q-11 1Q-13 1Q-15 1Q-17 1Q-19 1Q-21
Stock of excess savings (£bn, RHS) Savings rate (%, LHS) Fixed investment (% y/y, LHS) BoE agents' score (investment intentions, RHS)
Source : Haver, UBS *Note: BoE agents' scores is a spliced series of "new scores" Source : Haver, UBS Note: *BoE agents' scores is a spliced series of "new scores"
that started in October 2017 and "old-scores" that are now discontinued. that started in October 2017 and "old-scores" that are now discontinued.
Figure 419: BoE Bank rate forecast Figure 420: OBR deficit and cyclically adjusted primary
balance projections
8.0 pp % of GDP
7.0 0
6.0 -2
-4
5.0
-6
4.0
-8
3.0
Forecast -10
2.0 -12
1.0 -14
0.0 -16
Jan-97 Jan-00 Jan-03 Jan-06 Jan-09 Jan-12 Jan-15 Jan-18 Jan-21 2020 2021 2022 2023
Sonia Bank Rate Deficit Cyclically adjusted primary balance
Source : Haver, UBS estimates Source : OBR

UK
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 2675 2749 2883 2892 2770 3311 3916 4157
Real GDP growth, % 2.3 2.1 1.7 1.7 -9.7 7.0 4.6 1.5
Government consumption, % y/y 0.5 0.6 0.4 4.2 -6.3 15.7 2.9 0.1
Gross Fixed Capital formation, % y/y 4.7 3.3 -0.1 0.5 -9.1 4.2 2.3 0.7
Exports, % y/y 3.3 5.7 2.8 3.4 -14.7 -1.9 3.9 1.3
Imports, % y/y 3.5 2.9 3.1 2.9 -16.8 -0.1 2.7 1.0
GBP/USD (year-end) 1.23 1.35 1.28 1.32 1.37 1.42 1.56 1.63
EUR/GBP (year-end) 0.86 0.89 0.89 0.85 0.90 0.83 0.80 0.80
Fiscal accounts
Revenue, % GDP 37.1 37.0 37.0 36.6 37.1 36.3 37.5 39.5
Expenditure, % GDP 39.9 39.6 39.0 39.1 52.0 44.0 41.8 42.4
Balance of payments
Trade balance, GBP bn -139 -140 -142 -138 -129 -137 -133 -133
Exports, GBP bn 298 338 351 372 309 326 345 350
Imports, GBP bn 437 478 493 510 437 463 478 482
Current account balance, GBP bn -107 -76 -84 -60 -56 -61 -73 -75
as % of GDP -5.3 -3.6 -3.9 -2.7 -2.6 -2.6 -2.9 -2.9
Foreign direct investment (net), GBP bn 219 -36 4 40 65 -5 -4 -3

Gyorgy Kovacs
Economist
gyorgy.kovacs@ubs.com
+44-20-7568 7563
Anna Zadornova
Economist
anna.zadornova@ubs.com
+44-20-75674212
Emerging EMEA

Pivotal Questions Q: Which countries would offer the fastest growth outlook in post-pandemic EMEA?
We expect GDP growth in our narrowly defined Emerging EMEA region (EMEA-6) to decelerate from
6.0% in 2021 to 3.7% in 2022 and to 2.7% in 2023, reflecting a broad set of global and domestic
drivers. We view 2022 as another year of recovery from the pandemic, with 2023 more as a year of
normalization in growth towards trend, down from an elevated base. Hungary and Poland should
both grow on average by 4.3% annually – marking the fastest expansion in the region. They should
be followed by Czechia and Turkey (3.6-3.8%). Russia's and South Africa's growth is likely to be
below 3% on average – but still well above the pre-pandemic growth pace.
Q: Is inflation here to stay and how far are we from peak policy rates?
A common theme in EMEA (and globally) in 2021 was the rise in inflation over and above the central
banks' targets. We believe that in most of EM EMEA inflation is likely to stay fairly elevated in H1
2022 and that we would need to wait for H2 2022 to see a clear downtrend – in part aided by the
base effects of 2021. In terms of monetary tightening we expect three central banks to reach an
advanced stage with rate hikes in H1 2022: the CBR (peak: 8%), the CNB (peak: 3.75%) and the NBH
(2.4%). We expect the NBP to catch up as well, hiking to 2.25% by March 2022. We project more of
a phased-out tightening in South Africa, with the rate hikes extending notably to 2023. In Turkey, we
see only modest scope for rate cuts – a too rapid easing could stoke deposit dollarization and thus
would require rate hikes to reset the real rates.
Q: Where do we see the best investment returns in case of currencies?

According to our forecasts, while the CE3 currencies should gain against the USD in the next two
years, the rest of the EMEA currencies are likely to see a depreciation against the USD to a differing
degree. We assume that the Polish zloty and the Czech koruna would also be able to gain against the
EUR, while the HUF would be roughly flat against it at current levels over the next two years. We also
have a positive RUB view versus USD in the short term.
UBS VIEW Emerging EMEA real growth to lose momentum as we normalize post the pandemic with GDP
growth rates of 3.7% in in 2022E and to 2.7% in 2023E.
EVIDENCE Sentiment surveys and mobility indicators point to sluggish Q3-Q4 2021 growth performance in CE3
and Russia, while there should be improvement in South Africa.
WHAT´S PRICED IN? Consensus is more pessimistic than us on 2022, but more optimistic in general for 2023.
RISK Positive risks: domestic reforms, and accelerated global economic recovery. Negative risks: new virus
mutations, structural shifts higher in global inflation, and global and domestic political uncertainty.
New GDP forecasts, % Consensus, % UBS vs consensus

2020 2021F 2022F 2023F 2021F 2022F 2023F 2021F 2022F 2023F
Poland -2.5 5.1 5.5 3.2 5.0 5.0 4.3 0.1 0.5 -1.1
Hungary -4.7 7.1 5.1 3.4 6.7 5.0 3.9 0.4 0.1 -0.5
Czech Republic -5.8 3.0 4.6 3.0 3.4 4.5 3.5 -0.4 0.1 -0.5
Russia -3.0 4.4 3.0 2.1 4.3 2.5 2.1 0.2 0.5 0.0
Turkey 1.8 9.4 3.8 3.4 8.9 3.8 4.0 0.5 0.0 -0.6
South Africa -6.4 5.3 3.2 2.4 5.1 2.1 2.0 0.3 1.1 0.4
EMEA 6 -2.1 6.0 3.7 2.7 5.7 3.3 3.1 0.2 0.4 -0.3
Source : UBS, Bloomberg

EMEA: Global factors, growth outlook and regional themes

UBS projects a more challenging backdrop for EMEA: slowing global growth, rising
nominal and real long-end yields and lower commodity prices.
Growth in EMEA should decelerate in 2022-23 to 3.7% and 2.7%, respectively, but
several countries would still be able to grow close to or above 4%. We explore four
regional themes: imbalances, inflation & rate outlook, FX forecasts, and risk
scenarios.
What are the most important traits for EMEA of the global framework UBS economists
expect for 2022-2023?
1) Global growth to ease visibly in 2022 and 2023. UBS predicts global GDP growth
to slow from 6% in 2021 to 4.8% in 2022 and 3.5% in 2023. The slowdown in
Developed Economies would be more pronounced: US GDP growth should ease from
5.9% in 2021 to 3.0% in 2023 and Eurozone GDP from 5.0% in 2021 to 2.0% in 2023.
In case of Emerging Markets, the two heavyweight economies, China and India, should
also register decelerating growth – to 5.0% in China (in part due to the housing
slowdown and softer credit growth) and 6.0% in India by 2023E.
2) Tapering, but limited rate hikes. Our US economics team predicts the Fed to move
ahead with taper in November and, in case of the ECB, UBS's baseline forecast assumes
the phasing out of PEPP by Q1 2022 – though the APP would still continue to run
beefed-up in size. In terms of rate hikes, our US economics team forecasts a 25bps rate
hike in Q4 2023 to 50bps. Our European economics team currently expects no ECB rate
hikes on the forecast horizon.
3) Long-end yields should continue to climb further – both nominal and real. Long-
end yields should continue to climb further – both nominal and real. In the US,
UBS expects 10Y bond yields to rise to 2.1% and 2.25% by end-2022 and end-2023,
respectively. Equally importantly, UBS believes that the 10y real yield would be around
zero versus -100bps currently. European long-end bond yields are also expected to move
higher to +10bps by end-2022 and +30bps by end-2023. The environment of continued
increases in global bond yields is likely to create a difficult backdrop for EMEA as well –
and it follows an already significant sell-off in bonds in recent weeks. The pace of
increases matters as well: on past form, a move up in US nominal rates of 50bps or more
over a 3-month period leads to a faster re-pricing in FX. The ZAR, TRY and RUB are
typically the most sensitive, with betas between 7 and 4 (i.e. for a 10bp move up in a
week, USD cross would move up by 0.7% to 0.4%).
4) UBS projects the EUR to appreciate notably against the USD: we project the EUR to
appreciate to 1.25 versus USD by end-2022 and to 1.30 by end-2023.
5) UBS estimates Brent oil prices to average $68.5 per barrel in 2022 and to $60
per barrel in 2023 – these are below the current oil price levels (Brent traded above
$80/bbl for most of October), particularly for 2023. For Russia, we expect the rise in
physical oil and gas output to compensate for somewhat lower prices in 2022, but in
2023 the twin surpluses should decline significantly. In countries where we forecast
further currency depreciation against the USD (South Africa for both 2022 and 2023,
and Turkey for 2022), oil prices would become less of a burden, though y/y growth in
petrol inflation would still stay positive. In CE3 countries, the effect of lower oil prices
should be enhanced by the appreciation of their currencies against the USD – bringing
an outright decline in fuel inflation and helping to reduce inflation pressures later in
2022 and in 2023.

Emerging EMEA growth: losing momentum, with selective
outperformers
We expect GDP growth in our narrowly defined Emerging EMEA region (EMEA-6) – EMEA GDP growth should decelerate
consisting of Central Europe (Czech Republic, Hungary and Poland), Russia, South Africa in 2022-23, reflecting a broad set of
and Turkey – to decelerate from 6.0% in 2021 to 3.7% in in 2022 and to 2.7% in 2023. domestic and external drivers. We
We view 2022 as another year of recovery from the pandemic, with 2023 more as a year focus in detail on the role of lower
of normalization in growth towards trend, down from an elevated base. Broadly commodity prices, policy tightening,
speaking, the slowdown is a reflection of: a) global drivers – in particular the slowdown the EU funds, tourism and mobility
in the Eurozone and China; b) the phasing-out of post-pandemic stimulus; c) some restrictions
policy-tightening; and d) recovery hitting some capacity constraints (labour in CE3, oil
output capacity, and labour in Russia). Economic growth in Emerging EMEA is expected
to exceed that of the Developed Economies in 2023 and of Latin America in 2022 and
2023, but should lag behind Developing Asia's. We maintain our view that the region
will struggle to get growth significantly higher than the 2023 pace in the medium term
in the absence of structural reforms, due to country-level constraints. We see the
following patterns and drivers.
1) Lower commodity prices.This should primarily affect Russia and South Africa. In
Russia, while the OPEC+ agreement should allow for additional quantities of oil output
to be released in the course of 2022, lower oil prices should reduce the twin surpluses
substantially in 2023. $60/bbl is still a very comfortable price level, however, so the main
difference would be a slower pace of FX reserve accumulation; fiscal and monetary
policies should stay largely unaffected. In South Africa, given the less commodity-
intensive nature of future Chinese growth, we think the strong contribution from
mining to GDP growth will falter over time. In addition, lower commodity prices could
have repercussions for activity by influencing the fiscal space. In South Africa, the
windfall gain from corporate taxation has allowed it to pay for the relief package and
reduce the deficit simultaneously, but going forward the smaller help from taxation
generates more pressure to deliver the necessary adjustment via expenditure control.
2) Policy tightening. According to our baseline projections, five out of the EMEA-6
countries, bar Turkey, will have embarked on monetary tightening over the course of
2021. We expect at least four of them to carry out additional rate hikes in the first half of
2022 (potentially Russia as well) and South Africa even throughout the entire forecast
horizon. We assume that tighter monetary stance would have some impact on activity
already in 2022 and beyond. While the Central Bank of Turkey has started to lower its
policy rate, we believe that in order to be able to control deposit dollarization, the CBT
would need to provide an adequately high policy rate – which would make it difficult to
see any major credit stimulus. In terms of fiscal policy, we believe that the Czech
Republic, Hungary and South Africa would need to reduce their budget deficits in 2022-
23.
3) EU funds' cycle and the absorption of RRF funds.This is a key driver for the CE3
economies. The availability of the Recovery and Resilience Facility (RRF) funds for CE3
(see our note here on the funds) allows these economies to benefit from additional EU
resources, predominantly in the forms of grants. While Czechia already received the first
RRF disbursements in late September, Hungary and Poland are yet to see their plans
approved. Nevertheless, we believe that all CE3 would start to benefit from the actual
inflow of funds at some point in 2022. Equally importantly, in 2023 we see a drop in the
EU's regular "structural funds" (given the switchover of focus to the next MFF, similar to
2016) in all CE3 countries, which should temporarily depress their growth rates. (Using
the evidence from the past cycle, growth in 2017 picked up more visibly as the new MFF
flows kicked in, which would imply some additional lift in 2024 and beyond.)
4) Tourism. In our base-case scenario, UBS expects further normalization of

international travel (both private and business), which should play an important role for
many of these economies. We see a revival in tourism benefitting Czechia and South
Africa more than Turkey or Hungary, given that in the latter two countries tourism
revenues have already displayed a very strong rebound in 2021. In the case of Poland
and Russia, higher travel imports would be a net negative for the current account
balances if foreign trips substitute for some of the domestic goods and services
consumption.
5) Mobility restrictions. Case counts have started to rise again recently, mainly in
Russia and CE3, and new mobility restrictions were announced (see our Global Mobility

Restrictions Tracker). Our 2022 and 2023 forecasts assume the phasing-out of mobility
restrictions in the first half of 2022 in the absence of another serious virus mutation.
Hungary and Poland should be the "growth champions" based on our 2022-23 Hungary and Poland should both
forecasts: on average, they should grow by 4.3% annually in the next two years. This is grow on average by 4.3% annually –
very much in line with the accelerated rebound from the pandemic hit in both countries marking the fastest expansion in the
and the expectations of some benefit from EU funds. Czech Republic and Turkey should region. They should be followed by
constitute the next group, where growth rates would come above 3.5%, ie, 3.6% in Czechia and Turkey. Russia's and
Turkey and 3.8% in Czechia. In both Russia and South Africa the average pace of South Africa's growth is likely to be
growth rebound should remain below 3% – averaging 2.6-2.8% in 2022-23E. It is below 3% on average – but still
important to note that while the latter two countries are growing at the slowest pace above the pre-pandemic trend
among the EMEA 6 countries, this is still faster than their average growth before the
pandemic.
We remain on balance more optimistic than consensus about the 2022 recovery,
but more cautious on 2023. When comparing our forecasts to Bloomberg consensus,
we appear more constructive on the 2022 growth outlook: we are 110bps above
consensus in South Africa, 50bps above consensus in both Poland and Russia, and
10bps in Czechia/Hungary. This changes dramatically in 2023: we are 50-110bps below
consensus in CE3, and 60bps below on Turkey. Only in South Africa do we consistently
appear more positive on the growth picture than other analysts. We believe that this
could have to do with the fact that 2022 is still shaped by the recovery from the
pandemic – and we generally have a more optimistic view on the post-pandemic
rebound (2021-22), while 2023 forecasts are more about where trend growth rates
could settle.
Figure 421: EMEA growth forecasts, %

New GDP forecasts, % Consensus, % UBS vs consensus
2020 2021F 2022F 2023F 2021F 2022F 2023F 2021F 2022F 2023F
Poland -2.5 5.1 5.5 3.2 5.0 5.0 4.3 0.1 0.5 -1.1
Hungary -4.7 7.1 5.1 3.4 6.7 5.0 3.9 0.4 0.1 -0.5
Czech Republic -5.8 3.0 4.6 3.0 3.4 4.5 3.5 -0.4 0.1 -0.5
Russia -3.0 4.4 3.0 2.1 4.3 2.5 2.1 0.2 0.5 0.0
Turkey 1.8 9.4 3.8 3.4 8.9 3.8 4.0 0.5 0.0 -0.6
South Africa -6.4 5.3 3.2 2.4 5.1 2.1 2.0 0.3 1.1 0.4
EMEA 6 -2.1 6.0 3.7 2.7 5.7 3.3 3.1 0.2 0.4 -0.3
Source : Haver, UBS, Bloomberg.

Key regional themes
1) Macroeconomic imbalances. We expect no major external imbalances in 2022- Few imbalances in EMEA. Turkey
23 in our base case. In 2022, we see outright external surpluses in EMEA bar Turkey and needs to reduce its external deficit
a small deficit in Poland. In 2023, Turkey and South Africa are projected to have a small further, while South Africa needs to
external deficit (less than -0.5% of GDP), but the rest of the region should post current arrest the increase in public debt via
account surpluses. In our view a successful reduction in Turkey's external deficit a successful fiscal consolidation.
requires slower economic growth, and the strategy to close the external gap via a softer
exchange rate could prove rather difficult. In addition, we see declining external debt
ratios across the board – in part reflecting reduced portfolio positioning in the region.
Figure 422: External balance, % of GDP Figure 423: External debt, % of GDP
7 90
% GDP % GDP
6 80
5
70
4
60
3
2 50
1 40
0
30
-1
20
-2
-3 10
-4 0
Poland Hungary Czech Republic Russia Turkey South Africa Poland Hungary Czech Republic Russia Turkey South Africa
2021F 2022F 2023F 2021F 2022F 2023F
Figure 424: Budget balance, % of GDP Figure 425: Public debt, % of GDP
2 90
% GDP % GDP
1 80
0
70
-1
60
-2
50
-3
40
-4
30
-5
20
-6
-7 10
-8 0
Poland Hungary Czech Republic Russia Turkey South Africa Poland Hungary Czech Republic Russia Turkey South Africa
2021F 2022F 2023F 2020 2021F 2022F 2023F
The fiscal picture looks more mixed. In terms of public debt levels Hungary and
South Africa stand out with around 70-80% of GDP public debt levels, but in South
Africa's case debt should still be on a marginally rising trajectory. When it comes to
budget balances, we expect a substantial narrowing in the budget deficits in Czechia,
Hungary and South Africa. In the first two cases it is a reversal of election-related
loosening (though Hungary still has quite a few stimulus measures lined up also for
2022). In South Africa the improvement is conditional on the government being able to
control the rise of the public sector wage bill and that the size of any basic income grant
package (BIG) would be set in a way not to derail the tightening effort. We see two
countries showing a deterioration in budget balances: in Poland, where we expect
looser fiscal policy given the proximity of a 2023 election; and in Russia, where lower oil
prices could result in the budget swinging from a surplus to balance or a small deficit (-
0.1% of GDP). In terms of having additional fiscal space to stimulate the economy,
Russia stands out, followed by Poland and Czechia. While both the level of public debt
and budget balance look comfortable in Turkey as well, we believe that Turkey needs to
maintain tight fiscal policy to facilitate a more balanced growth outlook and thus has
limited capacity for a sustainable fiscal stimulus.

2) Inflation to start to roll over in H1 2022 - most EMEA central banks to finish We project headline inflation to start
tightening around the same time. A common theme in EMEA (and globally) was the to roll over in most of EMEA in H1
rise in inflation over and above the central banks' targets. We are in the camp that in 2022, and to show a more visible
most of EMEA inflation is likely stay elevated in H1 2022 and that we would need to wait decline starting from H2 2022
for H2 2022 to see a clear downtrend in inflation – in part aided by the base effects of onwards
2021. For how long inflation pressures in EMEA stay high in 2022 partly depends on the
energy prices trajectory. We believe that by H2 2022 the re-opening related price
pressures should come off from the inflation base, some of the commodity price related
pressures should start to ease, and domestic demand and lending dynamics should have
started to respond to the respective central banks' tightening. Nevertheless, elevated
inflation expectations (Turkey, Russia), housing dynamics (Czechia), changes in energy
prices (gas - CE3, Turkey) could create a more difficult outlook mainly in countries with
tight labour market backdrops (CE3). We believe that Turkey continues to face the most
complicated inflation outlook, and inflation might remain more entrenched if the central
bank was to ease policy too fast – given any potential repercussions for the exchange
rate and inflation expectations.
Figure 426: Inflation outlook, % y/y Figure 427: Effective policy rates, %
12 30 12 30
% y/y % y/y % %
10
25 10 25
UBS
forecast
8
20 8 20
6
15 6 15
4
10 4 10
2
5 2 5
0
(2) 0 0 0
Jan-16 Nov-16 Sep-17 Jul-18 May-19 Mar-20 Jan-21 Dec-21/22/23 Jan-16 Aug-16 Mar-17 Oct-17 May-18 Dec-18 Jul-19 Feb-20 Sep-20 Apr-21 Nov-21
Czech Republic Hungary Poland Czech Republic Hungary Poland
Russia South Africa Turkey (rhs) Russia South Africa Turkey (rhs)
In terms of monetary policy response, we expect many central banks to reach an

advanced stage with rate hikes in H1 2022. In Russia, the CBR is likely to finish hikes
even earlier by hiking to 8% in December this year, provided food price shocks abate by
year-end. We expect a gradual move down to a neutral 5.50% by the end of 2023. In
Czechia, we think the CNB is likely to raise its policy rate to 3.75% by end of Q1 2022
(neutral is 3%) and then start gradually easing from H2 2022 onwards and lowering the
policy rate to 2.75%. In Hungary, we predict that the NBH will pause the tightening
when reaching 2.4% policy rate, but then could see some additional tightening in the
course of 2023. However, the rest of the countries should pursue different policy paths.
In Poland, we believe the shape of the inflation trajectory calls for a front-loaded hiking
cycle, we forecast the NBP to hike to 2.25% by March 2022. In South Africa, the SARB
should keep hiking rates in the course of 2022 to 4.75% and in 2023 to 5.75% – still
remaining below the neutral policy rate level of c6.8%. In Turkey, we project that a
sustainable policy rate path would allow the CBT to cut its policy rate to around 14.5%
by end-2022 and to 12.0% by end-2023.
Our policy rate forecasts are more hawkish than consensus in South Africa, CE3 both
years and for Turkey in 2022. However, consensus expects a higher policy rate in 2023 in
Turkey. For Russia, our forecasts are slightly more dovish than consensus for 2022 but are
higher for 2023.
3) We prefer CE3 currencies among EMEA FX, while we assume depreciation in We prefer CE3 currencies among
the ZAR and the TRY against USD. One of the important global assumptions for the EMEA FX, while we assume
next two years is the expected further appreciation of the EUR versus the USD (by more depreciation in the ZAR and the TRY
than 12% until end-2023). According to our forecast, while the CE3 currencies would against USD
gain against the USD in the next two years, the rest of EMEA currencies are likely to see a
depreciation against the USD to a differing degree, but a more visible downward

adjustment against the EUR – mainly in the case of TRY and ZAR. Here the view reflects
the cautiousness because of a correction in commodity prices later in the forecast period
(ZAR, RUB), impact of rising global yields and uncertainty regarding the pace of policy
easing (Turkey).
We assume that the Polish zloty and the Czech koruna would also be able to gain
against the EUR, while the HUF would be roughly flat against the EUR at current levels
over the next two years. In terms of the overall expected gains, the CZK and PLN would
be the best positioned: in case of CZK it is the reflection of the CNB's willingness to raise
rates decisively and also willingness to welcome the koruna appreciation as a way to
lower inflation. A front-loaded rate hiking cycle and an eventual unlocking of the
EU Recovery funds should benefit the PLN, although we expect the NBP to remain wary
of excessive appreciation.
We have a positive view on the RUB in the near term: still rising current account inflows
and portfolio inflows into Russian equities and hawkish monetary policy stance can
support some further appreciation into Q1 2021. However most of factors supporting
the RUB recovery in 2021 are likely to end or reverse by late 2022 (weaker growth,
commodity prices, lower interest rate differential), leading us to expect the RUB to
depreciate in 2023.
Figure 428: Emerging EMEA FX forecasts
Changes vs current, %
Current* End-22F End-23F End-22F End-23F
EUR/USD 1.16 1.25 1.30 -7.8 -12.1
USD/PLN 4.0 3.4 3.3 14.8 16.8
EUR/PLN 4.6 4.4 4.3 4.6 6.7
USD/HUF 310.6 288.0 276.9 7.3 10.8
EUR/HUF 360.3 360.0 360.0 0.1 0.1
USD/CZK 22.1 19.6 18.5 11.3 16.4
EUR/CZK 25.6 24.5 24.0 4.4 6.3
USD/TRY 9.5 10.5 10.5 -10.3 -10.3
EUR/TRY 11.0 13.1 13.7 -18.9 -23.6
USD/ZAR 15.3 15.8 16.5 -2.9 -7.8
EUR/ZAR 17.7 19.7 21.5 -10.9 -20.9
USD/RUB 70.9 70.0 72.0 1.3 -1.6
EUR/RUB 82.2 87.5 93.6 -6.4 -13.8
Source : Reuters, UBS. *As of 1 November.
4) Upside and downside scenarios. UBS presents two downside scenarios and one We present upside/downside
upside scenario for the global economy. One downside scenario considers an scenarios to consider different
appearance of a more harmful new mutant, while a second one is a structural shift pandemic and inflationary outcomes
higher in inflation for the next two years. For the countries we did the analysis – Poland,
Russia, South Africa and Turkey – we found that the "structural higher inflation shift"
scenario is more challenging for Russia, South Africa and Turkey as it entails a very rapid
increase in the Fed Funds rate and a much sharper sell-off in bond yields in the US and
Eurozone. We translate such a global backdrop as one where we project more pressure
coming for these economies in the form of weaker exchange rates, higher policy rates
(125-300bps than in baseline) and slower growth in 2023 (-20 to -60bps) than in our
baseline scenario. The positive scenario of accelerated recovery should also benefit
Emerging EMEA as it would allow many of these economies to grow fast (c200-400bps
faster) without creating too much additional inflationary pressures and thus need for a
faster normalization.

Czech Republic
We lower our 2021 growth estimate to 3.0% on auto sector worries. GDP growth
should rebound to 4.6% in 2022, before easing back to 3% in 2023.
CPI should peak in Q4-21/Q1-22. We expect the CNB to raise its policy rate to 2.5%
by Q1 2022 – with upside risk to our forecast. We project further CZK appreciation.
The Czech economic recovery has a few unique traits in CE3: a) Czechia has not yet Auto sector and elevated savings
reached its pre-pandemic output level (Q4-19), b) the household savings rate is very rate to weigh on 2021 outlook
elevated compared to its own history and peers, and c) auto production seems to be
more hurt by chip shortages in Q4 2021 than in the other two countries. We downgrade
our 2021 growth forecast from 4.0% previously to 3.0%. This comes primarily on the
back of a bigger drag from the auto sector: the car industry is likely to produce 250k cars
fewer than expected in 2021 due to chip shortages (car output was c1.2mn in 2020) -
most recently Skoda stopped production in H2 October. This is a pronouncedly worse
outlook than just in September, when Skoda was looking for a production drop of 100k
in 2021. The softer-than-expected preliminary Q3 GDP reading (+1.4% q/q, 2.8% y/y)
was also negatively affected by exports and manufacturing. Incoming business
confidence indicators point to a dichotomy in the economy: while industrial confidence
fell for the third month running in October (quoting lack of materials), the respondents
in the trade and overall services sectors have become more optimistic. Despite a clear
improvement in labour market data and rising labour force participation (which hit all-
time highs of 77.1% in August), the household savings rate remained very elevated at
20.6% in Q2 2021 versus the c12% historical average rate. The cautious behaviour of
households has been a drag on the recovery so far, but should help next year's activity.
There is potentially some downside risk to our 2021 projection from the recent increase
in Covid cases and the still below-EU average vaccination rate.
We now expect the economy to grow by 4.6% next year due to: a) auto production Broad-based economic recovery
recovering to more normal run- rates (in line with the view from UBS' auto team), b) (consumption, investments, autos) to
household consumption growing by 5% given the sustained improvement in wages, lift GDP growth to 4.6% in 2022E
jobs and declining savings, and c) investments accelerating in part due to the inflows of
the EU's RRF funds (the EU has already disbursed EUR 915mn). Healthy credit growth – in
part on account of RRF funds – should also buttress the recovery. Fiscal policy is likely to
be contractionary next year, with the structural primary deficit improving by more than
2ppt of GDP. In 2023, we see growth returning to more "normalized rates" of 3%, in
line with decelerating Eurozone growth, tighter policies (fiscal, monetary), the likely
drop in EU structural fund inflows (given the switchover of focus to new MFF, similar to
2016) and already exhausted consumption gains. As yet, we know very little about the
programme of the new governing coalition to factor it into our models. Our 2022 GDP
forecast is 10bps above consensus, while our 2023 GDP growth estimate is 50bps below
consensus for 2023.
We expect Czech inflation to rise to 5.6% y/y by end-2021 from 4.9% y/y in September, Czech inflation to stay elevated in H1
largely on account of a c10% increase in gas prices in December, a further increase in 2022 (6.3-5.7%), before easing from
housing inflation (rents, new home prices, construction costs), tradables prices and Q3 2022 onwards. Short-term
services inflation. With another round of large electricity and gas price hikes coming pressures from housing are likely to
through early next year, we forecast H1 2022 inflation to be very elevated (Q1 average: prevail. Impact of gas prices is a risk
6.3% - highest reading since 2008, Q2: 5.7%), but then we project a more clearer
deceleration to 3.5% y/y by end-2022 given the base effects from 2021 and easing
pressure from housing and energy. This would leave inflation outside the target band (1-
3%), but already a lot closer to it. One of the most important uncertainties is what
exactly will happen to electricity and gas prices in 2022 given that the government
suggested a temporary cut in the VAT on electricity & gas to zero from 21% for this
November and December. We see average inflation at 2.4% in 2023.
Given the November rate hike to 2.75%, we expect the CNB to hike beyond its CNB to raise its policy rate to 3.75%
estimates of neutral rate (3%): following today's move we now expect another 50bps by Q1 2022, then start to ease
hike in December 2021 to 3.25% and then another 50bps hike in Q1 2022 to 3.75%. gradually to 2.75% from H2 onwards.
We believe that the CNB would start to roll back some of the tightening in H2 2022 and We forecast further CZK gains
cut its policy rate to 3.25% by end-2022.
We forecast further CZK gains to 24.0 versus EUR by end-23, due to an improving trade
balance as the auto sector recovers, further rate hikes and a stronger EUR vs the USD.

Czech Republic
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 196 220 249 252 246 285 327 370
Real GDP growth, % 2.5 5.2 3.2 3.0 -5.8 3.0 4.6 3.0
Exports, % y/y 4.3 7.2 3.7 1.5 -6.9 10.0 7.5 6.5
Imports, % y/y 2.8 6.3 5.8 1.5 -6.9 11.0 7.0 7.0
USD/CZK (year-end) 25.6 21.3 22.5 22.6 21.4 21.2 19.6 18.5
EUR/CZK (year-end) 27.0 25.5 25.7 25.4 26.2 25.0 24.5 24.0
Fiscal accounts
Revenue, % GDP 40.5 40.5 41.5 41.4 41.6 40.0 40.0 40.0
Expenditure, % GDP 39.8 39.0 40.6 41.1 47.2 47.0 45.0 44.5
Balance of payments
Exports, USD bn 131 146 161 156 149 177 193 210
Imports, USD bn 120 135 152 146 136 163 179 197
Current account balance, USD bn 3 3 1 1 9 6 4 2
as % of GDP 1.8 1.3 0.5 0.4 3.6 1.9 1.2 0.4
Net International Investment Position, % GDP -27.2 -24.9 -24.4 -19.8 -12.5 -10.0 -9.5 9.0

Hungary
Growth to slow to 5.1% and 3.4% in 2022 and 2023 from 7.1% in 2021.
CPI should fall more visibly from H2 2022 onwards. We expect the NBH to raise its
policy rate to 3% by end-2023.
Hungary so far had an excellent recovery in 2021: output in industry, construction, IT & Hungarian growth to hit 7.1% in
communication services, and finance & real estate was already above pre-pandemic 2021, despite the hit to the auto
levels in Q2, similarly to total GDP. Incoming data is consistent with softer momentum in sector
Q3 given the auto sector stoppages, but also with some stalling of retail sales in July-
August. First indications for Q4 2021 are positive: both business and consumer
confidence jumped above Q3's average levels in October, and additional pension
transfers worth of 0.3% of GDP (indexation plus a lump-sum premium) will be paid in
November. So far none of the major car producers have announced any factory
stoppages for Q4, unlike in the Czech Republic (see our note on the CE3 supply chain
disruptions here). We thus decided to keep our 7.1% GDP forecast unchanged for 2021.
There is potentially some downside risk to our 2021 projection from the recent increase
in Covid cases and the largely stalling vaccination.
We expect GDP growth to slow somewhat to 5.1% in 2022, given that most of the GDP growth to moderate in 2022-23,
reopening-related gains should have been recorded in 2021. However, we actually see though consumption should remain
accelerating consumption and still fairly robust investment growth due to the following well supported
reasons. First, a supportive fiscal/regulatory stance – in part related to the April 2022
election. In February next year c1.9mn tax payers should get PIT refunds to the tune of
HUF 600bn or 1% of GDP; there will be a PIT cut worth 0.2% of GDP to young workers
in 2022; and members of the armed forces will get a 0.4%-of-GDP compensation lift. A
more constrained version of the loan moratorium remains in place until June 2022.
Second, strong momentum in investments and residential construction. The former
should benefit from the fact that Hungary issued EUR 4.4bn worth of Eurobonds in
September to pre-finance the EU's RRF projects given the potential delay of the EU
approval. The government had 8.3% of GDP equivalent deposits in the central bank at
the end of Q3 2021. Residential construction should enjoy support from the existing
incentives (different social packages, lower VAT on newly built homes) and from the
resilient mortgage demand coupled with the launch of the NBH's "Green Home"
programme. In addition, the projected ramp-up of car production and additional
normalization in tourism should help exports. In 2023, economic growth is likely to ease
further to 3.4%, reflecting softer Eurozone growth, tighter monetary policy and the
likely drop in EU structural fund inflows (given the switchover of focus to new MFF,
similar to 2016). Our 2022 GDP forecast is 50bps above consensus, while our 2023 GDP
growth estimate is 40bps below consensus for 2023. The outcome of the April 2022
elections is likely to be in focus.
Inflation is likely to accelerate from September's 5.5% y/y rate and peak around 6.5% inflation to stay elevated until H1
y/y in November 2021, before easing to 5.9% y/y end-2021. We project further upswing 2022, before easing gradually. We
in fuel prices, tradables' and services' inflation in Q4 2021. We believe that CPI should expect the NBH policy rate at 3% by
drop to 4.9% in Q1-22, to 4.1% in Q2 and then slide inside the NBH's 2-4% target end-2023. We think market is pricing
range starting from H2 2022 (end-2022: 3.2% y/y). The deceleration in CPI should be in a too rapid tightening
driven by: a) lower fuel prices (lower oil prices+stronger HUF, -200bps on headline
inflation), b) a smaller increase in tobacco excise taxes (-90bps), c) no hikes in household
utility prices given the government's stance, and d) slowing tradables inflation due to
stronger HUF, easing supply chain pressures and expenditure switching (c.-120bps).
These should be partially offset by some acceleration in food inflation and fairly
persistent services' inflation. In 2023, we expect CPI to average around 3.2%, i.e. just
above the National Bank of Hungary's (NBH) 3% target. In response to this inflation
profile, we expect the NBH to raise rates from 1.8% to 2.4% by (February) next year, and
then further to 3% by end-2023 (i.e. zero real rate). We highlight that the
NBH continues to boost its balance sheet via the ongoing QE (more than 6% of GDP
purchases so far), corporate bond purchases (0.9% of GDP) and the Green Home
programmes. We currently factor in the end of QE around H2 2022. We consider the
pricing of the FRAs too hawkish (policy rate at 3.3% by June-2022).
Given UBS's forecast for the EUR to appreciate considerably against the USD (1.30 by Expected appreciation and
end-2023E), we believe that the HUF is likely to have some marginal scope for improving external balance should
appreciation against the EUR towards 360, also in line with the likely improvement of support the HUF in 2022 and 2023
the external balance to a surplus of c.1% of GDP by end-2023.

Hungary
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 129 144 160 163 156 177 196 222
Real GDP growth, % 2.2 4.3 5.4 4.6 -4.7 7.1 5.1 3.4
Exports, % y/y 3.8 6.5 5.0 5.4 -5.9 12.0 5.0 5.5
Imports, % y/y 3.5 8.4 7.0 8.2 -3.5 9.0 5.0 5.0
USD/HUF (year-end) 293.7 258.8 280.9 294.7 297.4 313.6 288.0 276.9
EUR/HUF (year-end) 311.0 310.1 321.5 330.5 365.1 370.0 360.0 360.0
Fiscal accounts
Revenue, % GDP 45.0 44.1 43.8 43.6 43.5 42.5 41.5 42.5
Expenditure, % GDP 46.8 46.5 45.9 45.7 51.6 49.5 47.0 46.2
Balance of payments
Trade balance, USD bn 4 2 -2 -4 -2 0 -1 -2
Exports, USD bn 87 96 105 104 100 120 129 145
Imports, USD bn 83 94 107 108 101 120 131 147
Current account balance, USD bn 6 3 0 -1 -2 0 1 2
as % of GDP 4.6 1.9 0.3 -0.7 -1.5 -0.1 0.5 0.7

Poland
Fiscal stimulus and EU funds to boost GDP growth to 5.5% in 2022 from 5.1% in
2021. We expect growth to slow to 3.2% in 2023 on waning post-pandemic
recovery momentum and lower EU funds absorption early in a new EU fiscal cycle.
We expect the NBP to continue raising rates to 2.25% by March 2022 as accelerating
core inflation and energy price shocks should keep headline above target.
We lower our GDP growth projection for 2021 from 5.5% to 5.1% to reflect data Revisions to earlier quarters and a
revisions (Q2 GDP estimate cut from 2.1% to 1.6%q/q, swda) and also a slightly more more cautious view on growth in H2
cautious view on H2 2021 due to supply disruptions, higher inflation and a surge in new 2021 lead us to cut our 2021 GDP
Covid-19 infections in October. Sequential growth in industry and construction slowed growth forecast to 5.1% from 5.5%.
in Q3 after a strong Q2 but retail sales picked up pace. We also expect to see a strong
rebound in other service sectors, where many restrictions were relaxed only in June. So
we forecast a still very solid 4.9%y/y (nsa) GDP growth in Q3 after 11.2%y/y in Q2.
October GUS sentiment survey showed a deterioration in household sentiment, possibly
related to intensifying price pressures, for which this year's acceleration in nominal wage
growth can no longer compensate. Lower carry-over from 2021 also leads us to trim our
2022 GDP forecast to 5.5% from 5.6% previously.
Overall, however, we continue to expect GDP growth to remain above potential We also trim our 2022 GDP forecast
(estimated at 3.5-3.6%) in both 2021 and 2022. Private consumption is the main to 5.5% from 5.6% but still expect
growth driver, driven by wage gains in a tight labour market, a decline in the household growth to remain strong, boosted by
savings rate from 7.7% at end-2020 closer to 2019's level of 3%, and accelerating a decline in household savings, fiscal
credit growth. The welfare support and income tax changes planned as part of the policy and EU fund inflows.
"Polish Deal" (see our May'21 note) are also likely to support consumption. We also
assume that Poland receives approval of its Recovery Fund application from the EC,
unlocking 1.3-1.6% GDP in Next Gen EU fund inflows in 2022 (read more about how
Poland can benefit from the Recovery Fund). The main downside risks to our growth
forecast come from 1) potential reimposition of strict mobility restrictions – Poland's
relatively low full vaccination rate of 52.5% increases this risk; 2) more prolonged global
supply chain disruptions, particularly outside the auto industry, to which Poland is less
exposed than its CE3 peers; and 3) delays in EU fund disbursements beyond early 2022,
although the government could try to pre-finance projects out of its own resources.
For 2023, we expect a more challenging growth outlook: the post-pandemic recovery A drop in EU funds absorption and
gains would be largely gone (we assume most supply disruptions are ironed out in waning post-pandemic recovery
2022), and monetary and fiscal stimulus withdrawn (although general elections due in gains to lead to GDP growth slowing
October create some upside risk). We also expect to see a sharp drop in EU structural down to 3.2% in 2023.
funds absorption (similarly to 2016) and thus investment early in 2023, as the period
when 2014-20 EU budget funding for preapproved projects can still be drawn ends.
We expect inflation to rise towards 7% in Q4'21 before falling to 3.5% by end-2022 We expect inflation to decline after
and 2.8% by end-2023, driven largely by normalisation of fuel and food prices. Most of peaking in early 2022 as food and
the CPI volatility over the forecast horizon is likely to be driven by energy and food prices energy prices normalise but
against a backdrop of elevated core inflation: we expect core to keep accelerating until accelerating core inflation will likely
mid-2022 due to supply-side bottlenecks, higher energy and transport costs as well as a keep the headline above target. A
still tight labour market. The NBP was the last of the CE4 central banks to start hiking quick hiking cycle to 2.25% would be
rates with a 40bps move in October. With inflation gaining momentum in the coming logical but MPC changeover increases
months, we think that further monetary policy tightening should be front-loaded, uncertainty around NBP decisions.
although opinions at the MPC diverge. Given increasing pace in m/m seasonally adjusted
core inflation, we do not think that the NBP will stop rate hikes at the pre-pandemic level
of 1.5%. We expect the hiking cycle to end at 2.25% by March 2022. That would bring
the ex-ante real reference rate to -0.5-0.6%, on our estimates.
A front-loaded rate hiking cycle and an eventual unlocking of the EU Recovery funds A front-loaded hiking cycle should be
should benefit the PLN, although we expect the NBP to remain wary of excessive supportive for the PLN but potential
appreciation. We forecast EURPLN at 4.5, 4.4 and 4.3 for end-2021, 22 and 23, for appreciation also depends on
respectively, consistent with UBS's call for stronger EUR vs USD. The current account fell finding a compromise with the EC to
into deficit recently on higher energy and chemicals imports as well as lower unlock the EU Recovery funds.
manufacturing net exports. We forecast Poland to record a small C/A deficit of c.0.5%
GDP in 2022, with growth in investment additionally boosting imports, before returning
to a 1%-of-GDP surplus in 2023. We think the current account gaps will be covered by
EU fund inflows and acceleration in FDI, facilitating FX reserve accumulation by the NBP.

Poland
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 472 529 587 597 616 697 812 900
Real GDP growth, % 3.1 4.8 5.4 4.7 -2.5 5.1 5.5 3.2
Exports, % y/y 9.3 9.6 6.9 5.2 0.1 14.5 6.8 6.3
Imports, % y/y 7.9 10.2 7.4 3.0 -1.2 18.5 8.9 4.7
CPI inflation, % y/y (average) -0.6 2.0 1.7 2.3 3.4 4.9 4.9 2.9
USD/PLN (year-end) 4.18 3.48 3.76 3.80 3.76 3.60 3.38 3.31
EUR/PLN (year-end) 4.42 4.17 4.30 4.26 4.61 4.50 4.40 4.30
Fiscal accounts
Revenue, % GDP 38.7 39.8 41.3 41.1 41.7 44.5 41.0 41.0
Expenditure, % GDP 41.1 41.3 41.5 41.8 48.7 45.0 43.8 44.0
Primary balance, % GDP -0.7 0.1 1.2 0.7 -5.8 0.6 -1.6 -1.8
Balance of payments
Trade balance, USD bn 2 -1 -7 2 14 8 -4 9
Exports, USD bn 197 228 256 261 270 358 397 431
Imports, USD bn 194 229 264 259 256 350 401 421
Current account balance, USD bn -4 -2 -8 3 18 3 -4 9
as % of GDP -0.8 -0.4 -1.3 0.5 2.8 0.4 -0.5 1.0

Russia
We lower our 2021 GDP forecast from 4.5% to 4.4% and from 3.2% to 3% for
2022, to account for tighter mobility restrictions and higher inflation taking a toll on
growth in Q4 2021. We expect a further slowdown to 2.1% growth in 2023 after oil
and travel sectors catch up to recovery elsewhere in 2022 and growth converges
back down to potential.
The rebound in oil and gas prices in 2021 provided for a swift recovery in Russia's
fiscal and external balances. The current account improvement is likely to continue
up to Q1 2022, but we forecast RUB/USD to weaken from 70.0 at end-2022 to 72.0
by end-2023 as most of the factors supporting the RUB recovery in 2021 are likely to
end or reverse by late 2022.
We have cut our GDP growth estimates for Q4 2021 to account for the tightening of We cut our 2021 GDP forecast from
mobility restrictions in October and early November as Russia reported record high 4.5% to 4.4%, and from 3.2% to 3%
numbers of new Covid-19 cases and deaths. At the time of writing it is not clear whether for 2022 as mobility restrictions and a
the nation-wide non-working days and other regional-level measures would be jump in inflation are dampening
extended beyond 7 November; we assume that the non-working period would end, but growth in late 2021.
in general that the mobility restrictions in Q4 would be tighter than in Q3. Monthly data
for July-September already point to sequential declines in manufacturing, freight
turnover and retail sales; car sales have been hit especially hard as dealerships ran out of
stock due to global supply chain disruptions. Due to stalling sequential growth and a
high base from H2 2020, we now expect y/y GDP growth to slow from 10.5%y/y in Q2
to 3.2%y/y by Q4 2021. We lower our 2021 GDP forecast from 4.5% to 4.4%, and from
3.2% to 3% for 2022. Still relatively low vaccination levels mean that the downside risks
to economic recovery from the pandemic remain persistent. As of 29 Oct, 51mn people,
or just under 35% of population, were fully vaccinated.
Although most of the sectors in the economy recovered back to pre-pandemic levels of We expect a further slowdown to
output by Q2 2021, there are still gains to be made in 2022. Strong external demand 2.1% growth in 2023, with growth
and phasing out of the OPEC+ restrictions should support the rebound in oil and gas converging back down to potential.
output. We assume that pandemic restrictions in general continue to get relaxed, so that
supply-side bottlenecks ease; however, the resumption of mass foreign travel could be a
net drag on GDP if it comes as a substitute to domestic spending. We expect fixed
investment to remain supported by an improved outlook for commodities (vs 12 months
ago) and also renewed focus on investment in the fiscal plans. After a pick-up in growth
in H1 2022 we expect to see a further slowdown to 2.1% in 2023 (i.e. closer to potential
growth estimated at 1.5-2%), as the post-pandemic recovery runs out of steam.
Inflation has been rising relentlessly from the historic lows in early 2020, owing to a
combination of food price shocks, RUB weakness in 2020, higher commodity prices,
global disruptions in supply chains and higher shipping costs. A relatively fast economic
recovery in late 2020 and H1 2021 has likely magnified the impact of supply-side shock
on prices. As a result, the CBR has struggled to get on top of rising inflation and
households' inflation expectations, despite being one of the first central banks to start
withdrawing accommodation extended during the pandemic.
Following a cumulative 325bps of rate hikes since March, we expect the CBR to finish If food price shocks fade by early
the hiking cycle with a 50bps rate hike to 8.0% in December. Our 7.8%y/y end-2021 2022, the CBR should be able to finish
inflation forecast assumes that food inflation finally starts to cool in the last few weeks the rate hiking cycle at 8% in
of the year but the extreme volatility in food prices over the recent weeks makes it December; the risks are for hikes to
difficult to time the turning point. Further upside inflation surprises from food prices and stretch into Q1 2022. Monetary policy
supply bottlenecks may well extend the hiking cycle into early 2022, since they would likely to stay tight into 2023.
likely keep household inflation expectations elevated. We don't expect the CBR to start
easing until H2 2022 when we project headline inflation to decline closer to 6%, taking
rate to 6.75% by end-2022 and further to 5.50% in 2023. This implies that the CBR will
keep a relatively tight monetary policy stance into early 2023. The CBR is also
undertaking a monetary policy review, with the results due to be published in the middle
of 2022. As part of the review, the CBR will re-examine its toolkit and also potentially
recommend a different formulation or a reduction of its inflation target (the latter
decision, depending on timing, may require keeping a tight policy stance for
longer). The downside risks to our rate call come from potentially larger RUB
appreciation helping to bring inflation down faster, a faster decline in inflation
expectations, or more severe and prolonged Covid-19 restrictions that make it more
difficult to pass rising input costs to consumers. Currently, the CBR views the (still

moderate) restrictions imposed around November public holidays as pro-inflationary,
similarly to those in Q2 2021, i.e. creating further supply bottlenecks but not
significantly damaging for the demand side.
The current account surplus surged to 5.6% of GDP on a 12m rolling basis in Q3 2021 The rebound in oil and gas prices in
and is likely to rise further in the next couple of quarters before a correction in 2021 provided for a swift recovery in
commodity prices and rising imports (including tourism – we assume that most travel Russia's fiscal and external balances.
restrictions are removed by summer 2022). Although UBS forecasts assume that oil and
gas prices come down from the current elevated levels in 2022 and normalise in 2023,
Russia's hydrocarbon exports are likely to be supported by growth in physical volumes.
We assume that the phasing-out of OPEC+ agreement limits allows Russia to raise oil
exports by over 7% in 2022, with similar increases in gas exports, as most of the gas
output increase is put towards external markets, with domestic GDP growth slowing
down. We forecast the current account surplus to reach 7.3% of GDP in 2021, falling to
5.8% in 2022 and then to 3% of GDP in 2023 (this assumes Brent averaging $67.5/bbl,
$68.5/bbl and $60/bbl, respectively.
The RUB has been trading near our end-2021 RUBUSD forecast of 70.0 at the time of We think that the rebound in the
writing and we think that the favourable BoP dynamics (rising current account inflows current account inflows can last into
and portfolio inflows into Russian equities) and hawkish monetary policy stance can Q1 2022, supporting the RUB. But we
support some further appreciation into Q1 2022. However, we revise our end-2022 RUB are less optimistic about the RUB
forecast from 66.0 to 70.0 and expect further depreciation to 72.0 by end-2023, as beyond that and forecast RUBUSD at
most of factors supporting the RUB recovery in 2021 are likely to end or reverse by late 70.0 for end-2022 and 72.0 for end-
2022. We expect GDP growth to slow closer to 1.5-2% potential, commodity prices to 2023.
come off the recent elevated levels and interest rate differential to shrink as the
CBR returns to a neutral policy stance while UBS is expecting the Fed to start hiking at
the end of 2023. In the past rate-cutting cycles, the inflow of non-residents into the OFZ
market provided support to the RUB, but we think that concerns about risks of further
expansion of US restrictions on operations with Russian sovereign debt (following
announcements in 2019 and 2021) will likely reduce the inflows in 2022. If this
assumption is incorrect, additional portfolio inflows could support the RUB in 2022.
The CBR will continue to sterilise a significant proportion of oil and gas revenue, The CBR's FX purchases are likely to
transferring the windfall into the National Welfare Fund (NWF). We calculate that at our grow next year as the government
oil and RUBUSD assumptions the CBR is likely to buy c.$36bn in 2021, $58bn in 2022 reverts to a tighter formulation of
and $36bn in 2023 (the jump in projected FX purchases for 2022 has to do not only with the fiscal rule.
slightly higher oil prices but also with a lower de-facto cut-off oil price compared to
2021, which should translate into higher above-base hydrocarbon revenue in the
budget). These projections do not include any possible transactions stemming from
infrastructure investments from the NWF (up to RUB 2.5tn in 2022-24) as their timing
and size remains uncertain.
The federal budget balance is likely to swing from 3.8% GDP deficit to 0.2% deficit in Higher energy prices and a faster-
2021, thanks to significantly higher than planned revenues, both from oil and gas and than-expected recovery in non-oil tax
non-oil (especially when compared to 2020 which was boosted by transfer of the receipts accelerated fiscal
CBR's profit from the sale of its stake in a large state bank). We expect the budget consolidation, getting the federal
balance to improve further in 2022 to a 1.2% GDP headline surplus, and return to budget to balance already in 2021;
balance in 2023 as the oil prices fall. The draft 2022-24 budget plans for RUB 2.2-2.7tn we expect a 1.2% GDP surplus in
in net RUB debt issuance in 2022-23, up from (substantially reduced vs original plans) 2022 and a somewhat more growth-
RUB 1.8tn in 2021. The bulk of the fiscal consolidation post the pandemic was thus supportive stance in 2023, potentially
delivered in 2021, with the non-oil deficit falling from 8.7% of GDP in 2020 to an boosted by investments out of the
estimated 7.2% in 2021; we forecast a further decline to 6.1% in 2022 as the fiscal rule NWF.
application is tightened post the temporary relaxation in 2020-21. Our projections imply
the fiscal stance turns more supportive in 2023. Off-budget, the government also plans
to invest up to RUB 2.5tn from the NWF into infrastructure projects, predominantly
domestically. At the same time, the minimal size of the NWF kept in liquid assets is
planned to be raised from 7% of GDP to 10% of GDP.

Figure 429: GDP growth by expenditure Figure 430: Output in key sectors contracted in Q3'21
10
Contribution to GDP growth, ppt 15.0 % q/q seas. adj.
10.0
5
5.0
0 0.0
-5.0
(5)
-10.0
(10) -15.0
2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 21F 22F 23F
Private consumption Government consumption -20.0
Freight turnover IP Manufacturing Retail sales volume
Gross Fixed capital formation Stocks
Net exports GDP Q4'19 Q1'20 Q2'20 Q3'20 Q4'20 Q1'21 Q2'21 Q3'21
Source : Rosstat, Haver, UBS Source : Rosstat, Haver, UBS
Figure 431: CBR likely to keep a tight stance in 2022 Figure 432: FX purchases vs C/A balance
18 14 90
UBS forecast $ bn $/bbl
16 11 80
14
8 70
12
5 60
10
2 50
8
-1 40
6
-4 30
4
2 -7 20
Feb-17 Aug-17 Feb-18 Aug-18 Feb-19 Aug-19 Feb-20 Aug-20 Feb-21 Aug-21
0
Jan-10 May-11 Sep-12 Jan-14 May-15 Sep-16 Jan-18 May-19 Sep-20 Jan-22 May-23
MinFin FX purchases, $bn (market only) C/A surplus, $bn Brent, $/bbl
CPI, %y/y Key Rate, % CBR medium term target
Source : Rosstat, CBR, Haver, UBS Source : CBR, Haver, UBS
Figure 433: Balance of payments chart Figure 434: Jump in oil revenues sped up fiscal
consolidation in 2021
70 140 % of GDP
4.0
60
120 2.0
50
100 0.0
40
30 (2.0)
80
20 (4.0)
60
10
(6.0)
0 40
(8.0)
-10
20 (10.0)
-20 13 14 15 16 17 18 19 20 21F 22F 23F
-30 0
Mar-05 Oct-06 May-08 Dec-09 Jul-11 Feb-13 Sep-14 Apr-16 Nov-17 Jun-19 Jan-21 Change in oil revenue, % of GDP Change in non-oil revenue, % of GDP
Trade balance. $bn, Seas.adj Services balance, $bn, seas.adj. Federal budget balance, % GDP Non-oil balance, % GDP
Income balance, $bn, Seas. adj. Current account balance, $bn, seas. adj
Brent, $/bbl (rhs)
Source : Rosstat, CBR, Haver, UBS Source : Ministry of Finance, State Duma, Haver, UBS

Russia
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 1277 1574 1657 1687 1483 1669 1912 1986
Real GDP growth, % 0.2 1.8 2.8 2.0 -3.0 4.4 3.0 2.1
Private consumption, % y/y -2.5 3.7 4.2 3.1 -8.5 9.3 3.3 3.4
Exports, % y/y 3.2 5.0 5.6 0.7 -4.3 0.7 8.2 3.5
Imports, % y/y -3.7 17.3 2.7 3.4 -12.0 14.8 10.5 5.5
10 year zero coupon yield, % (year-end) 8.45 7.64 8.78 6.41 6.27 8.10 7.25 7.00
USD/RUB (year-end) 60.7 57.6 69.5 61.9 73.9 70.0 70.0 72.0
EUR/RUB (year-end) 63.7 68.2 79.5 69.3 88.7 82.6 87.5 93.6
Fiscal accounts
General government budget balance, % GDP* -3.5 -1.5 2.6 1.8 -3.8 -0.2 1.2 -0.1
Revenue, % GDP 15.6 16.4 18.6 18.5 17.5 19.5 19.0 17.8
Expenditure, % GDP 19.1 17.8 16.1 16.7 21.3 19.7 17.8 17.9
Primary balance, % GDP -2.7 -0.7 3.4 2.5 -3.1 0.8 2.2 1.1
Public sector debt (gross),% GDP** 13.0 12.6 13.1 12.4 17.7 17.7 18.1 19.2
Balance of payments
Exports, USD bn 282 353 444 420 332 494 524 475
Imports, USD bn 191 238 249 255 240 301 323 333
as % of GDP 1.9 2.0 7.0 3.8 2.3 7.3 5.8 3.0
Foreign direct investment (net), USD bn 10 -8 -23 10 3 -10 -8 -5

South Africa
We expect GDP growth to moderate from 5.3% in 2021 to 2.4% in 2023. While
windfall commodity gains helped the budget in 2021, the public sector wage bill and
the basic income grant are key to fiscal sustainability.
We see inflation elevated in both 2021 and 2022. In combination with a better
growth outlook, we expect the SARB to raise rates to 5.75% by end-2023. We
project ZAR depreciation in 2022-23, in line with the pullback in commodity prices.
We maintain our 2021 GDP forecast at 5.3%. In part, this is the reflection that the We keep our 2021 GDP forecast at
incoming effects in H1 2021 (so called carry-over) would imply 2021 GDP growth of 5.3% and assume more normal
5.2%. Clearly, the third pandemic wave-related mobility restrictions in combination with growth rates in Q4 2021 after a soft
the July social unrest weighed on activity in the third quarter: retail sales were down c.- Q3
8% q/q based on July-August data, while manufacturing production and car sales
dropped by -6% q/q. It was only mining where output was up (c.2% q/q). PMI also
averaged at 52.7 in Q3 versus 57.1 in Q2, but on average the August-September
readings were higher than Q2's average. Mobility data pointed to a nice rebound in
activity in September and October with the easing of mobility restrictions: mainly in
retail, grocery & pharmacies and also in transit. All in all, we believe that the data is
consistent with a concentrated hit on Q3 activity, but then a rebound to more normal
growth rates in Q4. We currently project a -0.8% q/q GDP dip in Q3 (non-annualized),
followed by a 1.5% q/q increase in Q4 GDP. The SARB recently estimated that the riots
should have generated a 40bps drag on 2021 activity.
There are two key global assumptions that have an impact on our South African More challenging backdrop in 2022-
economic forecasts. First, the slowdown in Chinese growth from 7.6% in 2021 to 5.0% 23: slowing Chinese economy, rising
in 2023. Second, the expected correction in US 10Y real rates, which the UBS Strategy US real rates and substantial
team expects to rise from c.-110bps to closer to zero by end-2023. In relation to the first correction in commodity prices
assumption, using UBS's commodity price forecasts we estimate that South Africa's
export commodity mix will see a roughly -14% drop in prices by end-2022 (from current
levels) and another c.-10% slide by end-2023. The biggest downward correction should
occur in coal prices (c.-38%) and rhodium prices (c.-30%), followed by iron ore (c.-24%)
and palladium (c.-20%), with only platinum prices expected to rise (c.+17%). It is
important to note that despite the predicted sizable correction, commodity prices by
end-2023 should still be higher than pre-pandemic levels (end-2019), which implies a
positive, albeit declining terms-of-trade shock for the South African economy.
We project 3.2% and 2.4% GDP growth for 2022 and 2023. The somewhat slower GDP growth to slow in 2022/23, but
growth would be consistent with slowing external demand, weaker commodity prices should still be higher than the pre-
and the need for tighter policies (both fiscal and monetary). These growth rates, pandemic pace given the lack of
however, would remain well above the pre-pandemic growth of just 1% between 2014 major capacity constraints
and 2019. In our view, with gradually increasing vaccination, economic activity would
have to run further before hitting any major capacity constraints. We currently expect
the South African economy to reach pre-pandemic GDP levels by Q1-2022. Labour
buffers remain large: by Q2 2021 only c65% of the lost jobs were re-created
(employment is around 14.9mn people), while the number of inactives remained
c2.5mn above that in late 2019 and the number of unemployed was also around 1mn
higher than in Q4 2019. Manufacturing capacity utilization at 79% in Q2 2021 also
stayed well below the average of c.81.5% in 2016-19. The SARB's September forecast
assumes – with a slower growth profile than ours – that the output gap would not be
closed in 2023. Even with our faster growth trajectory, the unemployment rate is likely
to remain above 30% by end-2023. Our growth projections are 110bps and 40bps
above the consensus' respective estimates.
Our baseline scenario implies 2-3% growth in household consumption, in line with the Could we see a pick-up in
labour market healing. We expect 3.5-4.5% export growth, aided also by the investments?
normalization of tourism. A crucial part of our forecast – where we could prove too
optimistic – is a rise in fixed investment spending by 7% in 2022 and 5.5% in 2023. We
identify four sources for investments: electricity supply-related investments (given the lift
in self-generation cap to 100MW and the fifth Bid Window conclusion for renewables),
recovery in corporate lending (in part related to the electricity projects), progression with
other infrastructure projects (government’s Infrastructure Investment Plan and
potentially some spectrum-allocation related outlays) and higher FDI inflows (c.USD 2bn
in Q2-21 on a 12m rolling basis). Any financing commitments from COP26 to facilitate
South Africa's emission reduction plans could also help.

We expect inflation to rise to 5.5% y/y by end-2021 from September's 5.0% y/y print, We expect inflation to peak around
mainly driven by the ZAR 1.2 increase in fuel prices per litre in November and another 6% y/y in Q1 2022, then fall to 4.7%
step-up in rental inflation to 1.6% y/y in December. We believe there is upside risk to our end next year
forecasts. This inflation outcome is likely to be visibly above the SARB's own projection
from September (5% for Q4 2021). We project average inflation to accelerate to 5.1%
in 2022 from 4.5% in 2021 – with inflation peaking at close to 6% in Q1 2022. This
would be driven mainly by the expected rise in medical insurance costs (February 2022)
and another pick-up in rental inflation in March, i.e. the items that have helped to keep
headline and core inflation more subdued. From Q2-22 onwards we foresee CPI easing
gradually and dropping to 4.7% y/y end-2022. This would be consistent with: a) some
deceleration in food inflation towards 5.5% y/y vs 6.6% y/y currently; b) fuel inflation
declining to 6% y/y by end-22 (vs 20% currently) given UBS's oil price forecast of $67
per barrel in Q4 2022; c) an electricity price increase of c12%; and d) some of the re-
opening related pressure on service prices falling out of the base. We would expect a
further increase in rental inflation in 2022 (to around c.3% by end-22), which should
narrow the gap between core and headline inflation.
We think that the SARB is likely to respond to the broader set of upside inflationary risks SARB to raise its policy rate to 5.75%
(external and domestic) and to lift its policy rate by 25bps to 3.75% at the November by end-2023, starting in November
meeting. The October Monetary Policy Review (MPR), in our view, has contained several
hints that would be consistent with this approach: "However, risks to the inflation
outlook have risen and become more broad-based, while real rates have become more
negative as expected inflation has risen" and "the stronger than expected recovery in
economic activity suggests that underlying price pressures may be stronger than initially
thought. With inflation around the target midpoint and the output gap closing, the repo
rate needs to adjust to its estimated neutral level over the medium term, to reduce the
stimulus and keep inflation contained. Delaying the lift-off could see the monetary
policy authorities playing catch-up with inflation, potentially destabilising the relatively
well-anchored inflation expectations". We expect another 4 hikes (25bps each) in 2022
to 4.75% – given that inflation would be above the target throughout 2022 – and then
another 100bps of hikes to 5.75% by end-2023. We believe that the policy rate would
remain below what the SARB indicates as neutral (c6.8%). Our rate trajectory remains
less hawkish than market pricing (more than 150bps rate hikes priced in the next nine
months), but less dovish than market consensus (three hikes until end-2022).
Based on the April-September data, we believe that budget revenues are likely to be ZAR Improving fiscal performance given
130bn above target in the fiscal year 2021/22. A dominant part (ZAR 80bn or c.60%) better tax collection, but public
would come from corporate income taxes, reflecting the strong performance in the sector wage restraint and the fate of
mining sector. Another c.15% of outperformance should come from personal income the Basic Income Grant remains key
taxes, with the rest from indirect taxes. This performance would easily cover the roughly
ZAR 40bn extra cost associated with the relief measures announced after the July unrest.
Overall, we believe that the budget deficit could be around -6.7% of GDP in 2021/22 (vs
-9.2% of GDP official forecasts). Given the correction in commodity prices, we do not
believe that the corporate tax performance could be rolled over into the outer years, but
the rest of the taxes would still allow for ZAR 40-50bn outperformance in the outer
forecast horizon as well. We believe that in 2022 and 2023 the success of fiscal
consolidation would thus depend on two expenditure side items. First, whether the
government would be able to control the increase in the public sector wage bill via a
successful conclusion of wage talks with the unions. The 2021 Budget would only allow
for a c.0.7% increase in wages in each of 2022 and 2023. Second, what happens with
the current social relief distress grant and whether a larger and broader Basic Income
Grant (BIG) would be introduced at some point in the future? In our calculations, we
incorporate the continuation of the ZAR 40bn annual cost of continuing with the social
relief distress grant, but not a larger BIG line (which might come as a part of a broader
entitlement and social security reform), which South Africa would probably struggle to
accommodate fiscally. In this framework we forecast the budget reaching a primary
balance in the fiscal year 2023/24 and public debt to GDP rising towards 71% by end-
2023.
With the expected fall in commodity prices – and the concomitant correction in the We project ZAR depreciation in 2022-
trade surplus, which started to roll over in September – and rising US real rates, we 23
assume some correction in ZAR towards 16.5 against the USD by end-2023. We expect
the current account to move from an expected c.3.7%-of-GDP surplus in 2021 to a
small -0.2%-of-GDP deficit in 2023.

Figure 435: GDP growth, % Figure 436: Inflation and rate outlook, %
6.0
12.0%
4.0
2.0 10.0%
0.0
8.0%
(2.0)
(4.0) 6.0%
(6.0)
4.0%
(8.0)
(10.0)
2015 2016 2017 2018 2019 2020 2021E 2022F 2023F 2.0%
Private consumption Government consumption Capital formation
Net exports Inventories & stat discr. GDP 0.0%

Jan-07 Jan-09 Jan-11 Jan-13 Jan-15 Jan-17 Jan-19 Jan-21
Headline CPI 3% limit 6% limit Repo rate
Source : StatsSA, Haver, UBS Source : StatsSA, Haver, UBS
Figure 437: Labour market indicators, thousand people Figure 438: Key commodity prices (Jan 2016=100)
21000 680.00 5000.00
4500.00
18000 580.00
4000.00
3500.00
15000 480.00
3000.00
12000 380.00 2500.00
2000.00
9000 280.00
1500.00
1000.00
6000 180.00
500.00
3000 80.00 0.00
01-Jan- 04-Jan- 04-Jan- 05-Jan- 08-Jan- 09-Jan- 11-Jan-
2015 2016 2017 2018 2019 2020 2021
0
Q1-17 Q3-17 Q1-18 Q3-18 Q1-19 Q3-19 Q1-20 Q3-20 Q1-21
Palladium Platinum Gold Coal Iron ore Rhodium
Employed Unemployed Not economically active
Source : StatsSA, Haver, UBS Source : Haver, UBS
Figure 439: Record trade surplus, USD bn Figure 440: Budget deficit and public debt, % of GDP
35.0 120.0 3.0 75
30.0
70
0.0
25.0 110.0
65
20.0 (3.0)
15.0 100.0 60
(6.0)
10.0
55
5.0 90.0 (9.0)
50
0.0
(12.0)
(5.0) 80.0 45
(10.0)
(15.0) 40
2015 2016 2017 2018 2019 2020 2021E 2022F 2023F
(15.0) 70.0
Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16 Jan-17 Jan-18 Jan-19 Jan-20 Jan-21 Budget balance, % of GDP Public debt, % of GDP, r.s.
Trade balance (lhs) Exports (rhs) Imports (rhs)
Source : SARS, Haver, UBS Source : National Treasury, UBS

South Africa
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 323 381 405 388 335 409 429 436
Real GDP growth, % 0.7 1.2 1.5 0.1 -6.4 5.3 3.2 2.4
Government consumption, % y/y 2.0 -0.3 1.0 2.7 1.3 0.0 0.0 0.0
Gross Fixed Capital formation, % y/y -1.9 -2.0 -1.8 -2.4 -14.9 1.5 7.0 5.5
Exports, % y/y 0.4 -0.3 2.8 -3.4 -12.0 11.0 4.5 3.5
Imports, % y/y -4.1 1.5 3.2 0.5 -17.4 9.0 4.0 3.0
Industrial Production (%) 0.7 -0.4 1.2 -0.9 -11.0 10.0 5.0 4.0
USD/ZAR (year-end) 13.7 12.3 14.4 14.0 14.7 15.0 15.8 16.5
EUR/ZAR (year-end) 14.3 14.7 16.5 15.7 18.0 17.7 19.7 21.5
Fiscal accounts
Revenue, % GDP 23.9 23.6 23.8 24.0 21.7 23.4 23.7 24.5
Expenditure, % GDP 27.4 27.7 28.1 30.2 32.7 30.6 30.2 29.5
Primary balance, % GDP -0.4 -0.9 -0.9 -2.5 -6.7 -2.5 -1.4 0.0
Balance of payments
Exports, USD bn 77 88 94 90 85 115 111 111
Imports, USD bn 74 83 92 87 68 85 90 95
Current account balance, USD bn -8 -9 -13 -11 7 15 5 -1
as % of GDP -2.6 -2.3 -3.3 -2.8 2.0 3.7 1.2 -0.2
Foreign direct investment (net), USD bn -2 -5 2 2 5 5 6 7

Turkey
We present our baseline macro forecast on the assumption of sustainable growth
and policies, which would imply slowing of growth (3.8%/3.4% in 2022/23E), some
easing of inflation and some scope to cut the policy rate.
However, given the recent dovish monetary policy focus shift, actual outturns could
be a lot more volatile. We believe that Turkey's policy space to boost the economy
remains limited.
In order to be able to produce macroeconomic scenarios for 2022-23 in Turkey, it is Key macro constraints on monetary
important to consider the key macro vulnerabilities and policy space parameters to map policy
the key cornerstone of a "sustainable growth trajectory". We, in particular, would focus
on the following constraints on monetary policy:
1) Deposit dollarization. Following two years of strong dollarization (c.USD 74bn to

USD 264bn in 2019-20), this year there was a marginal, USD 1.2bn drop in hard
currency deposits: while Turkish corporates increased their FX deposits by USD 5.4bn (to
USD 91bn), Turkish households have cut their FX deposits by USD 6.6bn to USD 144bn.
In case of households, this is basically a reduction of precious metal deposits – a pay-
back after the strong increase in 2020. We highlight three points of caution here: a) the
small overall change this year masks large periodical swings (like the USD 14bn
uninterrupted increase between June and mid-September); b) currently real policy/
deposit rates are under pressure from rising inflation expectations and lower policy rates
(+180bps in October using one-year-out inflation expectations) and have dropped
below those levels that historically were consistent with a stable currency (500-600bps
since 2018 and around 350-400bps since 2013); and c) due to the TRY depreciation, FX
deposits still account for 56% of total bank deposits, back to all-time highs.
2) FX reserves. Turkey's gross FX reserves should reach USD 130bn end-2021 or an

increase of almost USD 40bn this year. Most of the increase, however, would come from
factors that do not affect net FX reserves: the SDR allocation impact (USD 6.3bn),
increased swaps with Korea and China (combined cUSD 6bn), and higher FX reserve
requirements (USD 10bn). The factor that helped net FX reserves ex swaps to grow
(currently: USD -29.3bn) was the USD 21bn contribution from the export rediscount
facility. This facility remains the main vehicle for the CBT to re-build FX reserves: in
September the CBT increased the size of the facility to USD 30bn. At the current size, it
would take the CBT two years to raise the net FX reserves ex swaps back to end-2018
levels (+USD 32bn) assuming no FX intervention in the interim.
3) Key external balance trends. The likely reduction in the current account deficit to
USD -20bn or -2.7% of GDP in 2021 from USD -35bn or -4.9% of GDP in 2020 is mainly
driven by improving tourism revenues (USD 9bn more than last year) and lower gold
imports – a corollary of reduced deposit dollarization (c.USD 20bn improvement). This
was offset by rising energy imports (up by USD 10bn). We note that energy imports are
now in line with 2017-19 levels, tourism is likely to be still USD 9bn short of the record
2019 levels (net tourism revenue was USD 26bn in 2019), while gold imports are around
USD 7bn smaller than the 2017-19 levels.
4) Inflation, inflation expectations. We see end-2021 CPI at 18.2% y/y, core inflation
(ex energy, food, alcohol & tobacco and gold) at c.18% y/y, with inflation expectations
hovering around the current c.14%. Average inflation since 2018 has been above 19%.
In short, the external balance picture improved a bit, the inflation outlook worsened and Sustainable growth would require
the situation with FX deposits remains a challenging one. In our view, a sustainable slower growth, lower inflation and
growth trajectory in Turkey requires slower growth, which could help to bring inflation better external balances. A
lower, allow for additional improvement in the external balance and create some scope depreciated exchange rate on its
for rate cuts. The recent comments (here, here and here) from the CBT governor also own looks unlikely to solve the
suggest that there is a focus on improving the current account deficit as a way to bring macro backdrop
stability to the Lira, given that the already depreciated exchange rate could bring an
opportunity to ramp up exports. In our view, while the TRY real exchange rate looks
cheap (down c17% since end-2018, CPI-based), this has come on the back of a c.80%
depreciation against the USD. This suggests a lot of leakage via high inflation, and if we
look at the PPI-based REER, the depreciation was only c.4%. Thus, while a softer
exchange rate could help to improve the competitiveness of certain exporters (mainly
the smaller ones based on this CBT study), we believe that there is a very high domestic

cost associated with it in the form of persistent inflation and inflation expectations. And
this, in turn, could have a negative impact on financial flows (including portfolio) and
could put pressure on the financial account. This could imply that even in the case of a
balanced current account, the TRY might not stabilize, mainly if economic actors were to
consider the exchange rate as the economic safety valve in case of unforeseen events.
As a starting point to our baseline scenario, we revise our 2021 GDP forecast higher We raise our 2021 GDP forecast to
from 8.9% to 9.4%, given the strength of the incoming data in Q3 (business 9.4% given better Q3 data
confidence, tourism, IP and credit growth). First indications for Q4 remain consistent
with a modest sequential increase in economic activity. However, we flag that sequential
GDP growth is likely to be 0.5-1.2% q/q (non-annualized) in Q2-Q4 2021, and on a year-
on-year comparison, GDP growth should slow from 21.7% y/y in Q2 towards 5% y/y by
Q4 2021. The highest growth contributions should come from the rebound in
household consumption (shifting increasingly to services), investments (machinery &
equipments) and also a jump in exports (tourism).
In our baseline scenario, we expect 2022 GDP growth slowing to 3.8% in 2022 and Our baseline scenario assumes
3.4% in 2023. During these two years we forecast household consumption growth growth slowing in the next two
slowing from 8.5% in 2021 to 2.5% in 2023, while investment growth would also ease years to 3.4% in 2023...
from 9% in 2021 to 3.5% in 2023. In both years, we expect exports to increase the
fastest among key GDP components: 9% in 2022 (including a further normalization in
travel) and 5% in 2023, yielding a positive net exports contribution to activity (+130bps
in 2022 and +80bps in 2023). Our 2022 GDP forecast is in line with market consensus,
while our 2023 projection is 60bps below consensus.
This growth trajectory would be consistent with the external deficit narrowing further ...with a further narrowing of the
from -2.7% of GDP to only -0.4% of GDP in 2023 even with some increase in gold current account gap and inflation
imports and assuming oil prices around $68.5 in 2022 and $60 in 2023. This should give falling further
some support to the exchange rate. In addition, we assume that the pace of rate cuts
would be carried out in a way that there is enough real (forward-looking) interest rate
buffer offered to domestic households and companies so that they steer away from any
significant deposit dollarization. In this scenario, we believe that inflation could drop to
13% by end-2022 and potentially to a single-digit rate in 2023, and the policy rate could
be reduced from 16% currently to 14.5% end-2022 and 12% end-2023. Our new
inflation forecasts, however, remain above the CBT's new inflation projection (end-
2022: 11.8%, end-2023: 7%). We would not see a lot more additional TRY depreciation
in this scenario: we forecast the TRY at 10.5 versus USD by end-2022 and end-2023.
Analyst consensus for 2022 calls for deeper rate cuts (13.5%) and a stronger lira (10.0).
What are the key risks to this scenario? First and foremost, a too rapid easing of policies. An alternative scenario: could there
A faster pace of rate cuts could create a rebound in credit growth initially, but it would be more policy easing?
come at the cost of reducing the forward-looking real interest rates further (potentially
into negative territory). This, historically, would be consistent with a fairly rapid increase
in FX demand via increased dollarization of deposits (the stock of TRY deposits, which
can be converted into USD, was c.USD 200bn in late October). While the central bank
could try to intervene away some of the recent gains in net FX reserves to defend the
currency (mainly the USD 20bn portion coming from the export rediscount facility), this
might not prove a sustainable solution – like in 2020 – and in the end the central bank
might have to hike rates back, potentially even over and above the starting point of the
easing. In this scenario, the TRY would settle at a weaker exchange rate (vs our current
estimate), inflation would find it hard to come off from the almost 20% recent readings
and we believe any growth benefits would be fairly short-lived. Given the key
parameters of the global backdrop – rising US real rates and slowing Chinese economic
growth – we also believe that a too rapid easing would also put pressure on foreign
positioning in Turkish assets, although foreign ownership of bonds and Turkish equities
are around the lowest levels historically (worth around USD 28bn). Fiscal easing would
look initially more plausible, given the current strong performance (IMF-defined primary
budget balance was just at -0.4% of GDP at the end of Q3 2021, the best position since
2016), but that would inhibit the improvement of the current account position. Finally,
credit growth has moderated to c.12% on the recent data, from the c.40% increase in
2020 – here again we think that the room to try to incentivize credit growth via faster
rate cuts (like in 2020) would be difficult to sustain.
The next parliamentary and presidential elections are scheduled for June 2023. Recent Next election scheduled for 2023
polls imply that governing AKP and MHP currently enjoy c.40% popular support.

Figure 441: GDP growth (%) and contribution Figure 442: Headline inflation, %
10 28
8 forecast
24
6
20
4
16
2
12
0
8
(2)
(4) 4
2016 2017 2018 2019 2020 2021E 2022F 2023F
0
Private consumption Govt consumption Fixed investment
Net exports Inventories GDP growth CPI (% y/y) Inflation target
Source : TurkStat, Haver, UBS Source : TurkStat, Haver, UBS
Figure 443: External balance, % of GDP Figure 444: FX reserves, USD mn
1.0 160,000
140,000
0.0
120,000
100,000
(1.0)
80,000
60,000
(2.0)
40,000
20,000
(3.0)
0
(20,000)
(4.0)
(40,000)
(5.0) (60,000)
Jan-2005 Jan-2009 Jan-2013 Jan-2017 Jan-2021
Gross foreign assets Net foreign assets Net assets (ex FX swaps)
(6.0)
2014 2015 2016 2017 2018 2019 2020 2021E 2022F 2023F
Source : CBT, Haver, UBS Source : CBT, Haver, UBS
Figure 445: Deposit dollarization, USD mn Figure 446: Budget balance, % of GDP
29
% of GDP
270,000 6.0 27
25
260,000
4.0 23
21
250,000
2.0 19
240,000 17
Dec-07 Dec-09 Dec-11 Dec-13
0.0 Revenues (% of GDP)
230,000 Expenditures (% of GDP)
Expenditures ex Interest (% of
(2.0)
220,000
(4.0)
210,000
200,000 (6.0)
Jan-20 May-20 Sep-20 Jan-21 May-21 Sep-21 Jan-08 Jan-10 Jan-12 Jan-14 Jan-16 Jan-18 Jan-20
Primary budget balance Primary budget balance, IMF definition

Total FX deposits, USD mn
Headline budget balance
Source : CBT, Haver, UBS Source : Ministry of Finance, Haver, UBS

Turkey
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 868 859 785 760 716 754 774 858
Real GDP growth, % 3.3 7.5 3.0 0.9 1.8 9.4 3.8 3.4
Private consumption, % y/y 3.8 5.9 0.6 1.5 3.2 8.5 3.5 2.5
Gross Fixed Capital formation, % y/y 2.2 8.3 -0.2 -12.4 7.2 9.0 4.0 3.5
Exports, % y/y -1.7 12.4 8.8 4.6 -14.8 18.0 9.0 5.0
Imports, % y/y 3.0 10.6 -6.2 -5.4 7.6 0.0 5.0 2.5
Industrial Production (%) 3.4 9.1 1.1 -0.6 2.2 18.0 7.0 5.0
Policy rate, % (year-end)* 8.31 12.75 24.00 12.00 17.00 15.50 14.50 12.00
USD/TRY (year-end) 3.52 3.79 5.29 5.95 7.44 9.80 10.50 10.50
EUR/TRL (year-end) 3.71 4.55 6.06 6.68 9.11 11.56 13.13 13.65
Fiscal accounts
Revenue, % GDP 32.5 31.2 30.8 30.1 28.7 28.0 27.5 27.5
Expenditure, % GDP 34.8 33.3 34.6 35.7 34.0 31.0 31.0 30.5
Primary balance, % GDP -1.0 -0.9 -2.2 -3.6 -3.4 -0.3 -0.5 0.0
Balance of payments
Exports, USD bn 153 169 179 182 168 207 230 245
Imports, USD bn 193 228 220 199 206 235 248 259
Current account balance, USD bn -27 -41 -22 5 -35 -20 -10 -4
as % of GDP -3.1 -4.7 -2.8 0.7 -4.9 -2.7 -1.2 -0.4

Tao Wang
Economist
wang.tao@ubs.com
+852-2971 7525
Ning Zhang
Economist
ning.zhang@ubs.com
+852-2971 8135
Jennifer Zhong
Economist
jennifer-a.zhong@ubssecurities.com
+86-105-832 8324
William Deng
Economist
+852-2971 6765
Katharine Jiang
Economist
Katharine.jiang@ubssecurities.com
+852-2971 7004
Aaron Luo
Associate
aaron.luo@ubssecurities.com
+86-213-8668887
China

Pivotal Questions Q: How will growth drivers change in 2022?

Under the baseline, we expect China's GDP growth to soften to 5.4% in 2022, as a property
downturn weakens investment and zero-Covid policy inhibits consumption recovery. We see export
growth slowing from an estimated 27% in 2021 to a still robust 10% as global economic recovery
slows and supply chain disruption improves. Domestic consumption should recover more strongly
from Q2 as Covid restrictions ease, infrastructure investment should rebound on policy easing, while
manufacturing capex should weaken somewhat due to slowing overall demand.
Q: How bad might the property downturn be?

The fading of the post-Covid rebound and policy tightening of the past year have accentuated an
ongoing structural trend and led to notable weakening in property activities since mid-2021. With
policy stabilizing and likely easing marginally in early 2022, we see property new starts declining by
10-12% in 2022, and real estate FAI falling by about 5%. The property downturn will weaken local
government finances, demand for construction materials, appliances and automobiles, as well as
consumer spending. However, relatively low inventory levels and tight demand-supply situation in
upstream industries should help limit the depth of the downturn. We also expect the government to
ring-fence the financial system from troubled developers, including by providing more liquidity.
Q: Will China re-leverage?

As GDP growth slows sharply at end 2021 and early 2022, we expect the government to ease fiscal
and monetary policies to support growth and prevent a property-led hard landing. Property policies
and financial regulations will likely become less hawkish as well. Although we see credit growth
largely stable y/y, China's credit impulse will become less negative and debt/GDP ratio should likely
rise by 4-5ppts in 2022 and another 5ppt in 2023 after declining by >7ppts in 2021, as nominal GDP
growth slows significantly.
Q: What structural trends and policies can we expect?

China's trade and investment linkages with the world strengthened in 2021, though geopolitical
tension and decoupling pressures remain. We see China emphasizing supply chain security with more
market opening, digitization and technological upgrades, green development, and common
prosperity in the coming years. The latter means continued support to employment growth and the
private sector, better public services and social safety nets, and gradual hukou and tax reforms.
UBS VIEW Real GDP growth to slow to 5.4% in 2022, led by exports, domestic consumption, and a rebound in
infrastructure. Property investment will likely decline while manufacturing capex should slow. PPI
inflation should moderate while CPI should climb to 2%. In 2023, we expect growth to be close to
trend at 5%. We expect USDCNY to trade around 6.5/6.5 at end 2022/23.
EVIDENCE Our analysis and UBS Evidence Lab surveys suggest that property market sentiment has weakened
and the labor market recovery slowed. CFO intentions to move supply chains remain elevated. China
has already signalled fiscal and monetary policy easing.
WHAT´S PRICED IN? Our 2022/23 GDP growth forecasts assume continued zero-Covid policy until end Q1-2022, after
which domestic rules ease notably. The market may not have priced in such a pronounced dip and
subsequent rebound. We also expect a sharper property slowdown in the near term but no
systematic financial problem. We expect China’s exports to remain more resilient than market
consensus.
RISK The government may not ease domestic Covid restrictions even after Q1 2022, which would inhibit
the services recovery and consumption. There are also uncertainties about the magnitude of the
property downturn and timing and scale of policy support. In the case of longer-lasting zero Covid
policy in China or a deeper property downturn, GDP growth in 2022 could drop to 4%. Meanwhile,
any upside, either from stronger exports or faster relaxation of Covid policy, will be limited, as China
would limit macro policy support in that case.
(Growth, %) 2019 2020 2021E 2022E

Property sales (floor space) (0.1) 2.6 ~2 -10 to -8
Property new starts (floor space) 8.5 (1.2) -8 to -7 -12 to -10
Property development investment 9.9 7.0 ~5 ~-5
Source : CEIC, UBS estimates

China
Covid restrictions are set to remain tight or tighten in the coming winter, hurting
consumption. We expect consumption to rebound from Q2 2022 as domestic
restrictions ease considerably.
We expect property sales and new starts to decline by about 10% in 2022 and real
estate investment to contract by 5%. Modest policy easing should help stabilize the
sector and economy in H2 2022 and 2023.
We expect modest easing in fiscal and monetary policies leading to higher
infrastructure investment, a rebound in the credit impulse and a mini re-leveraging in
2022.
How will growth drivers change next year?

GDP growth to slow to 5.4% in 2022 in our baseline scenario. Our baseline We forecast 2022 GDP growth to
assumes no major Covid resurgence globally and China implements a booster slow to 5.4%, led by the property
vaccination widely by mid-2022. We assume China will ease some domestic mobility downturn and a delayed
restrictions after March 2022 while keeping tight border controls, the global recovery consumption recovery
continues while supply chain disruptions ease. Under this scenario, we expect economic
growth to slow to 5.4% in 2022, as exports contribute much less to growth than in
2021, the property downturn is somewhat offset by a rebound in infrastructure
investment, and consumption normalizes from Q2 onwards after an initial slump. As
global recovery slows to 4.8% in 2022 with spending shifting more to services, we
expect export growth to slow to 10% from about 27% this year. We forecast China's
growth to slow further to 5% in 2023, close to the trend pace.
Consumption recovery depends on Covid policies and the labor market Consumption to grow by 5.7% in
recovery. Official urban new employment and unemployment data seem to both have 2022, but when and how China’s
normalized to pre-Covid levels. However, wage data and UBS Evidence Lab labor market Covid policy changes is key, as is
and consumer surveys suggest that employment and wage growth are not yet back to continued labor market recovery
pre-Covid normal. Consequently, the saving rate has remained above 2019 levels and
consumer confidence has been relatively weak. In the coming months, we expect Covid-
restrictions to remain tight and be tightened further around the Winter Olympics next
February, inhibiting consumption growth, together with the ongoing property
downturn, which has already weakened construction jobs. From Q2 2022 onwards, we
expect domestic Covid-restrictions to be eased, leading to a notable rebound in
consumption, especially services, effectively lowering the current high precautionary
saving rate. We expect the government to continue its pro-employment policies and
SME support but with no meaningful stimulus or subsidies for consumption.
Consumption is expected to grow by 5.7% in 2022 in real terms, with consumer services
reviving more. The strength of consumption recovery will depend on how and when
China's Covid policy changes, especially tight controls on domestic mobility and live
events. Over the longer term, common prosperity-related policies such as wider and
stronger social insurance, hukou reform, and better public services should help support
consumption.
Figure 447: China baseline forecasts

2020 2021E 2022E 2023E
Actual UBSe UBSe UBSe
Real GDP growth (%) 2.3 7.6 5.4 5.0
Gross fixed capital formation 6.3 3.3 4.4 4.3
Consumption -1.0 6.7 5.7 5.6
Net exports (contribution to GDP) 0.7 2.3 0.4 0.2
Current account surplus (% of GDP) 1.9 2.1 2.2 2.0

Exports (%, in USD) 4.6 27.0 10.0 5.5
Imports (%, in USD) -0.6 28.0 9.0 5.0
CPI (%, average) 2.5 0.9 2.0 1.6

10-y CGB yield (%, end year) 3.2 2.8 3.0 3.0
Credit growth (%, adjusted TSF) 13.3 10.2 9.8 8.6
USDCNY (end year) 6.5 6.4 6.5 6.5

Source : CEIC, UBS estimates

The ongoing property downturn will weigh on overall FAI... After growing Property weakness is expected to
strongly in H2 2020 and H1 2021, property activities weakened sharply in recent months continue in 2022 even with some
as the post-Covid rebound faded, tighter policies took effect and Evergrande troubles policy easing
weakened market conditions. Property sales shrunk by 12.5% and new starts declined
by 17.4%y/y in Q3, and real estate investment slowed from 15%y/y in H1 to -3.5%y/y in
September. The central bank has confirmed an easing of mortgage quota and the
government has asked banks and local governments to work together to ensure a
stabilization of the property market, but property weakness is expected to persist in
2022. The latest UBS China housing survey showed that homebuyers' purchase
intention in the next two years has weakened notably. We think property policies may be
eased somewhat more after Q1 2022, including easier credit conditions and more rental
constructions. We expect property new starts to decline by 10-12% and real estate
investment to decline by 4-5% in 2022, with weakness in commodity housing
cushioned somewhat by old-town renovation and rental construction.
Figure 448: Consumption to grow by 5.7% in 2022; Covid Figure 449: Construction hiring momentum weakened
restriction is a key uncertainty
Nominal growth (% y/y, 3mma)

80
70 Online goods sales
60 Overall goods retail sales
50 Catering
40 Above-sized auto
30
20
10
0
-10
-20
-30
-40
-50
2017 2018 2019 2020 2021
Source : CEIC, UBS estimates Source : UBS Evidence Lab
…while infrastructure FAI is expected to rebound, helping to support a rebound Infrastructure FAI to rebound to 4%
in total FAI. China has held fiscal policy tighter than budgeted in Q1-Q3 amid a strong growth with fiscal policy easing
growth recovery and surging commodity prices. Infrastructure FAI grew only 1.5%y/y while manufacturing capex to slow.
Q1-Q3 and declined by 6.9%y/y in Q3. Looking ahead, with property investment Total fixed investment likely to
declining, consumption recovery constrained by Covid policy and exports expected to rebound in real terms
slow, we expect the government to ease fiscal policies, including by accelerating the
issuance and deployment of LG bonds, speeding up project approvals, easing somewhat
tight controls on LGFV financing, or bringing forward next year's infrastructure
investment. We expect overall infrastructure investment growth to rebound to 4% in
2022. After growing by 15%y/y in Q1-Q3, we expect manufacturing capex spending to
slow somewhat in the face of the property downturn and shrinking margins.
Nevertheless, the need to build a more complete supply chain at home due to external
restrictions and disruptions, and the government's emphasis on technological upgrade,
green development and de-carbonization should also support investment in related
areas. We expect real total investment growth to edge up, though nominal fixed
investment will likely slow as prices stabilize.

Figure 450: Property FAI to decline while infrastructure Figure 451: Breakdown of China's >RMB 18 trillion
investment to rebound in 2022 infrastructure investment
Infrastructure FAI breakdown (RMB trillion, % of total, 2020)
Others; 0.7; Electricity &

4% Heating; 2.3;
12%
Gas; 0.3; 1%
Water; 0.9; 5%
Utility Railway
Management; Transport; 0.7;
6.9; 37% 4%
Highway
Environment Transport; 4.8;
Management; 26%
Waterway
0.8; 4% Transport; 0.1;
Water
Conservancy; Air Transport; 1%
1.0; 5% 0.2; 1%
We expect power shortage to dissipate in Q1 2022. Strong growth in energy Power shortage to ease in Q4 and
demand, a limited increase in coal supply and implementation of energy efficiency largely dissipate in Q1 2022
targets led to power shortages and production cuts in recent months. The central
government has pushed to increase coal production and imports and raised power
tariffs to help address the issue. We think power shortages will be eased in Q4 though
still limit industrial production. In Q1 2022, with seasonally low energy demand, slowing
property-related demand, and the start of a new annual energy efficiency target that is
easier to achieve from this year’s base, we expect power shortage issues to largely
dissipate. In addition, the central government has called for avoidance of campaign-style
energy control and de-carbonization restrictions and setting more feasible goals. The
diminishing energy supply constraints should lead to a recovery in sequential growth of
industrial production.
CPI inflation to rebound to 2%, while PPI to cool to 2-2.5% in 2022. The recent CPI inflation to rebound to 2% in
increase in China's power tariff and elevated commodity prices due to supply constraints 2022; PPI inflation to decelerate
may push Q4 PPI to >10%y/y in Q4. In 2022, as supply recovers further, demand for sharply to 2-2.5% in 2022
heavy industrial products weakens on slowing property construction, we expect raw
material prices to stabilize and cool. We forecast PPI inflation to decelerate sharply to 2-
2.5% in 2022. Meanwhile, energy prices for household use are little changed, and
transmission from PPI to CPI remains modest given intense competition in the
downstream manufacturing sector and a less strong consumption recovery. Pork prices
may bottom in September/October and rebound modestly in Q4, before largely
stabilizing in 2022. As such, we expect CPI inflation to move higher in Q4 but average
0.9% in 2021 and rebound to 2% in 2022.
RMB to stay relatively stable and trade in a wider range. CNY stayed relatively USDCNY to fluctuate around 6.4-6.5
stable against the USD but appreciated against the CFETS basket in 2021. In 2022, the
external currency movements are projected to show a mixed picture. UBS projects the
USD depreciating against some major currencies including the euro and sterling, but
appreciating modestly against some EM currencies. The weakness of the USD against
major DM currencies, China’s sizable trade surplus, and continued capital inflows should
support the CNY. However, weakening growth momentum in China, expected
narrowing in the onshore-offshore rate differential, and concerns on China’s external
debt payments may create some depreciation pressure in 2022. On balance, we expect
USDCNY to fluctuate around the current level in 2022 and 2023, ending the year at
around 6.5.
Risks to our forecast would mainly come from Covid-related uncertainties, especially
domestic restrictions, as well as the magnitude of the property downturn and timing
and scale of policy support. In the case of longer-lasting zero Covid policy in China or a
deeper property downturn, GDP growth in 2022 could drop to 4%. Meanwhile, any
upside, either from stronger exports or a faster relaxation of Covid policy, should be
limited, as China would limit macro policy support in that case.

Figure 452: PPI to decelerate while CPI rise to 2% in 2022 Figure 453: USDCNY to fluctuate around the current level
in 2022 and 2023
Growth rate (% y/y)

24
20 CPI
Non-food
16 Food
12 PPI
-4
-8
2015 2016 2017 2018 2019 2020 2021
How bad will the property downturn be?

Property activity is slowing sharply due to waning fundamentals and tighter Slowing urbanization and population
policies. Fundamental support for underlying housing demand is weakening as fewer growth, recent policy tightening, and
new migrants are coming to cities each year and population in the main home-buying spill-over effect from Evergrande all
cohort (age 25-44) has been declining (Figure 454). Urban home ownership is estimated contributed to recent property
at over 90% and about 50 million units of shanty-town housing were built in the past slowdown
decade. Over half of household wealth is already in property, and household debt,
dominated by mortgage debt, has also climbed to 100% of disposable income.
Concerned about a property bubble and related macro-financial risks, the government
adopted a “no speculation” stance in 2017. As the economy recovered strongly in H2
2020, the government tightened property developer credit, followed by controls on
prices and mortgages from Q2 this year as property activities and prices climbed further.
Such tightening and fading of the post-Covid housing rebound led to a weakening of
new starts first, followed by sales and real estate investment. More recently, the debt
troubles at Evergrande effectively helped to shut off other developers’ access to offshore
financing and made both credit conditions and market sentiment worse for the sector.
The latest UBS Evidence Lab China housing survey recorded the weakest home purchase
intention since the survey began since 2015, with only 11% planning to buy a property
in the next two years.
Figure 454: Key cohort of home buyers are declining Figure 455: Developer loans and mortgages both
weakened
Growth rate (%)

5
4
3 Key cohort of home buyer (25-44)
2
1
0
-1
-2
-3
-4
1980 1990 2000 2010 2020 2030E 2040E 2050E
Source : UNPD, Haver, UBS estimates Source : CEIC, UBS estimates
Modest policy easing to help stabilize

We expect no change to the “no speculation” stance, but some policy easing to property sector in 2022, but no large
help stabilize the property sector. The leadership seems determined to contain property or credit stimulus
property-related imbalances and risks. However, the property sector drives 25% of the
economy via direct and indirect channels and one-third of local government revenue,
and is linked to as much as half of total bank loans. We expect the government to limit
the negative impact on the economy and financial sector from a sharp property
downturn. Regulators have reportedly asked banks to ease mortgage lending slightly
and continue issuing loans to developers. In addition, the central bank has increased
liquidity to the market and local governments have been asked to help prioritize
property project delivery. We expect some gradual and modest property policy easing in
the coming months, likely more apparent in early 2022 after a few more months of
sharp property activity contraction. Additional policies could include land policy
adjustment, increased rental construction, and easier credit access. We do not expect a
significant property or credit easing.
Property sales and new starts expected to decline by 15% or more in Q4 and Property sales and new starts
around 10% in 2022, though impact on the economy likely smaller than in 2015- expected to decline by 15% or more
16. Despite recent marginal easing, the impact of earlier policy tightening is still coming in Q4 and around 10% in 2022,
through, market sentiment has cooled, and developers’ credit access remains very stabilizing in 2023. Property demand
limited. Sales and new starts will likely fall more y/y in Q1 2022 due to a high base, but and starts expected to be 20% lower
should narrow the decline after Q2 and possibly stabilize y/y in H2 2022, leading to a by 2030
full-year decline of around 10%. Property investment is expected to fall by 5% or more
in Q4, and by 4-5% in 2022, somewhat cushioned by expected rental construction. We
see this round of property downturn as more modest than 2015, as property inventories
are lower now, and the spill-over effect on upstream sectors (such as steel and coal) is
likely smaller as the excess capacities and leverage there have both declined significantly.
In 2023, property activities should be more stable, with sales volume and starts
stabilizing, and property investment growing by 0-2%. By the end of the decade, both
sales and starts are likely 20% lower than the 2020 level.
Figure 456: Upstream sectors and heavy industries are Figure 457: Property sales and new starts to decline by
heavily affected by property activity slowdown 15%y/y or more in Q4, and by around 10% in 2022
Growth rate (% y/y 3mma)

60
Real estate development investment
Floor space started
40 Floor space sold
20
-20
-40
2015 2016 2017 2018 2019 2020 2021
Significant impact on banks, local government finance; limited impact on Significant drag on economy and
consumption. As written earlier, the impact of China’s property downturn mainly local finance, impact on banking
transmits through the construction supply chain, not household balance sheet, the latter sector manageable and on
owing to the high down-payments. A sharp fall in housing construction will drag down consumption moderate
demand for construction materials, machinery, home appliances and automobiles.
Weaker land sales will also dampen local governments’ capacity in infrastructure
investment, though more bond issuance can help offset that. For banks, the UBS
banking team estimates that 15% of property loans going bad could directly lead to an
80bps increase of banks’ overall NPL ratio, which is manageable given banks’ >220% of
provision coverage. However, around 50% of bank loans are exposed to the property
sector (including also loans collateralized by land and property), so the overall impact on
banks could be larger, though can be managed through regulatory forbearance and
liquidity support. Meanwhile, the wealth impact of a property downturn on
consumption should be limited since there are few home equity loans and prices have

gone up multiples in the past one-two decades.
There are both upside and downside risks to the property sector. In the case of a Policy errors or unintended
significant resurgence of Covid or other external shocks, the government will likely ease consequences, or much weaker
monetary and credit policies more notably, improving property market financial sentiment could lead to a sharper
conditions and market sentiment. This could lead to a milder decline in property downturn. Property tax likely mild
activities in 2022. Downside risks could arise from policy tightness and spill-over effect of and gradual
other policies including unwavering tight control on mortgage and developer financing,
insufficient liquidity provision or allowing banks to withhold credit to the property
sector. A weaker overall economy and income growth could reduce affordability and
demand, land reform and rollout of property tax pilots could affect market expectations
and sentiment, and local government financing gaps may reduce support from rental
construction and infrastructure investment. In this case, property sales and starts could
decline by 15-20% in 2022, leading to more than a 10% decline in real estate
investment and GDP growth dropping to 4% or lower. It is unlikely that all these risk
factors could materialize, given that the government has already decided to start a five-
year property tax pilot in a few cities instead of rolling out a nationwide tax soon, and
that some easing on mortgages and increases in liquidity have already started.
Will China re-leverage in 2022?

Mini re-leveraging as China balances growth and sustainability. As GDP growth We expect only modest policy easing
slows sharply in H2 2021 and early 2022, we expect both fiscal and monetary policies to in 2022-23 as China tries to balance
ease in the coming months. With LG bond issuance and project approvals accelerated, sustainability with short-term
the underlying fiscal condition should improve even with no explicit expansion of the growth
deficit. With the help of increased liquidity offering and an expected RRR cut, market
rates should stay low while credit growth rebounds in the next few months. Property
policies and financial regulation will likely become less hawkish, in line with the
authorities’ effort to stabilize growth and contain financial risk. However, we expect only
modest easing and a mini re-leveraging in 2022-23, given China's high debt level,
limited space to push up infrastructure investment, and the desire to contain property
prices and reduce environmental damage.
Fiscal policy to ease, mainly driven by more effective use of special bonds and Budget deficit to stay at 3.1% of GDP,
more relaxed implicit financing. After holding fiscal policy tight so far in 2021, the no reduction in LG bonds and easier
government has signalled faster LG bond issuance and deployment. We expect 2022's LGFV financing to help AFD to
budget deficit to be kept at 3.1% of GDP and special bond issuance remaining at RMB expand slightly in 2022
3.65 trillion. Contrary to 2021, we expect a much faster special LG bond issuance and
deployment in 2022, especially in H1. More importantly, as local governments’ land
sales decline in 2022, LGFV financing will need to be eased to help fund more
infrastructure investment. Corporates will be asked to do their share as well. We expect
China’s Augmented Fiscal Deficit (AFD) to expand by 0.3-0.5% of GDP in 2022 after
shrinking by >3% this year. AFD includes government budget deficits, net land sales
revenue, and quasi-fiscal financing for infrastructure.
Largely stable credit growth and less negative credit impulse. As growth slows Credit growth to slow to 9.8% at
notably, the PBC has eased liquidity conditions and signalled marginal easing for end-2022 and credit impulse to
mortgage lending, while government bond issuance should also pick up. TSF credit become less negative. Debt/GDP
growth should rebound slightly by end 2021 to 10.2% y/y and hold there in H1 2022, ratio to rise again by 4-5ppt.
before normalizing to 9.8% at end 2022. As nominal GDP growth slows to 7.4% in
2022 from 12.2% this year, the credit impulse should become less negative from -8.7%
of GDP in September 2021 to -0.5% at end-2022, possibly turning positive in Q3 next
year. The drop in nominal growth and stable credit growth mean that China's non-
financial debt/GDP ratio would rise by 4-5ppts in 2022 to 292% of GDP, after declining
by around 8ppts in 2021, and rise by another 5ppts in 2023, on our forecasts.

Figure 458: Stable credit growth, rebound in credit impulse Figure 459: Debt/GDP to rise by 4-5ppt in 2022
Share of GDP (%)
300 Non-financial corporate debt
Government debt
250 Household debt
Total non-financial debt
200
150
100
50
0
07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22
What structural trends and policies can we expect?

China’s integration with the global economy has not declined recently… Despite China has gained export and FDI
decoupling pressures and concerns of China turning more “inward”, evidence suggests share, and increased imports along
an opposite picture so far. China’s exports have gained additional global market share with domestic demand
compared with its pre-Covid level, although this is partly due to China’s early recovery
from Covid and more resilient supply chains. FDI inflows to China managed to grow by
5.7% in 2020, against the 36% decline in global FDI inflows. FDI flows in H1 2021
continued to expand (by 28.7% in utilized FDI). Although the “dual circulation” theme
emphasizes domestic circulation, China’s import volume for domestic use (excluding
those for re-exports) has continued to grow in line with total domestic demand (Figure
460).
…amid plans and progress of further opening... While recent regulatory tightening China wants to open further and join
has led to market concerns about China’s market opening intentions, evidence also regional trade agreements
suggests gradual progress towards more opening. In the last two years, China has
opened domestic financial markets further, including granting licenses to foreign
institutions, relaxed cross-border capital flows, launching southbound bond-connect
recently, further eased rules on foreign investment with a new foreign investment law in
2000, and the removal of the foreign ownership cap on commercial vehicle
manufacturing. China also signed the regional trade agreement RCEP with 14 other
countries in November 2020 (effective 1 January 2022), negotiated a Comprehensive
Agreement on Investment with the European Union (needs to be ratified by member
governments), and applied to accede to the CPTPP in September 2021.
…though supply chain shifts likely to continue amid geopolitical tensions and Political pressures and supply issues
security concerns. The US administration has remained hawkish on China, restricting likely lead to continued supply-chain
China’s access to advanced technology and certain markets. Increased geopolitical shifts
tension and developments post Covid such as supply chain disruptions have also led
many countries to emphasize security and companies rethinking supply chains. These
issues will likely lead to continued supply chain shifts globally. Companies exporting or
sourcing from China may want continued diversification away from China, as suggested
by the latest UBS CFO survey. Meanwhile, China's large and growing market and
opening policies can continue to attract foreign investment. In addition, to adapt to
political pressures and higher tariffs, China has emphasized tech self-reliance and supply
chain security, and may become a more important upstream supplier in some sectors as
part of the supply chain adjustment.

Figure 460: China’s import volume has been growing in line Figure 461: Intention to move supply chain remains high
with domestic demand
Plan of moving out of China (% of manufacturing exporters)
Have plans to move production out of China in the future
80%
Haven't moved production oversea and have no plan to move
70%
70%
61%
60%
50%
40%
30% 25%
22%
20%
10%
0%
Nov 18 Apr 19 Sep 19 Apr 20 Sep 20 Apr 21 Sep 21
Source : CEIC, UBS estimates Source : UBS Evidence Lab
“Common prosperity” points to policy measures supporting more balanced “Common prosperity” should help
growth and long-term consumption. "Common prosperity" was proposed as a support consumption, redirect
long-term goal nearly 10 years ago to galvanize a set of policies aimed at reducing investment to certain areas, and
inequality and improving social harmony. Keys to the objective include policies to encourage a shift of household
support income growth, especially labor income growth (which means support for SMEs wealth to more financial assets
and services, hukou reform, and labor protection), improving public services including gradually
basic education and healthcare, expanding pension and healthcare insurance coverage
and other social protection, and tax reforms to improve income distribution, including
launching more property tax pilots in the next few years. These policies, likely to be
implemented over time, should help support consumption, reduce investment in certain
areas and redirect investment to “hard” tech, green economy, automation and
digitization, and encourage a shift of household wealth to more financial assets,
including insurance gradually. Meanwhile, increased government spending need may
lead to reduction of its SOE holdings.
Decarbonization leads to opportunities and challenges. China just released its China’s decarbonization plan is
road map for peak carbon emission by 2030 and carbon net-zero by 2060. Specifically, expected to provide long-term
China plans to increase the non-fossil share in total energy consumption from 16% in investment opportunities, but also
2020 to 20% by 2025 and 25% by 2030, while lowering energy intensity by 13.5% and pose significant short-term
carbon intensity by 18% by 2025. China’s decarbonization plan is expected to boost challenges
investment by >RMB 100 trillion in the coming decades in renewable energy (e.g. solar,
wind, hydrogen) and storage, low-carbon industrial development (including new energy
cars and new materials), new infrastructure, and the upgrade and transformation of old
industries. However, there are significant challenges, especially in the short term, to
control and reduce coal consumption, and control capacities in the energy-intensive
sectors such as steel, cement and electrolytic aluminium. As renewables and green tech
will take time to grow, restricting existing energy- and carbon-intensive industries may
lead to shortages that constrain economic growth and push up prices. Reduction of
some traditional industries will also likely lead to job losses, asset deterioration and more
bad debt.

China
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 11237 12236 13738 14278 14724 17678 18986 20042
Real GDP growth, % 6.8 6.9 6.7 6.0 2.3 7.6 5.4 5.0
Total consumption, % y/y 7.9 9.4 8.3 6.5 -1.0 6.7 5.7 5.6
Gross Fixed Capital formation, % y/y 5.8 2.5 6.5 6.4 6.3 3.3 4.4 4.3
Exports, % y/y 3.2 7.2 3.2 1.0 2.3 19.0 8.7 4.3
Imports, % y/y 4.1 6.9 6.3 0.4 -0.4 11.5 8.8 4.5
Unemployment rate, %*** 4.0 5.1 4.9 5.2 5.6 5.3 5.2 5.1
Industrial Production (%) 5.7 6.2 6.1 4.8 2.4 9.8 5.5 4.8
Domestic private credit, %y/y1 17.1 14.2 10.4 10.9 13.3 10.2 9.8 8.6
Policy rate (1-year deposit rate), % (year-end) 1.50 1.50 1.50 1.50 1.50 1.50 1.50 1.50
USD/RMB (year-end) 6.94 6.53 6.86 6.98 6.52 6.40 6.50 6.50
Fiscal accounts
Revenue, % GDP 21.4 20.7 19.9 19.3 18.0 17.3 17.4 17.6
Expenditure, % GDP 25.2 24.4 24.0 24.2 24.2 21.9 21.9 21.8
Central government debt (gross),% GDP 16.1 16.2 16.3 17.0 20.6 20.5 21.3 22.1
Central govt + explicit local govt debt % GDP2 36.7 36.0 36.4 38.6 45.8 46.4 48.9 51.6
Central govt +total local govt debt % GDP** 60.3 63.3 64.7 68.3 77.9 77.7 80.4 83.2
Balance of payments
Exports, USD bn 1990 2216 2417 2387 2497 3171 3489 3680
Imports, USD bn 1501 1740 2037 1994 1982 2537 2766 2904
as % of GDP 1.7 1.5 0.2 0.7 1.9 2.1 2.2 2.0
Foreign direct investment (net), USD bn -42 28 92 50 103 166 111 103

Edward Teather
Economist
edward.teather@ubs.com
+65-6495 5965
William Deng
Economist
+852-2971 6765
Tanvee Gupta Jain
Economist
tanvee.guptajain@ubs.com
+91-22-6155 6070
Katharine Jiang
Economist
Katharine.jiang@ubssecurities.com
+852-2971 7004
Asia ex China

Pivotal Questions Q: Is growth going to slow or accelerate in 2022?

We project South Asian growth to accelerate over the next 6-9 months while the North Asian
economies of Korea and Taiwan see a steadier pace of recovery. Rising vaccination rates and opening-
up allow a recovery from depressed levels of activity. The credit cycle also has the potential to provide
an accelerator effect – especially in India, Philippines and Indonesia.
Q: Where will the credit cycle give growth a boost?

We see the largest opportunity for private credit to accelerate real GDP growth recoveries in
Indonesia, Philippines and India. That's based on a favourable combination of policy settings, credit
momentum, a lack of excesses and structural space for increased leverage.
Q: Will Asia see a repeat or echo of US inflation dynamics?

We don't think so. Excess capacity, lower energy prices in 2022 and less of an impulse from supply
chain bottlenecks limit the upside to inflation. That said, we do acknowledge the upside risks.
Q: Where will policy be most supportive?

We expect S. Asian central banks to be most supportive of credit growth into early 2022. BoK and
CBC are likely to tighten policy at the margin over the next six months. We also think ASEAN central
banks will raise policy rates more than the consensus expects in late 2022 as growth risks diminish.
UBS VIEW We project South Asian real GDP to accelerate in the next 6-9 months while Korea and Taiwan will
likely see a steadier pace. The opening-up dynamic is the key driver with a potential assist from the
credit cycle. We acknowledge upside risks to inflation but our base case is inflation within central
bank comfort zones in 2022. Nonetheless, we think consensus underappreciates the degree to which
ASEAN central banks could ultimately raise policy rates – although we only expect policy rates to rise
in H2 2022. MAS FX policy tightening should support SGD gains. We expect BoK policy rate hikes to
surprise consensus on the downside in 2022. THB could gain vs the USD on a tourism-led BoP
improvement. PHP, IDR and, to a lesser extent, INR could weaken as current accounts deteriorate.
EVIDENCE South Asia suffered a significant hit to activity due to mobility restrictions linked to the delta wave but
is vaccinating rapidly – implying a greater likelihood of a sustained recovery from depressed growth.
On average over 75% of the total population has received two doses in Singapore and Malaysia.
Recent momentum suggests Thailand and Vietnam could be at similar levels by end-Q4 2021. We
think Indonesia and India could vaccinate about 50% by year-end. We also present a scorecard that
suggests Indonesia, Philippines and India are best placed to see a credit accelerator effect.
WHAT´S PRICED IN? Consensus expects 5.9% real GDP growth in EM Asia ex-China in 2022. UBS is above consensus in
ASEAN where we project 5.9% real GDP growth in 2022 versus consensus of 5.4% and India.
Consensus also believes ASEAN central banks will only incrementally tighten policy in late 2022.
RISK Risks to South Asia's outperformance in early 2022 include a mutant virus, which South Asia might
not be well placed to handle. Higher-than-expected inflation or a quicker growth recovery could lead
to faster Fed tightening and a shift in domestic monetary policy which could upset credit cycle
tailwinds. A worse-than-expected China property slowdown also poses a risk to regional exports. An
unusually high number of potential elections poses event risk.
Source : UBS Estimates Real GDP series are PPP weighted and CY. S. Asia = ASEAN-6 + India

Asia ex-China
South Asian real GDP to accelerate vs Q1-Q3 2021.
CPI inflation with central bank comfort zones.
Policy settings to gradually normalise.
Potential for key elections in five territories.
What changes in 2022?

The North Asian economies of Taiwan, Korea, HK were able to manage the virus's South Asian growth to benefit from
economic impact in 2021 but are likely to see sequential growth stabilise or slow in the 'opening up' and credit cycle
coming quarters as the 'opening-up' dynamic wanes and the impulse from global goods
export demand moderates. In contrast, sequential growth in South Asia is projected to
be quicker through Q2 2022 versus the first three quarters of 2021, as vaccines allow a
shift to 'Living with COVID' policies. We think Singapore, HK, Thailand, Malaysia,
Philippines, Indonesia and India could surprise on the upside in 2022.
International travel is projected to make a welcome but partial recovery in 2022, which
should also help the growth recovery, particularly in Thailand, Malaysia and Singapore.
The credit cycle should also prove more helpful to S. Asian economies than in 2021,
especially for India, Indonesia and Philippines.
Inflation, which surprised on the downside in India and ASEAN in recent months, is CPI inflation within central bank
projected to average within central bank comfort zones. We do see upward pressure on comfort zones
core inflation from pipeline supply chain pressures and shrinking negative output gaps,
but we do not project the sort of upward surprises to inflation recorded in the US.
We don't expect domestic inflation in isolation to push central banks into premature BOK, MAS, CBC tighten over next six
policy tightening but, after a long pause in 2021, we do expect most central banks in months. Other central banks to start
Asia ex-China to tighten policy settings in 2022. Unusually easy policy settings in the raising policy rates in H2 2022
context of reduced downside risks to growth is the prime driver. Regulatory or liquidity
easing measures are increasingly less likely to be extended or rolled over in 2022. Earlier-
than-expected Fed policy rate hikes could speed this process up – especially for BI and
BSP. Fiscal consolidation is less likely to be interrupted by additional stimulus packages in
response to the pandemic (as it was in 2021).
Potential and scheduled elections should be a bigger part of the newsflow in 2022. In Potentially an unusually high number
2021, national leadership changed only in Vietnam and Malaysia. In 2022, General and/ of elections.
or Presidential Elections will be held in Korea and Philippines but could also be held in
Malaysia and Thailand. HK will see Chief Executive elections. That's potentially the most
elections in one year for over a decade. Indonesia, meanwhile, will take up leadership of
the G20. It is likely that the RCEP regional trade and investment agreement will come
into force and the CPTPP could be expanded.
Figure 462: UBSe annual avg. real GDP forecasts Figure 463: UBSe growth momentum forecasts
Source : UBS Estimates, Haver Note: India growth is FY Source : UBS Estimates, Haver

Is growth going to slow or accelerate in 2022?
We project real GDP in EM Asia ex-China to expand 6.2% in 2022 and 5.1% 2023, There's a lot going on beneath the
versus 6.2% in 2021. Our projections are above the consensus of 5.9% in 2022 but aggregate.
below consensus of 5.4% in 2023. The stability versus 2021 and proximity to consensus
in 2022 at the aggregate level masks considerable differences across the region.
Our projections are above consensus in ASEAN ex-Vietnam and India, which carries a
(7)
substantial (45%) weight in our PPP-weighted aggregate . Our projections for Korea
and Taiwan are close to consensus. Our below-consensus forecast for Vietnam reflects
challenges to fully restarting production and exposure to reduced goods demand in the
US. The Figure above shows our 2022 real GDP projections versus consensus.
While an appropriate expression of where we stand versus consensus, the annual

averages are misleading as representations of the change in momentum we expect in
this and coming quarters across the region. The right-hand Figure above gives a better
representation. Economies that were better able to manage the economic impact of the
virus in 2021 are likely to see growth slow into early 2022 as the 'opening-up' dynamic
wanes and the impulse from global goods export demand moderates. These economies
include the North Asian economies of Taiwan, Korea and HK. In contrast, growth in
South Asia is projected to accelerate as vaccines allow a shift to 'Living with COVID'
policies and the credit cycle turns more favourable.
Opening up and a potential credit accelerator effect

The wave of Delta COVID variant cases hit parts of Asia far harder and at different times
than others in 2021. South Asia suffered a significant hit to activity due to mobility
restrictions linked to the delta wave but is vaccinating rapidly, implying a greater
likelihood of a sustained recovery from depressed growth. Meanwhile, Asian central
banks appear more keen to see faster credit growth than in North Asia.
The right-hand Figure below shows that, on average, over 75% of the total population Opening-up.
has received two doses of COVID vaccine in Singapore and Malaysia. Recent momentum
suggests Thailand and Vietnam could be at similar levels by end-Q4 2021. We think
Indonesia and India could vaccinate about 50% by year-end.
Figure 464: The delta wave did not hit Asia uniformly Figure 465: Average double dose vaccination rates
Source : UBS, Haver Note: Average Google mobility index is 7day average of Source : UBS, Haver Note: Vaccination rate calculated as ((# doses/2)/total pop.).
'workplace', 'retail and recreation' and 'transport hub' footfall deviations from Estimates are extrapolation of recent dose run rate (if not shown then run rate
baseline of early 2020. implies vaccination rate over 100% at end 2021 or end March 2022. See also 'UBS
Global Vaccine Tracker' .
7.
We use the same Purchasing Power Parity based weights as the IMF

The potential for 'opening up' to drive a recovery in growth is central to our relative A vaccination-resistant virus
growth projections across the region. We assume that vaccination rates of 50% and mutation is a key risk to our opening-
above allow most governments to sustainably move to a 'Living with COVID-19' regime. up view (see also global scenario
Consistent with this, almost all Asia economies have actively stated they are moving analysis section).
towards a 'Living with COVID-19' policy or act is if they are. Exceptions are China, HK
and, to a lesser extent, Taiwan. A key risk to our view of relative S. Asia strength is a
vaccine-resistant virus mutation. In such a scenario, given challenges to revaccination, S.
Asian 2022E GDP growth could be 2-5ppts lower vs only 0.5-1ppt lower in N. Asia.
The following figures show the level of real GDP indexed to Q4 2019 =100 along with
baseline UBS forecasts. We can make the following points:
Korea and Taiwan have no major dips in activity in 2021 to recover from and are
projected to have relatively stable growth momentum.
India's economy slumped in Q2 2021. However, UBS's India Activity Tracker suggests
a robust rebound in Q3. We think the scale of the rebound may pull forward demand
from subsequent quarters such that growth may appear lacklustre in mid 2022.
ASEAN economies were still restricted by the virus in Q3 and should get their
opening-up boost to growth later than in India. We expect above-average growth in
ASEAN in Q4 2021 and the first half of 2022.
Figure 466: North Asia and India GDP trajectory Figure 467: ASEAN GDP trajectory
On top of the opening-up dynamic, we see potential for a credit accelerator effect in Potential assist from a credit
South Asia. Often the focus is on how the credit cycle can accelerate economic accelerator effect in South Asia.
downdrafts via a credit crunch – here, a reduced availability of credit hurts confidence
and leads to further contractions of activity, confidence and still tighter credit. Credit
expansions also have the potential to accelerate expansions by making it possible for
firms and households to lift their spending in line with their confidence but above their
incomes. This can lead to a virtuous cycle where the lift in spending due to an expansion
in credit leads to higher confidence and still more credit being granted.
The following scorecard provides our gauge of how well placed each Asian economy is
to experience a positive lift from expanding credit. We see the largest opportunity for
private credit to accelerate real GDP growth recoveries in Indonesia, Philippines and
India. That's based on a favourable combination of policy settings, credit momentum, a
lack of excesses and structural space for increased leverage.
Risks include the level of asset quality (which may have been masked by regulatory
forbearance) and tighter external financial conditions (see below). This is likely to remain
a pivotal debate point in coming months given questions over China’s credit cycle
currently, at the same time that growth in seas. adj. bank credit to the private sector, 3m
annualised, recently picked up by over 2pts to 6-7% in Thailand, Indonesia & India, and
in Philippines to over 9%.

Figure 468: Summary scorecard - Will credit act as an accelerator for GDP growth?
Source : UBS Estimates Figure reflects UBS judgement. For further discussion see Macro Keys – Economics "Asia: Where could a credit accelerator kick-in?"
Slower external demand (for goods, not tourism)

The improvement in domestic activity we anticipate will be set against slower growth in Merchandise trade to slow
the US and Europe. Overall demand growth in Asia ex-China economies' trading
partners is expected to still be healthy but we project a switch from goods consumption
to services such that Asian goods exporters may not feel that overall strength. We expect
'tech' sector goods demand in particular to feel this effect (see box). A weaker-than-
expected Chinese property sector also poses a risk for Asia ex-China export growth.
Figure 469: Goods export growth rolling over Figure 470: Tourism and goods trade
The switch from goods back to services expenditure will also occur in Asia, albeit to a Tourism recovery to be slow initially
lesser extent than the US. One of the most extreme shifts in spending over the pandemic
has occurred in international tourism. Asian economies have begun to re-open their
borders to international travel. For example, Singapore will be operating two-way
Vaccinated Travel Lanes with 11 territories by mid-November; Thailand has allowed
quarantine-free travel from 63 territories from 1 November; Malaysia hopes to more
fully open its borders for international travel within 6-12 months. However, China's
zero-COVID policy promises to limit the recovery in regional tourism, as does the
quarantine requirements for returning travellers from Asian destinations where the
declaration of quarantine-free travel is unilateral. We expect a limited recovery of
tourism in early 2022 with over 66% of the arrivals during the year only coming in H2
2022. Nonetheless, we estimate that the tourism recovery could add around 1.5ppts to
Thai real GDP growth in 2022 and 0.5-1.0ppts to that in Malaysia and Singapore.

Asian tech exports
The best momentum is probably behind us

Technology-related goods have been one of the key drivers supporting regional
export growth in the past quarters. Supporting this dynamic, there was the
"work from / stay at home demand" since the beginning of the outbreak and
throughout the periodic mobility restriction hikes. There was the initiation of the
5G cycle, offering the new themes to attract the consumer demand. There was
also further digitalization in many areas of the economy, e.g. the auto sector.
Shown in the left-hand Figure below, the broadly defined tech export growth
from Korea and Taiwan has been leading the regional export amid the outbreak
in 2020 and it maintained strong growth until the signs of plateauing in the most
recent data points.
Looking ahead, growth in exports of tech-related products is more likely to

moderate given both the micro and macro factors, as well as the high statistical
base. On the micro front, the right-hand Figure shows visible growth rate
moderations are expected by our tech research team across all the key products,
such as PC and Smartphones, after taking sector-specific factors into account.
On the macro front, we expect global demand growth to moderate in 2022.
Meanwhile, the continuing reopening may lead to more consumer spending
being directed to services from goods. Consumer electronic goods, which have
been a magnet for significant spending during COVID, may attract less
incremental spending as the reopening phase progresses.
Another important thesis within Asia's industrial production is the

semiconductor shortage. It has been widely argued that COVID-related
production disruptions in the ASEAN economies, e.g. production disruptions in
Malaysia, has been one of the main contributing factors behind the shortage
seen in the auto sector, given Malaysia is one of the most important production
bases for certain auto-related semiconductor components. For example, Toyota
has been reported to have cut its production due to component shortages as a
result of the outbreak in Malaysia. We have observed gradual production
normalization in the ASEAN economies; therefore, production and export
growth may receive a boost as factories attempt to catch up with order backlogs.
Figure 471: Export growth of tech Figure 472: Sectorial projections

goods may moderate in the coming suggest softening growth rates
quarters across key products ahead
Source : Haver, UBS. Note: Tech Goods is broadly Source : UBS estimates , for details please see report.
defined to include all goods in HS84 and HS85

Are excesses coming?
So far in this recovery, much of Asia has experienced surprisingly low inflation and
benign external balances. Will this change?
Average inflation to be within central bank comfort zones

The left-hand figure below shows surprise indices of inflation. ASEAN and Indian CPI Inflation hasn't been surprising on
prints have surprised on the downside in recent months, while those in South Korea and the upside everywhere.
Taiwan have surprised on the upside, albeit less comprehensively than in the US. The
right-hand figure shows that actual inflation is, with the exception of Philippines, within
or below central bank comfort ranges. We project inflation across Asia to be within
central bank comfort zones in 2022. Weighted-average CPI inflation in EM Asia ex-
China is projected to average 3.5% and 3.2% in 2022 and 2023, after 3.5% in 2021.
Consensus expects 3.4% CPI inflation in 2022 and 2023.
We acknowledge the risk that inflation surprises on the upside as it has in several Why we think inflation won't
developed markets in the last 12 months. Mitigating factors for Asia are: surprise on the upside.
1. Excess capacity. Generally, we expect output gaps to remain negative and

unemployment higher than normal through 2022. Singapore and Taiwan are
exceptions where we do expect the output gap to close next year. In Korea and
Taiwan, even though unemployment rates have fallen to below pre-pandemic levels,
we see limited signs of overheating.
2. Slower energy price inflation. Our colleagues forecast a moderation in energy
prices (coal and oil) in 2022 as the global recovery moderates.
3. A likely diminishing impulse from supply chain bottlenecks. Yes, supply chain
bottlenecks are expected to last into 2022, but they are not projected to get worse.
And it is the delta that matters for price pressures.
Figure 473: CPI didn't surprise on the upside everywhere Figure 474: Inflation (mostly) within comfort zones
Source : UBS, Bberg Note: CPI print +ve (-ve) surprise adds (subtracts) 1 to index Source : UBS Estimates, Haver
However, we do see risks skewed to the upside. One of the risk scenarios we present Upside risks to inflation.
earlier in this document has capacity constraints and supply chain bottlenecks pinching
more than we expect. Commodity prices and supply chain challenges are putting
pressure on Asian inflation. CPI fuel price inflation was between 21% and 32% yoy in
September across most of Asia (notably ex-Indonesia where key retail fuel prices are
fixed). Pipeline inflation pressures as measured by import and PPI inflation are elevated.
CPI inflation is nonetheless within or below most Asian central bank comfort zones. Part
of the reason is excess capacity, part is lags, but part of the story is food prices. In
September, only Philippines had CPI food price inflation above 3.5% yoy. China, India,
Indonesia, Thailand and Korea all recorded falling CPI food prices on a 3m seas. adj.
basis. Chinese CPI food prices are down 3.3% yoy.

Benign food price inflation defies simple explanation. In China pork prices are declining
from a high base due to the long shadow of the 2018 swine flu outbreak. Food supply
issues in 2020 provide a high base in India. Mitigating the rise in wheat and corn prices is
the fall in rice prices. The USD price of Thai rice is down 20% yoy in September.
However, we expect the favourable base effects in China and India to fade. And fertiliser
prices, which can constitute at least 25-30% of rice production costs, are up ~80% yoy
on average. Meanwhile, forecast La Niña effects could deliver a colder winter with
heavier rainfall than normal.
We look to Singapore as the prime candidate for domestic inflation pressures. The Singapore more likely than most to
recovery in Singapore's economy has been relatively robust (Real GDP UBSe 2021 of see inflation pressures. MAS to
6.7%) while the supply of labour is constrained. Singapore's mid-year 2021 population tighten FX policy in 2022, supporting
is down 4.1% due to an 11% decline in the non-resident (migrant worker) population. SGD appreciation.
The ratio of vacancies to job seekers is at a post AFC high. Although unemployment is
higher than normal, skills/job mismatches mean labour shortages in some industries.
Cost pressures should be largely confined to these industries and possibly alleviated by
the return of migrant workers as travel opens up. Still, we expect wage growth and core
inflation to rise to the high end of the range in recent years. MAS, we think, tightens
FX policy in April and October 2022, having tightened policy in October 2021 – helping
the SGD appreciate against the USD.
Figure 475: Pipeline price pressures Figure 476: Can rice prices keep falling?
Source : UBS, Haver Source : UBS, Haver *Avg. of DAP, TSP, Urea, Phosphate rock
Weaker current accounts to depress PHP, IDR and INR

We expect noteworthy shifts in the balance of payments for India, Indonesia, Philippines Current account balance shifts to
and Thailand in 2022. India, Indonesia and Philippines experienced unusually healthy drive THB up and PHP, IDR and INR
current account balances for much of the last 18 months because of depressed domestic down.
demand. Indonesia’s current account balance has been further helped by elevated coal
and palm oil prices and could record a surplus in Q3 2021. We expect the recovery in
domestic demand combined with lower goods export growth to drive current account
deficits in 2022 for each of Philippines, India and Indonesia.
While the level of the current account deficit on average in 2022 is not projected to be
especially wide, the momentum into year-end 2022 is likely to contribute to currency
weakness for the PHP, IDR and to a lesser extent INR vs the USD, in our view. Additionally,
for the INR, we think that a stronger currency would run counter to the Indian
government's objective of gaining market share in global supply chains. For Thailand,
we expect a reduction in the direct burden of freight costs and improved tourism
revenues to return the current account to surplus in H2 2022. That should help reverse
some of the THB weakness vs the USD over the last nine months.

Figure 477: UBS current account balance projections Figure 478: UBSe budget balance projections
Source : UBS Estimates, Haver Source : UBS Estimates, Haver *Central government balance only, **Includes
Emergency Decree borrowing
How long can policy stay loose?

How central banks perceive the risk to growth is central to our view on monetary policy. Diminishing growth risks, not high
Where the downside risks to growth have fallen substantially, we see policy tightening is inflation, to drive central bank policy
either under way or about to begin. For central banks where uncertainty around growth normalisation.
is still elevated, we expect higher policy rates only in H2 2022.
We don’t expect policy to be tightened because of especially high inflation in isolation –

again, we expect inflation to be within central bank comfort zones in 2022. Instead,
diminished growth risks mean a reduced case for leaving policy at settings consistent
with an economic emergency. The case for unusually easy policy is further reduced by
the perception of challenges to financial stability (i.e. property price inflation in Korea
and Taiwan), pipeline inflation pressures (everywhere), or even to inflation expectations
(perhaps fuel or food prices). In this environment, if inflation surprises on the upside, a
quicker pace of rate hikes than we expect is likely – as reflected in our scenario analysis.
We do not expect the Fed taper to drive policy tightening in Asia – as it is already well Fed policy could impact central bank
telegraphed. A decision by the Fed to raise policy rates is behind the policy rate hikes we policy decisions - especially in
project in Philippines and Indonesia in 2023. An earlier than we forecast Fed policy rate Indonesia and perhaps Philippines.
hike could bring forward policy rate increases for the BI and perhaps BSP in particular.
That said, with FX reserve levels close to their highs in recent years, central banks are
well positioned to provide liquidity should a shift in Fed policy, or another adverse
market surprise, lead to temporary capital outflows.
BoK and MAS have already moved to tighten monetary policy in recent weeks. We
expect incremental policy tightening from BoK, MAS and CBC over the next six months.
Policy rate hikes from other (South Asian) central banks are likely to wait until growth
uncertainty related to the virus has more clearly diminished. Evidence that uncertainty
has diminished could take the form of a sustained recovery from Q3 weakness, a
sustained pick-up in tourism, or resilience to another COVID wave. As such we expect
South Asian central banks to raise policy rates in H2 2022, although BI and RBI may taper
liquidity provision earlier than this.
With the exception of Malaysia and Vietnam, we project most governments to Most governments are consolidating
consolidate fiscal deficits by at least 1ppt of GDP in 2022. For this majority of fiscal deficits.
governments, the decline in the deficit-to-GDP ratio is not solely a function of the
expansion of GDP. Malaysia’s limited fiscal consolidation is partly linked to a MoU
between the opposition and the government not to hold elections before before end-
July 2022. In Vietnam, we project limited fiscal consolidation because the deficit had not
widened much previously and because the economy recorded a very sharp contraction
in Q3 2021 having avoided the same in 2020.

Figure 479: UBS Central Bank Forecasts
Source : UBS Estimates *Rate shown is upper end of Fed Funds Target
A lot of elections (potentially)

Supply-side reform need not increase the national debt, nor does it carry the risks to the Potentially five elections in 2022.
currency or inflation from loose monetary policy. It can, however, be politically costly, That would be the most in one year
and is arguably most effectively pursued early in a political term. for over a decade.
Indonesia, India and Vietnam do not have looming elections, freeing up the political Indonesia, India and Vietnam have
space for reforms in those economies in particular, in our view. Indonesia will be more political space for reform.
executing on recently passed tax reforms as well as elements of the Omnibus Law on Job
Creation passed in October 2020. There is also an Omnibus Law on the Financial Sector
in the pipeline. However, it is also possible Indonesia's G20 Presidency could prove a
distraction from the domestic agenda for the President and his team.
We do not expect new reform agendas in the Philippines or in Korea ahead of elections
in 2022. The potential for early elections in Thailand and in Malaysia could also limit the
reform agenda in those economies. Elections are due to be called in 2023 but the
government's slim majority in Malaysia and clear signs of political manoeuvring in
Thailand means elections could come during 2022. That said, Malaysia's government
does have an unusual window to take advantage of an MoU that implies support from
the opposition and no election ahead of July 2022. In fact the MoU requires governance
reforms (tax reforms are also on the agenda) and Malaysia is also set to ratify the RCEP
trade and investment agreements by year end and the CPTPP by end Q1 2022.
Likewise, HK does have a Chief Executive election but this is unlikely to disrupt the
structural policy in the territory. The Greater Bay Area and better integration with the
mainland economy as well as Hong Kong’s growth and international roles under the
14th Five-Year plan will remain as the key growth themes for Hong Kong in the coming
years, while public housing supply remains at the top of the to-do list.

Figure 480: Asian Key Political Event Calendar
Source : UBS

Asia pressing ahead with trade deals despite
challenges to globalisation
2022 will likely see the the Regional Comprehensive and Economic Partnership
(RCEP) come into force and potentially see the Comprehensive and Progressive
Trans Pacific Partnership (CPTPP) expand.
RCEP should come into force on 1 January 2022 now that six ASEAN member
states and three non-ASEAN signatories have ratified the agreement. As of 2
November, Singapore, Brunei, Cambodia, China, Japan, Laos, Thailand,
Vietnam, Australia and New Zealand have ratified. We understand Malaysia and
Philippines are taking final steps toward ratification.
CPTPP has been in force for seven of the 11 signatories since 2018. CPTPP will
enter into force for a subsequent signatory 60 days after it is ratified (and certain
legislation is adjusted). Malaysia guides that it will ratify the CPTPP by end Q1
2022. Meanwhile, Thailand's cabinet is considering when to join the UK, China
and Taiwan in formally applying to become a member of CPTPP.
Both agreements are estimated to provide a small lift to activity through the
impact of reduced tariffs on trade. For example, Japan and Korea would be the
largest beneficiaries of RCEP with a lift to GDP of ~1ppt over 10 years, according
(8)
to work by the Peterson Institute .
The agreements are also important, according to experts, in terms of the rules of
origin embedded in the deals and the associated impact on supply chain
decisions. They can also act as a potential lever to reform. Governments can
point to improved export market access as a reason to undertake reforms to
domestic market regulation. Regulatory changes in Asia were a key theme in
China this year but could also be a theme elsewhere in Asia as this work by UBS
Asia Equity Strategist Niall MacLeod shows. CPTPP and to a lesser extent RCEP
seek to reduce non-tariff barriers (NTB) to trade. The IMF Regional Outlook for
Asia Pacific highlights estimates that a reduction in NTBs in Asia to the level of
European emerging market and developing economies could lift Asian emerging
and developing economy GDP by 4% long term. Spillover effects to developed
Asian economies are estimated at 2% of GDP. If nothing else the agreements are
a sign that Asian economies continue to embrace international trade despite the
headwinds to globalisation in recent years.
8.
East Asia Decouples from the United States: Trade War, COVID-19, and East Asia’s New Trade Blocs; Peter A. Petri and Michael G.
Plummer; Peterson Institute for International Economics; June 2020

Figure 481: UBS Forecasts
Source : UBS Estimates, Haver *Fiscal Year
Figure 482: UBSe real GDP growth Figure 483: UBSe CPI inflation
Source : UBS Estimates, Haver Source : UBS Estimates, Haver

Hong Kong
Hong Kong should continue to recover towards potential output in 2022/23.
Further easing of cross-border quarantine/travelling constraints should be a key
growth catalyst ahead.
We expect Hong Kong's GDP to grow by another 4.1% in 2022 and 3.5% in 2023, Continue recovery in 2022 and 2023
following a strong growth of 6.6% in 2021. Hong Kong’s economy has recovered well
in the past quarters. Strong external trade has helped to drive the recovery since late
2020, as Hong Kong’s international trade and shipping center role helps to seize the
momentum from the region’s external trade recoveries. The resilient performance of the
financial markets supported the financial sector GDP which is more than 20% of the
economy.
A relatively successful COVID control helped to yield close to zero domestic cases for
most of the days in recent quarters, supporting the recovery of domestic consumption
and retail sales. The consumption voucher program kicked off in July and offered
another support. Consequently, Hong Kong’s unemployment rate, one of the most
watched indicators by investors, has fallen back to 4.5%, from a peak of 7.2%. A
virtuous circle, in which better economic growth supports the job market and income
growth, and subsequently helps consumption, has been initiated.
We expect trade growth to moderate in the coming quarters, due to a combination of Downward pressure on trade growth
factors. First, the statistical base has been set high. Second, growth in the external ahead.
economy is moderating, e.g., mainland China. Third, as external economies continue to
ease mobility constraints, there could be shifts to service consumption. Fourth, some of
the key industrial cycles are moderating, e.g., the smartphone cycle is set to moderate.
Thus, other factors will need to take the stage to drive growth.
In recent months, there has been progress in travelling arrangements with the mainland, An easing in cross-border travelling
e.g. the latter re-opened the individual business visitor scheme to Hong Kong in early constraints should be a key growth
October. Our forecast assumes gradual progress on this front in the coming months and catalyst ahead.
more significant easing between 1Q22 and 2Q22. With the assumption that the global
COVID situation gradually improves, quarantine constraints with the rest of the world
will also likely ease. Currently, Hong Kong’s retail sales are still 25% below pre-COVID
levels, and the consumer service-related area is suffering the highest unemployment of
all sectors. Gradual normalization of cross-border flow should help to support retail sales
and reduce the related unemployment, supporting gains in business confidence and
therefore private capex.
The Chief Executive's policy address initiated the “North Metropolis “ development Proactive growth policy from the
plan, a long-term plan that includes many infrastructure projects connecting Hong Kong government
and the Greater Bay Area. The government has promised to speed up the administrative
process and therefore the actual construction of government housing and infrastructure
projects. The financial secretary's budget speech in February 2022 may offer a window
to reveal some of the near-term spending related to infrastructure projects. The election
for Chief Executive is scheduled for March 2022. The new term of the government will
focus on further developing Hong Kong to play the multiple international centers role as
affirmed by the 14th Five-Year Plan.
Escalation of the COVID situation through another virus mutation is a key downside risk. Risks, downside and upside.
The government is likely to tighten social distancing constraints again if there is another
virus escalation. The normalization of cross-border travelling will likely be further
delayed. Private sector confidence might get hit again, hurting private sector capex. In
the scenario of another virus mutation in 1Q22, we expect 2022 growth to be lowered
by 0.7ppt to 3.7%. On the other hand, if global growth is driven up by much better
COVID control, Hong Kong should also benefit substantially. In the scenario under which
we assumed all economies exit COVID by 1Q22, we expect Hong Kong’s growth to
stand above 6% again, at 6.3% in 2022.

Hong Kong
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 321 341 362 363 347 360 383 397
Real GDP growth, % 2.2 3.8 2.8 -1.7 -6.1 6.6 4.1 3.5
Private consumption, % y/y 2.0 5.5 5.3 -0.8 -9.9 6.1 6.9 5.4
Gross Fixed Capital formation, % y/y -0.1 3.1 1.7 -14.9 -11.2 11.9 5.1 8.5
Exports, % y/y 0.7 5.8 3.7 -6.1 -5.9 16.0 6.7 5.5
Imports, % y/y 0.9 6.6 4.5 -7.3 -6.2 15.8 7.7 6.6
Industrial Production (%) -0.5 0.4 1.3 0.5 -5.8 4.2 1.7 1.8
3M HIBOR, % (year-end)** 1.02 1.31 2.33 2.43 0.35 0.40 0.60 0.80
USD/HKD (year-end) 7.75 7.81 7.83 7.79 7.75 7.77 7.77 7.77
Fiscal accounts
General government budget balance, % GDP 4.5 5.6 2.4 -0.6 -8.5 -4.9 -0.7 2.1
Revenue, % GDP 23.0 23.3 21.2 20.6 21.8 22.3 22.1 22.6
Expenditure, % GDP 18.6 17.7 18.8 21.2 30.3 26.2 22.8 20.5
of which interest expenditure, % GDP 0.0 0.0 0.0 0.0 0.0 -1.2 -1.2 -1.2
Primary balance, % GDP 2.4 5.1 2.0 -3.4 -9.8 -6.1 -1.9 0.9
% domestic public debt held by non-residents n/a. n/a. n/a. n/a. n/a. n/a. n/a. n/a.
Public debt held by the central bank, % GDP n/a. n/a. n/a. n/a. n/a. n/a. n/a. n/a.
Balance of payments
Exports, USD bn 463 496 531 513 507 634 715 787
Imports, USD bn 517 558 603 567 551 679 772 871
as % of GDP 4.0 4.6 3.7 5.8 6.5 4.8 4.9 5.0

India
India will be one of the fastest-growing EMs in 2022.
Both monetary and fiscal policy to gradually normalise.
India's economy is bouncing back on progressive reopening post the second COVID-19 Indian economy is bouncing back on
wave. The UBS India Activity Indicator has a high correlation with real GDP growth and is progressive reopening post the
a good lead indicator of sequential growth momentum. The indicator suggests second COVID-19 wave
economic activity further improved sequentially by an average of 2.7% MoM in the
month of October, post +16.8% QoQ growth registered in the September quarter. This
compares with a decline of 11% registered in the June quarter (second wave). We
continue to expect India's real GDP growth at 9.5%YoY in FY22 (vs. -7.3%YoY
registered in FY21). We expect growth to gain momentum in H2 FY22E (Oct-21 to Mar-
22) on cyclical tailwinds, including pent-up demand (especially after more people are
vaccinated), favourable external demand (goods exports are around 25% above pre-
COVID levels, FYTD) and higher government spending (likely on capex).
The COVID-19 situation in India is gradually being controlled, with daily new cases India is on track to inoculate 69% of
moderating to 15,000 currently (vs. peak of 400,000 plus cases in May 2021). India has adult population by Dec 2021
made significant progress in terms of vaccination in recent months, especially
considering the size of its population. Close to 80% of adults (aged 18+) have had their
first vaccination shot, but only 33% are fully vaccinated. We estimate India is on track to
inoculate 49% of the total population (69% of adults) by December 2021.
Going forward, we expect India's real GDP growth to normalise to +7.7% YoY in FY23 India's real GDP growth to normalise
and stabilise close to trend at 6% in FY24. Even as India's economic growth in FY23 in to +7.7%YoY in FY23
YoY terms could still be one of the fastest in EM, the output gap should continue to
remain negative throughout. While pent-up consumption demand will likely moderate,
measures to boost public capex and early signs of recovery in residential real estate
sector might help mitigate some of the adverse impact. In addition, implementation of
structural reforms to incentivise domestic manufacturing and promoting exports could
also be the next key growth drivers for India.
The macro dynamics crucially hinge on India's ability to maintain and even boost its Implementation of reforms could
underlying potential growth. We maintain our view that India's potential growth has help support India’s integration into
slowed to 5.75-6.25% currently, from 7%plus estimated in 2017. The slowdown in the global value chain
potential growth is due to a longer-than-expected disruption caused by the pandemic
and balance sheet concerns faced by economic agents. The key for higher growth is the
quick implementation of recently announced productivity-enhancing reforms and
investments which could help support India’s integration into global value chains and
support the medium-term growth outlook. These include cutting the corporate tax rate,
incentives for manufacturing, privatization of state-owned enterprises in easier labour
laws, and encouraging FDI inflows. However, the challenges remain, consisting of
providing productive jobs to the rising working-age population, a less friendly external
environment, and automation overhang could be the laggards.
Looking at macro stability risks, we expect CPI inflation to edge lower in FY23 (4.8%), Both monetary and fiscal policy to
assuming the MPC gradually starts unwinding its ultra-easy policy settings as the gradually normalise
economic recovery gains momentum. We expect the 10y yield to rise to 6.75% by end-
FY23. In our base case, we expect a policy (repo) rate hike by 50bps, but only in 2H FY23
once growth is on a firm footing. We expect the government to remain committed
towards fiscal consolidation and expect the deficit to narrow to 8.8% of GDP in FY23
(vs. 9.9% in FY22 UBSe). A greater focus on privatisation could be explored to help keep
a check on the fiscal slippages without constraining government spending towards
public capex (especially infrastructure spending). Lastly, we believe India is doing well in
terms of external vulnerability indicators. The RBI's war chest of FX reserves (US$641bn)
is 2.3 times the 2013 low, FDI inflows are on an uptrend, and there is near-term support
from forthcoming IPO/divestment flows. We expect year-end INR at 74/76 against the
USD in FY22/23. We think a stronger INR could conflict with the medium-term policy
objective of India gaining market share in global supply chains.
Downside risks to our view include themes similar to those presented in our scenario
analysis. The potential for the virus to once again prevent or hinder opening up,
curtailing the growth acceleration. Alternatively inflation may remain elevated, leading
to a switch towards policy normalisation faster than expected.

India
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 2295 2651 2701 2871 2660 3068 3401 3641
Real GDP growth, % 8.3 6.8 6.5 4.0 -7.3 9.5 7.7 6.0
Exports, % y/y 5.0 4.6 12.3 -3.3 -4.7 30.1 5.4 6.1
Imports, % y/y 4.4 17.4 8.6 -0.8 -13.6 28.0 8.7 7.6
Unemployment rate, % NA NA NA NA NA NA NA NA
USD/INR (year-end) 64.8 65.0 69.2 75.4 73.5 74.0 76.0 78.0
Fiscal accounts
Revenue, % GDP 20.9 22.9 22.9 23.4 21.9 23.6 23.2 23.6
Expenditure, % GDP 27.7 30.3 28.8 31.2 35.2 33.5 32.0 31.6
% domestic public debt held by FIIs 2.4 2.9 2.1 1.5 1.2 1.2 1.5 2.0
Balance of payments
Exports, USD bn 280 309 337 320 296 398 413 416
Imports, USD bn 393 469 518 478 398 581 608 625
as % of GDP -0.6 -1.8 -2.1 -0.9 0.9 -1.3 -1.6 -1.8
Source : CEIC, Haver and UBS forecasts. Note: India's fiscal year begins in April. All data is fiscal year. Manufacturing is as in national accounts data.

Indonesia
Resilient economy to get boost from credit accelerator effect.
BI policy to support credit growth in H1 22 but raise policy rates in H2 22.
Current account deficit to return, rupiah to weaken in 2022.
Reforms to bring fiscal deficit down to 3% of GDP in 2023.
We project Indonesian real GDP to expand 5.4% in 2022 and 5.1% in 2023 after 3.5% More positive than consensus on real
in 2021. That's faster than the consensus 5.2% projection for 2022. We believe we are GDP due to opening up and a credit
more optimistic than consensus on the potential for the credit cycle to provide an accelerator effect
accelerator effect on an economy already enjoying a recovery as part of the 'living with
COVID' opening-up dynamic. The already positive outlook for the property sector should
get a further fillip.
We think evidence of credit growth momentum, BI policy support, little evidence of

macro excesses and potential for financial deepening point to the potential for a credit
accelerator effect on Indonesian growth. Bank credit growth in September was just
2.2% yoy but grew over 7% on a 3m annualised basis. BI policy clearly remains
supportive of a credit expansion. While policy rates have been left on hold since February
2021, regulatory policy has been eased on multiple occasions. Additionally, by
depressing bond yields via its position of 'standby buyer' and the August 'Burden
Sharing' agreement with the government, BI has made lending to the private sector
relatively more attractive for banks. Limited macro excesses include CPI inflation below
BI's target at 1.7% and a current account balance, helped by elevated coal prices, likely
to record a surplus in Q3 after a modest (0.6%-of-GDP) deficit in H1 2021. Neither
indicator suggests any pressure for BI to abruptly tighten policy in the coming months.
In 2022, we expect a return to current account deficit. That's because of a recovery in Current account deficit to widen
domestic growth and imports on opening-up and an expansion in credit, along with during 2022
slower export volumes and a moderation in coal prices. We project a current account
deficit of 0.6% of GDP for 2022 as a whole but a 1.5-2.0% deficit in Q4 2022. We
project CPI inflation to accelerate to 3.3% in 2022 and 3.8% in 2023. Inflation is subject
to upside pressure from: i) a recovering economy; ii) pipeline price pressures; and iii) a
2ppt increase in the VAT rate from April 2022; but also iv) a potential change in the
administered retail fuel prices. We estimate the international refinery price of gasoline is
30% above the level of the administered price of low grade gasoline. A adjustment need
not be imminent but could detract from the easy-money outlook should it occur in 2022
(in our baseline, oil prices fall back, mitigating the risk).
We do expect BI to begin to normalise policy in 2022. First, by gradually reducing

liquidity injections into the banking system (while still injecting liquidity via primary
market government bond purchases). Second, by raising the 7DRR policy rate to 4.5%
from 3.5% in late 2022. Tighter Fed policy could prompt further BI rate hikes (in 2023).
Fiscal policy settings are programmed to tighten in 2022. The government projects a Fiscal policy to tighten in 2022
fiscal deficit 'below 4.9% of GDP' after 5.3-5.4% of GDP in 2021. The deficits in 2021
and 2022 are to be smaller than the 5.8% and 4.9% projected in Budget 2022 because
of better-than-expected revenue growth and tax reforms that aim to raise revenues by
~0.8% of GDP in 2022. We project a 4.5%-of-GDP deficit in 2022 as cash hand-outs
offset the impact of the 1% increase in VAT rates and base broadening.
Because of the tax reform we believe the gov't will make good on its commitment to 3%-of-GDP fiscal deficit possible in
reduce the fiscal deficit to 3.0% in 2023, although we do not rule out modest slippage. 2023 following reforms
We think the action on reforms will keep investors and rating agencies positively inclined
towards Indonesia. However, a wider current account deficit combined with rising
US yields will likely lead to a weaker rupiah. We project USDIDR 15,000 by end 2022.
We expect the government, unhindered by elections near term, to pursue other reforms, Could the G20 Presidency be a
including the Omnibus Bill on the Financial Sector. The risk is that Indonesia's presidency distraction?
of the G20 becomes a distraction from domestic policy.
Other risks to our positive view, beyond the scenarios presented earlier in this document, Other risks...
include a sharp fall coal or palm oil prices or a sharp deterioration in global financial
market conditions, to which Indonesia is more exposed than most in Asia.

Indonesia
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 932 1016 1042 1119 1059 1151 1234 1301
Real GDP growth, % 5.0 5.1 5.2 5.0 -2.1 3.5 5.4 5.1
Government consumption, % y/y -0.1 2.1 4.8 3.3 1.9 3.7 4.5 3.0
Exports, % y/y -1.7 8.9 6.5 -0.9 -7.7 24.0 8.8 5.3
Imports, % y/y -2.4 8.1 12.1 -7.4 -14.7 22.7 9.7 7.8
Domestic private credit, %y/y 7.8 8.2 11.7 5.9 -2.7 5.0 10.0 14.0
USD/IDR (year-end) 13436 13548 14481 13901 14105 14250 15000 15000
Fiscal accounts
Revenue, % GDP 12.5 12.3 13.1 12.4 10.7 10.7 10.9 11.4
Expenditure, % GDP 15.0 14.8 14.9 14.6 16.8 16.3 15.3 14.4
Balance of payments
Trade balance, USD bn 9 12 -9 -4 22 33 25 6
Exports, USD bn 145 169 180 168 163 222 230 230
Imports, USD bn 136 157 189 171 142 189 205 224
Current account balance, USD bn -17 -16 -31 -30 -4 1 -8 -27
as % of GDP -1.8 -1.6 -2.9 -2.7 -0.4 0.1 -0.6 -2.1

Korea
Moderating growth.
Proactive fiscal policy, stable monetary policy.
We project 2022 and 2023 growth to stand at 3.0% and 2.9%, respectively. The Moderating growth with steady
economy recovered well in 1H21 by growing at 3.9%y/y. However, the latest 3Q21 pace.
growth came below our expectation, especially in private consumption and investment.
We thus revised down our 2021 full-year growth expectation to 3.9%, from 4.8%
previously.
Supported by factors such as a global trade recovery and a strong upswing of the tech- Exports were a key growth driver,
cycle, Korea’s headline exports grew 26%y/y for the first three quarters. Without but may face challenges ahead.
considering the related spillover effect through channels such as employment and
investment, net trade already shared 39% of Korea’s growth so far in 2021. However,
export growth is likely to moderate ahead. The tech cycle may have already experienced
the phase with the strongest momentum. Our UBS tech sector team is forecasting a
moderation of growth rates for most of the key consumer electronic products (e.g.,
smartphone shipment units: 4.0% in 2022 vs. 6.1% in 2021; PC shipment volumes: -
3.5% in 2022 vs. 11.8% in 2021). The team also expects memory sales revenue growth
to soften to 15.6%y/y from 32.1%y/y in 2021. Memory is one of the biggest
components of Korea’s exports, with more than a 10% export share. On the macro
front, key economies’ growth rates are set to soften. Consumer expenditure may shift
from goods consumption to services as mobility constraints further ease through a
better COVID situation. All of these will likely result in moderations of export growth in
the coming quarters.
Korea has made significant progress in terms of vaccination in recent months. Despite a Domestic drivers need to step up.
relatively late start, Korea has already vaccinated 71% of population with two doses of
vaccinations (as at 26 October). It is likely that Korea can vaccinate more than 80% of
population with two doses in the near term. Korea has already prepared ahead for
booster doses in the coming quarters, if necessary. Assuming there are no significant
swings to the current virus and vaccine situation, Korea’s private consumption should be
able to improve as further mobility easing takes place in the coming quarters.
The government has proposed to increase fiscal expenditure by 8.3% in 2022, though Proactive fiscal policy.
the budget deficit is set to narrow to 2.6% of GDP vs. 2021’s original deficit of 3.7%.
We expect the National Assembly to approve this budget proposal without significant
revision. If necessary, the government may launch a further supplementary budget to
support the growth recovery. The presidential election is scheduled for March 2022;
there could also be new fiscal plans as the new term of government begins.
The Bank of Korea has lifted the interest rate 0.25% to 0.75% in August. We expect BoK to conclude the rate hikes in
another rate hike of 0.25% in the November 2021 meeting, then the benchmark 2021.
interest rate is likely to stay unchanged for the coming quarters within our forecast
horizon. There were some signs of transitory upward price pressure in the previous
months, e.g. through energy prices. However, we have not observed significant signs of
spillover and there are limited signs of labor market stretch. We therefore do not assume
significant inflationary pressure to persistently challenge the 2% inflation target in the
coming quarters. While the BoK will likely take one more hike to support overall financial
stability and balance, the slowing growth momentum and the absence of significant
inflationary pressure may limit the chance of further hikes ahead.
Mutation of the virus could lead to significant downward growth pressure. Korea is Risks, upside and downside.
taking a data-dependent social distancing approach. Despite the high vaccination
coverage, significant increases of new cases due to virus mutation would likely lead to a
tightening of mobility restrictions, hitting consumption, employment and confidence.
Under a mutant virus scenario, Korea’s growth could decelerate to 2.1%. The
government would likely launch more fiscal support in such an event. Given its
significant international trade exposure, Korea will benefit from much better global
growth in general. Therefore, we expect growth to accelerate to 4.3% in 2022 in the
upside scenario, under which we assume all economies exit COVID by 1Q22.

South Korea
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn ** 1441 1715 1701 1664 1780 1799 1865 1945
Real GDP growth, % 2.9 3.2 2.9 2.2 -0.9 3.9 3.0 2.9
Gross Fixed Capital formation, % y/y 6.6 9.8 -2.2 -2.1 2.6 2.6 1.3 3.6
Exports, % y/y 2.4 2.5 4.0 0.2 -1.8 8.6 4.4 2.9
Imports, % y/y 5.2 8.9 1.7 -1.9 -3.3 7.5 5.1 3.6
USD/KRW (year-end) 1208 1071 1116 1156 1086 1150 1175 1190
Fiscal accounts
Central government budget balance, % GDP 1.0 1.3 1.6 -0.6 -3.7 -4.4 -2.6 -2.9
Revenue, % GDP 23.1 23.5 24.5 24.6 24.8 25.2 25.8 25.8
Expenditure, % GDP 22.1 22.1 22.9 25.2 28.4 29.6 28.4 28.7
Central government debt (gross),% GDP 34.0 34.2 34.3 36.3 42.2 42.9 45.1 48.3
Balance of payments
Exports, USD bn 495 574 605 542 512 635 667 697
Imports, USD bn 406 478 535 503 468 602 622 648
as % of GDP 6.8 4.4 4.6 3.6 4.2 4.5 4.0 4.0
Foreign direct investment (net), USD bn -18 -16 -26 -26 -23 -24 -27 -28

Malaysia
Real GDP accelerates on ‘opening up’ dynamic in 2022.
Fiscal consolidation to begin after 2022.
BNM raises policy rates 50bps in H2 2022.
We project Malaysian real GDP growth to accelerate to 6% in 2022 and 5.1% in 2023 We are above consensus for 2022 real
after 2.3% in 2021. Our 2022 forecast is close to government projections of 5.5-6.5% GDP growth.
but above consensus of 5.7%.
Malaysia was hit relatively hard by the Delta wave in Q2 and Q3 2021. Elevated virus The acceleration in growth we expect
cases led to mobility restrictions and virus-linked factory closures. Real GDP fell 2% qoq is primarily driven by the opening-up
seas. adj. in Q2 and industrial production was down 4% in August from the Q2 average. dynamic.
However, as of October, 95% of the adult population is fully vaccinated, and 62% of
teenagers. New COVID cases are falling and ICU ward utilization is down to 42%, from
an over-burdened situation. Mobility restrictions are being eased. High vaccinations
should facilitate a ‘Living with COVID’ policy, which reduces the downside risks to
growth. A future COVID wave might mean some additional restrictions but, absent a
mutant virus that renders vaccines ineffective (see scenarios section), a return to harsh
mobility restrictions to contain the virus should not be necessary.
As with the rest of the region, there are pipeline inflation pressures. We think excess Lower oil prices to help keep
capacity in the economy should limit the pass-through to headline CPI inflation. We inflation in BNM's comfort zone
expect CPI inflation to be within the BNM’s comfort zone in 2022. A risk is that elevated
oil prices lead to the RM2.05/ltr cap on RON-95 gasoline prices being lifted, which
would imply a step jump in the CPI. However, our baseline is that oil prices moderate
before that becomes necessary.
Likewise we expect the currency to be resilient due to the healthy current account
surplus of 4-5% of GDP. Malaysia is a net exporter of natural gas and we expect oil and
gas exports to be broadly supportive of a healthy current account surplus even if the
Brent oil price moderates to towards USD70 a barrel, as we expect next year.
As such, we project policy to remain supportive of growth. We project BNM to raise the Policy to remain supportive of
OPR only in H2 2022 and then only by 50bps to 2.25%, before a further 50bps increase growth.
in 2023. Some regulatory policy in support of liquidity and credit (e.g. the ability of
banks to use government bonds against their reserve ratio requirement) is being rolled
over to end 2022 but, we think, will likely be rolled over to a lesser extent into 2023.
Regulatory forbearance on bank lending should be tightened in 2022 but will likely only
gradually be adjusted.
The government is working to secure stronger economic growth before consolidating Limited fiscal consolidation in 2022 –
the deficit. The decline in the fiscal deficit in Budget 2022 from 6.5% of GDP in 2021 to securing the recovery first.
6.0% in 2022 can be explained by the growth in nominal GDP. That implies less of a drag
on growth from fiscal policy than in most other Asian economies. Expenditure growth in
2022 (+3.6%) masks a switch from COVID-linked spending (-41%) to development
expenditure (+23%).
Malaysia's Federal Government revenue remains very low relative to history at 14.3% of Fiscal consolidation to come –
GDP. Investors should be reassured by planned steps to ensure fiscal sustainability. These revenue measures in the pipeline.
include i) a Fiscal Stability Act; ii) a Medium-Term Revenue Strategy; and iii) several
revenue-raising measures in Budget 2022 (worth 0.5% of GDP). The Medium-Term
Framework presented in Budget 2022 calls for a nominal fiscal deficit of RM82bn on
average in 2023 and 2024, 15% below the RM97bn fiscal deficit projected for 2022. A
failure to execute on revenue plans could put government spending plans at risk. We will
watch the policy debate ahead of Elections (due between August 2022 and July 2023)
for policy promises that constrain the revenue strategy.
Risks to our view include: i) higher-than-expected inflation; ii) a quicker-than-we-expect

recovery; or iii) a vaccine-resistant mutant variant of the virus (see scenarios above).
The MoU between the gov't and the opposition calls for no elections before July 2022, MoU has lowered political
reducing political uncertainty. A General Election could be held soon thereafter given the uncertainty – for now
slim gov't majority in parliament, potentially leading to increased political uncertainty.

Malaysia
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 302 320 359 365 338 361 395 431
Real GDP growth, % 4.4 5.8 4.8 4.4 -5.6 2.3 6.0 5.1
Gross Fixed Capital formation, % y/y 2.6 6.1 1.4 -2.1 -14.5 1.2 9.0 5.3
Exports, % y/y 1.3 8.7 1.9 -1.0 -8.9 21.9 9.6 4.3
Imports, % y/y 1.4 10.2 1.5 -2.4 -8.4 24.6 8.4 3.8
USD/MYR (year-end) 4.49 4.06 4.14 4.09 4.01 4.10 4.05 4.00
Fiscal accounts
Revenue, % GDP 17.0 16.1 16.1 17.5 15.9 14.8 14.6 14.4
Expenditure, % GDP 20.1 19.0 19.8 20.9 21.9 21.4 20.6 19.5
Balance of payments
Exports, USD bn 190 218 249 240 235 302 319 329
Imports, USD bn 169 195 218 205 191 248 264 276
as % of GDP 2.4 2.8 2.2 3.5 4.2 4.0 4.4 3.5
Net International Investment Position, % GDP 5.6 -2.2 0.0 3.5 7.8 11.8 16.2 19.7

Philippines
Excess capacity means potential for strong opening-up growth in 2022.
GDP growth to be boosted by opening up, credit accelerator.
CPI inflation to fall, BSP raises rates only in H2 2022.
May 2022 presidential election to raise policy uncertainty.
We project 7.5% real GDP growth in 2022 and 5.9% in 2023 after 4% in 2021. That's We're above consensus on 2022 real
above consensus projections of 6.6% in 2022. Excess capacity allows a rapid expansion GDP growth in the Philippines.
in 2022 while policy turns less supportive into 2023.
We believe the Philippine economy has considerable excess capacity to expand into. Real Excess capacity to expand into.
GDP seasonally adjusted in Q2 2021 was 10% below its Q4 2019 level. Unemployment
at 8.1% in August 2021 is close to 3ppts above its 2019 level. Visible underemployment,
those working less than 40 hours a week, is 2 million higher than in 2019 (against total
employment of 44m).
The prime driver, we see, of the expansion into the excess capacity is the process of Opening up...
opening up. In our view, Philippines has just been through one of the tightest mobility-
restriction regimes on average since early 2020 (with below-average variations in
restrictiveness). On top of that, restrictions were recently tightened in August 2021. The
share of the eligible population receiving an average of two doses of vaccine reached
32% in late October and we assume will surpass 50% by the end of this year or early
next. Over 80% of the eligible population in Metro Manila is already fully vaccinated.
This should allow a sustained easing of mobility restrictions and a further opening of
international borders, providing a boost to growth in 2022.
We also expect a recovery in credit growth to have a marked accelerator effect on the ...and a credit recovery.
recovery. While bank credit to the private sector was growing at 2% yoy in September,
the three-month annualized pace shows momentum around 9%. Improving willingness
to lend implied by senior loan officer surveys and pro-credit policy settings by the BSP
imply that momentum should be extended in 2022.
We project CPI inflation to fall to below 3% in H1 2022 as food inflation base effects Excess capacity means an
become more favourable, energy prices moderate and excess capacity keeps a lid on acceleration in activity should not
core inflation. We do project a wider current account deficit of 2-3% of GDP in 2022 immediately feed through to serious
and 2023, but the increased capacity to produce as well as consume as a result of lower signs of economic excess.
mobility restrictions should limit the deterioration in the external balance.
Excess capacity and lower inflation allow BSP policy to stay loose in H1 2022 despite BSP raises rates in late 2022.
accelerating growth. In H2 2022 reduced risks to growth should lead the central bank to
reverse some of the emergency policy easing, raising policy rates 75bps. BSP's net credit
to the government stopped expanding in early 2021, but we do not expect the central
bank to stop rolling its credit to the government over the forecast horizon.
We look for a fiscal deficit at 7.5% of GDP in 2022 and 6% in 2023 after 9% in 2021. Fiscal policy should become
Although Budget 2022 envisages a 4.6% increase in spending, this is less than the likely progressively less supportive through
pace of nominal GDP. We do not include a meaningful boost to our real GDP growth 2022 and 2023.
forecast in 2022 merely because it is an election year.
We expect the peso to continue to fall towards USDPHP 54 in 2022. Strong domestic Peso to weaken.
demand should attract investment flows, but the current account deficit is likely to
widen to over 2% of GDP in 2022, from 1.2% of GDP in Q2 2021 – depressing the PHP.
Philippines will hold presidential and legislative elections on 9 May 2022. The successor Presidential and legislative elections
to President Duterte (who is subject to a term limit) is still unclear. Questions over the could add to uncertainty.
direction of policy could add to investor uncertainty. For example, promises made on the
election trail could lead to investor concerns over the intent to consolidate Philippines'
large fiscal deficit. Other risks to our view include themes similar to those presented in
our scenario analysis. There is a risk that a mutant virus once again prevents or hinders
opening up, curtailing the growth acceleration. Alternatively inflation may remain
elevated, forcing BSP's hand and limiting the credit accelerator effect on growth. The
labour market may be unable to supply workers quickly enough as demand recovers.

Philippines
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 318 328 347 377 362 388 400 426
Real GDP growth, % 7.1 6.9 6.3 6.1 -9.6 4.1 7.5 5.9
Exports, % y/y 9.2 17.4 11.8 2.6 -16.3 4.1 8.7 7.2
Imports, % y/y 18.8 15.1 14.6 2.3 -21.6 13.8 13.0 7.6
USD/PHP (year-end) 49.8 49.9 52.7 50.7 48.0 52.0 54.0 54.0
Fiscal accounts
Revenue, % GDP 14.5 14.9 15.6 16.1 15.9 15.6 15.8 16.5
Expenditure, % GDP 16.8 17.1 18.7 19.5 23.6 24.6 23.4 22.5
% domestic public debt held by non-residents #N/A 5.1 4.2 7.5 2.9 2.5 2.5 2.5
Balance of payments
Exports, USD bn 57 69 69 71 65 75 80 84
Imports, USD bn 84 96 113 112 90 114 128 139
as % of GDP -0.4 -0.7 -2.6 -0.8 3.1 -1.1 -2.1 -2.2

Singapore
Growth uncertainty diminished despite elevated COVID case numbers.
Labour supply challenges may take time to resolve.
MAS to steepen FX policy band slope in April and October 2022.
Singapore’s economy expanded 6.6% yoy in Q3 2021, likely the fastest growth in the Quarterly growth momentum to
region outside India. However, the cumulative expansion over Q1-Q3 2021 was lower at accelerate.
3.9%. Although we expect Singapore’s economy to expand by 5% in 2022, after 6.7%
in 2021, we think the expansion over the three quarters Q4 2021 to Q2 2022 will be
quicker than the first three quarters of 2021.
The quicker expansion of the economy is based on the view that the elevated virus case Still on the path to 'Living with
numbers will not lead to yet tighter mobility restrictions. Indeed, the higher case COVID-19'.
numbers are part of the process of shifting from ‘Zero-COVID’ to ‘Living with COVID’. A
‘Living with COVID’ policy regime means no return to harsh mobility restrictions to
squeeze the virus out of the territory and hence less downside risk to growth. As of 29
October, the seven-day average of new case numbers was 3.8k – similar to the UK, and
the highest in ASEAN-6 on a per capita basis. However, the high level of vaccination
(84% of pop.) means the numbers for rate of deaths and share of infected needing ICU
are very low at 0.2% and 0.3%, respectively.
‘Living with COVID’ also means that Singapore can start to rebuild its position as a International travel recovery to be
leading international travel hub. Despite the elevated case numbers, Singapore has set gradual initially, but will be
up quarantine-free travel arrangements for vaccinated travellers from territories that important for Singapore.
accounted for 47% of visitor arrivals in 2019 – with additional arrangements currently
being negotiated. We expect a meaningful pick-up in visitor arrivals only in H2 2022 and
then to less than 50% of the pace recorded in the same period in 2019. Nonetheless,
that could add 0.5-1.0% to Singapore real GDP growth in 2022.
We, like the MAS, expect Singapore’s output gap to close in 2022. Although Labour shortages.
employment is down 4.6% in Q3 2021 from its level in Q3 2019, the labour market is
showing evidence of mismatched labour supply and demand. The ratio of vacancies to
job seekers is a post AFC high of 1.6x. The issue is severe only in a narrow set of
industries (construction/manufacturing), which have been reliant on a now diminished
supply of foreign labour. Singapore’s 2021 mid-year population fell 4.1%, largely due to
an 11% decline in non-residents (i.e. migrant labour). While travel arrangements (with
quarantine) are being expanded for migrant labour, this challenge may take time to
resolve. We suspect the non-accelerating inflation rate of unemployment may rise
temporarily, underpinning quicker wage growth.
Pipeline external price pressures and domestic capacity constraints imply higher Inflation accelerates but will not
inflation. We project 2.1% headline inflation and 1.6% core inflation in 2022 up from surprise central bank.
1.9% and 0.9%, respectively, in 2021 – similar to the MAS’s own projections. These
estimates do not include the impact of the 2ppt hike in GST rates due to be introduced in
the 2022-25 period. Although the impact of GST on spending power may be offset with
cash transfers, we expect fiscal policy to be a drag on the economy over 2022-23
following very expansionary policy settings in 2020 that spilled into 2021.
MAS’s decision to tighten FX policy in October showed that i) it assessed growth risks to MAS S$NEER policy band slope to be
have diminished and ii) it saw the potential for inflation expectations to be pushed steepened twice in 2022.
higher – threatening the longer-run inflation trajectory. The MAS’s published projections
for inflation and the output gap are already consistent with a S$NEER policy band slope
steeper than the 0.5% p.a. we believe is currently in place. We project the MAS to
steepen the slope in April 2022 to 1.0% p.a. and to 1.5% in October 2022.
In some respects MAS is already considering the risk of the upward inflation surprise Upward inflation surprise or
scenario we present in this document. Upward revisions to the MAS’s projection for the sustained bottlenecks could open the
output gap (on evidence of bottlenecks) and inflation in the order of 1ppt would open door to a S$NEER policy band
the door to an upward S$NEER policy band recentering. Beyond the mutant virus or recentering.
accelerated recovery presented earlier in this document, we note Singapore’s policy
makers are sensitive to signs of exuberance in the property market and might react
accordingly with regulatory policy.

Singapore
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 319 344 376 374 340 379 410 430
Real GDP growth, % 3.3 4.5 3.5 1.3 -5.4 6.7 5.0 2.8
Gross Fixed Capital formation, % y/y 0.5 5.4 -4.3 1.2 -13.7 9.9 5.7 4.3
Exports, % y/y -0.1 7.1 7.7 0.1 -4.3 6.5 4.8 3.2
Imports, % y/y 0.1 7.8 7.5 0.2 -7.1 6.4 5.2 3.0
SORA, % (year-end) 0.97 1.50 1.89 1.77 0.41 0.25 0.25 0.70
USD/SGD (year-end) 1.45 1.34 1.36 1.35 1.32 1.33 1.30 1.30
Fiscal accounts
General government budget balance, % GDP 1.4 2.3 0.7 0.2 -13.8 -2.1 0.0 0.2
Revenue, % GDP 18.6 18.9 17.6 18.0 17.6 18.6 18.5 18.6
Expenditure, % GDP 17.2 16.6 17.0 17.8 31.3 20.7 18.5 18.5
of which interest expenditure, % GDP -3.2 -3.1 -3.2 -3.3 -3.9 -3.8 -3.5 -3.6
% domestic public debt held by non-residents #N/A #N/A #N/A #N/A #N/A #N/A #N/A #N/A
Balance of payments
Exports, USD bn 338 373 412 390 374 438 464 480
Imports, USD bn 292 328 371 359 329 395 428 444
as % of GDP 17.6 17.3 15.4 14.3 17.6 19.8 15.8 15.1
Foreign direct investment (net), USD bn -30 -36 -61 -70 -55 -75 -50 -50

Taiwan
Growth rate to remain strong vs. history despite moderations ahead.
The CBC may hike ahead of the cycle, room for fiscal policy.
We expect Taiwan’s growth to moderate to 3.1% in 2022, vs. the projected 5.9%
growth for 2021. Despite this moderation, the 3.1% growth for 2022E and the 2.9%
for 2023E still mark relatively strong growth rates compared to history (i.e. the average
annual growth between 2015/19 was 2.5%).
The economy has performed well in recent quarters. Despite the relatively significant Taking the pre-COVID 1H19 as the
outbreak in 1H21, its growth stood at 8.3%. A combination of factors is behind this. base, the two-year cumulative
Taiwan is highly geared towards technology hardware demand growth, and the work- growth reaches almost 10%.
from-home demand during the COVID outbreak thus offered significant support.
Industrial developments, such as further digitalization of autos, and the initialization of
the 5G cycle, also served as new drivers. Domestically, investment growth has remained
solid, given strong industrial growth. Relatively better COVID control and the
development of online service accommodated some of the negative impacts on private
consumption.
The export and industrial sectors may move on the moderation phase of a cycle, but Underlying cycles are moderating.
structural growth should be sustained. Our UBS tech sector team is expecting a
moderation in growth rates for most of the key consumer electronic products (e.g.
smartphone shipment unit: 4.0% in 2022 vs. 6.1% in 2021; PC shipment volume: -
3.5% in 2022 vs. 11.8% in 2011). These are important sectorial drivers for Taiwan’s
output. A slowdown in consumer demand growth will likely bring downward pressure
on Taiwan’s export and production growth. At the macro level, we are expecting slower
overall growth in many major economies, such as mainland China and the US.
Furthermore, expenditure may shift more towards service, as external mobility
constraints ease. These should put downward pressure on Taiwan’s trade and
production sectors as well. Despite this cyclical pressure, we believe structural factors,
such as the further digitalization of the global economy, and continuing advancement in
hardware technology, should offer a stabilizing force to exports, production, as well as
investment growth amid the moderating phase of the cycle.
Private consumption growth had lagged significantly behind other components, e.g., Private consumption lagged behind,
overall GDP growth and investment growth. Despite a relatively late start, Taiwan had can bounce up.
completed first dose vaccination for more than 65% of population by late October.The
relatively solid daily vaccination pace will likely help Taiwan to achieve substantial
vaccination coverage in the coming months, e.g., total doses covering 1.4 times of
population base by end-Nov 2021. This may lead to further easing of mobility
restrictions, support public confidence and further improve consumption growth.
We expect Taiwan’s CBC to hike policy rates by 0.125% in 1Q22. Despite the recent The CBC may act ahead of the cycle.
pick-up headline inflation due to factors such as food and energy prices, we do not
observe significant signs of spillover to other areas. The labor market has not shown
significant signs of stretchiness. We thus do not project substantial inflationary pressure
ahead. However, CBC may take the opportunity of a relatively stable COVID situation
and the still-strong growth position in 1Q22 to hike the interest rate, given the backdrop
of the US Fed tapering. The government has been proactive in using fiscal policy to
accommodate the COVID impact. It approved the lift in special COVID expenditure by
TWD 260bn (1.2% of GDP) in June 2021 amid the outbreak, and another uplift of TWD
160bn is being reviewed. Given the solid public finance condition, we expect the
government to provide fiscal support to the economy if necessary.
The government takes a relatively cautious data-dependent approach in managing the Risks, upside and downside.
mobility restrictions. The government would tighten mobility restrictions significantly if
there is another wave of outbreak, and private consumption and the service sector
would likely face significant downward pressure again. Under the scenario of a mutant
virus outbreak, we expect Taiwan’s growth to decelerate further to 2.6% in 2022. On
the other hand, given Taiwan’s exposure to international trade, not only to consumer
goods but also capital and industrial goods, we expect Taiwan’s growth to accelerate
further in a scenario of a much better global growth recovery. For our accelerated
recovery scenario, we expect Taiwan’s growth to stand above 4.4% for 2022.

Taiwan
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 543 591 609 612 669 759 790 815
Real GDP growth, % 2.2 3.3 2.8 3.0 3.1 5.9 3.1 2.9
Government consumption, % y/y 3.7 -0.4 4.0 0.7 2.5 3.1 0.9 1.1
Gross Fixed Capital formation, % y/y 3.4 -0.3 3.2 10.3 4.5 17.6 3.5 3.7
Exports, % y/y -0.9 4.5 0.2 1.3 1.6 16.8 5.9 4.2
Imports, % y/y -1.0 1.6 0.8 1.1 -3.3 16.9 6.6 4.4
CPI inflation, % y/y (year-end) 1.7 1.2 -0.1 1.1 0.0 2.6 0.8 1.0
USD/TWD (year-end) 32.3 29.8 30.7 30.1 28.5 27.6 27.3 27.0
Fiscal accounts
General government budget balance, % GDP -0.3 -0.1 0.0 0.1 -1.0 -3.1 -2.0 -0.8
Revenue, % GDP 15.3 15.3 15.5 15.5 15.4 13.6 14.3 15.1
Expenditure, % GDP 15.6 15.4 15.5 15.4 16.4 16.7 16.3 15.9
% domestic public debt held by non-residents n/a n/a n/a n/a n/a n/a n/a n/a
Public debt held by the central bank, % GDP n/a n/a n/a n/a n/a n/a n/a n/a
Balance of payments
Exports, USD bn 279 315 334 329 345 434 479 509
Imports, USD bn 229 257 285 286 286 371 414 445
as % of GDP 13.1 14.1 11.6 10.6 13.2 13.3 13.5 13.4

Thailand
Real GDP growth recovery in 2022 driven by opening up.
Opening up and tourism recovery key for upside growth surprise.
Fiscal and monetary policy normalisation to begin in 2022.
Current account balance to turn from headwind to tailwind for baht.
Our projection of an above-consensus recovery in the Thai economy is driven by the We project real GDP growth of 6% in
domestic opening-up dynamic, slowing (but still strong) global demand, and a 2022 and 3.5% in 2023 after 1.0% in
resumption of international travel. We project real GDP growth of 6.0% in 2022 and 2021.
3.5% in 2023 after 1.0% in 2021. That compares to BoT and consensus forecasts of
around 4% in 2022. Our 2022 forecast is above that of the BoT due to a more optimistic
assumption for global growth (~0.3ppts), a more optimistic view on visitor arrivals
(~0.7ppts), and a more optimistic view of the recovery into excess capacity (~1.0ppts).
We assume visitor arrivals recover to 11m in 2022 from a Sept 2021 ytd total of 85k. In Opening-up dynamic includes a
Sept the BoT projected 6m visitor arrivals in 2022, while the FPO projects 7m. As of 1 boost from tourism.
Nov, travellers from 63 territories can enter Thailand quarantine-free. Further opening
up is scheduled into early 2022. As yet, only a few countries allow travellers from
Thailand to enter without quarantine, but we expect that to change as Thai vaccination
rates rise and COVID new case numbers moderate accordingly. As of 1 Nov, 44% of
Thailand's eligible population was vaccinated with two doses; in key tourist destinations
Bangkok and Phuket, the share is over 75%. We acknowledge our visitor arrival view is
optimistic but note evidence of an international tourism revival globally. Tourist arrivals
by air into Spain were over 50% of same month in 2019 as of Aug 2021.
In addition to slowing but still strong international demand, Thailand should also benefit
from the unsnarling of supply chains in 2022. COVID-linked factory closures in Thailand
and elsewhere contributed to a 10% decline in manufacturing production between
March and August 2021 and a likely sequential contraction in Q3 GDP (UBSe 3.5% qoq).
Thailand's current account deficit was an uncomfortable -3.5% of GDP in Q2 2021. The recovery in tourism and
Compared to Q2 2019, the 6.8ppts decline was due to an 8.3ppts-of-GDP fall in net unsnarling of supply chains is also
travel (tourism) receipts and 1.1% was due to higher net freight services imports. The critical for Thailand's balance of
latter is linked to the dramatic rise in freight rates due to port congestion and container payments.
shortages. Our projections have these pressures diminishing and the current account
balance returning to a 0.3%-of-GDP surplus in 2022. Disappointment here could mean
the baht fails to appreciate to USDTHB 31 as we project.
Underlying inflation is likely to pick up i) as measures to limit price increases and protect Actual inflation should not prevent
consumer spending power during periods of restricted mobility are withdrawn; ii) as policy settings from remaining
firms adjust margins to cope with pipeline price pressures; consumption activity growth-supportive into early 2022...
recovers. We forecast core inflation to rise from 0.3% in 2021 to 0.7% in 2022 and
1.2% in 2023. Headline inflation accelerates to 1.4% in 2022E but slows in 2023E due
to our assumed moderation in oil prices.
We expect BoT to raise policy rates 25bps to 0.75% by end 2022 and to 1.00% in 2023. ...but, over course of 2022, policy
However, this will be on diminished downside risks to growth and with a view to likely begins to normalise. We expect
managing financial stability rather than above-target inflation. Regulatory support for the pace of government borrowing
managing NPLs could continue for years, but we expect easier macroprudential rules on to slow and BoT rates to rise in 2022.
credit to be rolled back somewhat by 2023. Thai public debt rose Bt1.5tn in FY21, more
than the Bt0.9tn rise in FY20. We expect a lower increase in FY22 as Emergency Decree
borrowing tapers. However, signs of an early general election (due no later than March
2023), means fiscal support for growth is likely to be stronger in H1 2022 than H2.
We present a mutant COVID variant scenario in this document where there is no We see several downside risks to our
recovery in tourism and growth is close to 1% in 2022. Even without a mutant variant, view.
tourism numbers may disappoint if potential tourists' home countries do not eliminate
quarantine for travellers returning from Thailand. That scenario could lead to a weaker
baht. In addition to a scenario where inflation is broadly higher than expected, food
prices could also surprise. Higher rice prices (currently down 20% yoy in September
despite higher fertiliser prices) would help farm income but also contribute to CPI
inflation. BoT is unlikely to raise policy rates on energy and food price rises in isolation.
However, if these prices rise in tandem along with quicker real GDP and a faster credit
expansion, then the case might build for a quicker rise in policy rates.

Thailand
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 414 457 507 545 502 501 526 582
Real GDP growth, % 3.4 4.2 4.2 2.3 -6.1 1.0 6.0 3.5
Exports, % y/y 2.7 5.2 3.4 -3.0 -19.4 15.4 9.4 6.7
Imports, % y/y -1.0 6.2 8.3 -5.2 -13.3 19.0 7.6 5.8
USD/THB (year-end) 35.8 32.6 32.3 29.8 30.0 34.0 31.0 31.0
Fiscal accounts
Revenue, % GDP 16.8 15.4 15.6 15.1 14.7 15.7 13.6 16.0
Expenditure, % GDP 19.6 19.0 18.6 18.1 19.9 19.6 17.6 20.0
Balance of payments
Exports, USD bn 215 237 253 246 232 270 284 295
Imports, USD bn 194 222 248 236 206 262 273 282
Current account balance, USD bn 43 44 28 38 20 -16 1 17
as % of GDP 10.5 9.6 5.6 7.0 4.0 -3.2 0.3 3.0
Foreign direct investment (net), USD bn -10 -6 -4 -5 -24 0 0 0
Net International Investment Position, % GDP -8.0 -6.7 -1.1 0.0 11.5 8.3 8.1 10.3

Vietnam
Rapid initial recovery from Q3 slump likely.
But supply and balance sheet constraints could limit pace of 2022 expansion.
Government likely to execute on reform agenda in 2022.
We expect Vietnam to expand 6% in 2022 and 6.2% in 2023 after 1% in 2021. The initial stage of the rebound from
Vietnam was a victim of its own success in 2021, but looks likely to swiftly catch up with the Q3 slump should be quick, but
other ASEAN economies in terms of opening up. Having run a successful zero-COVID capacity constraints may slow the full
policy through much of 2020 and into early 2021, Vietnam was initially slow to secure scope of the recovery.
vaccines and was forced to essentially experience in Q3 2021 the shock that other
ASEAN economies experienced in Q2 2020. Real GDP fell 9% qoq seasonally adjusted in
Q3 with retail saves falling 33% yoy, vehicle sales down 61% and manufacturing
production down 7% yoy in September.
We expect most of the slump in activity in Q3 to be reversed in Q4 and Q1. The share of
the total population with at least one vaccine dose has risen from 3.7% on 1 July to 53%
on 23 October. An average of Google mobility indices for transport hubs, work places
and retail fell from normal (0%) at end April 2021 to -75% on 4 September, before rising
to -41% on 22 October. However, labour supply constraints may be limiting the recovery
in factory activity. Additionally, given the absence of significant fiscal support, stretched
household balance sheets may limit the scale of pent-up demand. We estimate no
private sector excess savings were built up over the lockdown period.
Labour supply issues, after the supply chain challenges resulting from Vietnam's efforts Clusters to keep Vietnam competitive
to contain the virus, may diminish the attractiveness of Vietnam as a supply chain despite COVID challenges.
location. However, Vietnam now has the advantage of industry clusters in textiles,
mobile phones and labour-intensive auto parts, which provide a competitive advantage.
Plus, firms surveyed by UBS Evidence Lab continue to signal intent to move some
production out of China. And Vietnam is the only Asian economy other than Singapore
to be a member of RCEP, CPTPP, and have a preferential trade agreement with the EU.
FDI flows into Vietnam in H1 2021 are up over 10% on the year.
We project the fiscal deficit (IMF definition) to widen to 4.9% of GDP in 2021 from 3.9% Policy support for the economy
in 2020 and 3.3% in 2019 – a modest outcome compared to most ASEAN peers due to during the pandemic has been
challenges in stimulus delivery. In 2022 we project the fiscal deficit to return to around disproportionately monetary.
4.5% of GDP (Budget is late October/November). Bank credit to the economy was 15%
yoy in August 2021, by far the quickest in the region. This was driven less by lower policy
rates and more by SBV guidance to state-owned banks, in our view.
As such, more important than the policy rate (which we expect to be increased 50bps in
2022) will be SBV's credit policy. While we expect SBV credit policy to remain loose, the
bias should be increasingly to tighten as concerns about growth fall but those about
NPLs grow. Capacity constraints in the economy will likely push inflation up and reduce
the current account balance in 2022 and 2023. We project CPI inflation to rise from
2.1% in September to around 3% over 2022 and 2023 based on less of a drag from
elevated meat prices, gradual pass-through of commodity price pressures to underlying
inflation and rising wages. Elevated international commodity prices may convince the
SBV to allow further appreciation of the dong to reduce pressures on consumer prices.
We forecast USDVND at 22,500 by end 2022.
With the 2021 leadership transition smoothly out of the way, 2022 could be a year of Reforms to heat up.
execution on reforms. For example, on 1 September, Prime Minister Pham Minh Chinh
approved a road development plan for 2021-2030, which calls for an extension of the
expressway network by 5,000km from 3,800km currently. This follows the
implementation of new PPP legislation in January 2021 (and which is in the process of
being fine-tuned).
Risks to our view of a swift recovery partial recovery with capacity constraints are to the We may be underestimating the
upside and downside. Workers may return to factories faster than expected. speed at which workers return to
Alternatively, inflation pressures could be higher than we expect, leading to tighter SBV factories. NPLs could rise sharply if
policy. Tighter SBV policy in the form of restrained credit may imply higher NPLs due to SBV tightens policy.
the combined effect on balance sheets during the pandemic of strong credit growth and
reduced income. We do not see significant near-term risks on the political front. We note
that the trade dispute with the US appears to have been cleared up.

Vietnam
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 248 277 301 328 342 358 393 430
Real GDP growth, % 6.2 6.8 7.1 7.0 2.9 1.0 6.0 6.2
Private consumption, % y/y 7.3 7.4 7.3 7.4 0.5 0.0 6.0 6.2
Gross Fixed Capital formation, % y/y 9.9 10.2 8.6 8.3 4.1 2.5 7.0 8.0
Exports, % y/y** 9.0 21.8 13.3 8.4 7.0 16.3 11.2 8.0
Imports, % y/y** 7.0 23.4 11.2 7.0 3.7 21.9 13.0 10.0
Industrial Production (%) 16.5 10.0 10.9 6.6 2.6 4.5 7.9 7.4
Domestic private credit, %y/y*** 18.8 17.4 12.8 12.8 11.6 12.0 15.0 15.0
Domestic bank credit/GDP*** 98.9 104.0 105.9 109.7 117.4 128.0 135.3 142.1
USD/VND (year-end) 22740 22690 23180 23170 23110 22700 22500 22500
Fiscal accounts
Revenue, % GDP 19.1 19.6 19.6 19.7 18.7 16.4 16.6 16.6
Expenditure, % GDP 17.8 17.2 20.6 23.0 22.6 21.3 21.1 21.1
Primary balance, % GDP -1.6 -0.4 0.5 -1.9 -2.6 -3.5 -3.0 -3.1
Balance of payments
Exports, USD bn 177 215 244 264 283 329 366 395
Imports, USD bn 166 204 227 243 252 307 347 382
Current account balance, USD bn 1 -2 6 12 12 2 0 -3
as % of GDP 0.3 -0.6 1.9 3.7 3.6 0.5 0.0 -0.6
Foreign exchange reserves excl gold, USD bn - - - - - - - -
Net International Investment Position, % GDP - - - - - - - -

Masamichi Adachi
Economist
masamichi.adachi@ubs.com
+81-3-5208 6214
Go Kurihara
Associate Economist
go.kurihara@ubs.com
Japan

Pivotal Questions Q: Will the Japanese economy bounce with reopening and continue to grow?
Yes, in our baseline forecast we expect a rebound of growth in Q4 2021 and Q1 2022, and then a
moderate but steady recovery through 2023. Compared to other major economies, Japan's recovery
is likely to be softer due to secular headwinds of demographics as well as cautious households and
corporates.
Q: Will the BoJ start normalization?

Not in 2022. 2023 will be interesting as a new governor will succeed Kuroda and may start amending
the current yield curve control. But our baseline forecast looks for below 2% inflation through 2023,
which would imply that the normalization would not start in the next two years.
UBS VIEW We are relatively optimistic about the continued economic recovery in the next two years, but
inflation is likely to remain below 2%. Our 2022 annual GDP forecast looks for 3.1%, higher than
2021 at 2.1%. We expect the BoJ to stay on hold with its current yield curve control even after
Kuroda's term as governor ends.
EVIDENCE The improvement in the Covid situation and the lifting of the state of emergency at the end of
September 2021 should prompt services consumption to rebound in Q4 and at the beginning of
2022. High household savings and solid external demand should then sustain the recovery after that.
A large fiscal package, expected to be put forward before end-2021, should mitigate the fiscal drag
in 2022.
WHAT´S PRICED IN? Market consensus is somewhat more cautious than our view on real GDP growth, expecting only
2.5% in 2022 after 2.4% in 2021. Consensus on core CPI Inflation is at 0.4% in both 2022 and 2023,
and is below our forecast of 0.5% and 0.8%.
RISK A key downside growth risk is a resurgence of Covid-19 with a new virus mutation that makes
vaccines ineffective. A key upside risk is improved confidence about the future, boosting consumer
and corporate spending. Inflation could be higher, with higher import (mainly energy) prices. Politics
may turn out to be somewhat volatile, with possibly another change of Prime Minister after the
Upper house election in July 2022.
Real GDP forecast

580
JPY trillion, saar UBS estimate
570
560 BoJ outlook

550
540
Real GDP Consensus (BBG)
530
520
510
500
16 17 18 19 20 21 22 23 24
Source : CAO, UBSe

Japan
Economic recovery is likely to continue with reopening and dissaving...
...but core CPI inflation should not come close to reaching 2% in the next two years.
BoJ is expected to stay on hold even after governor Kuroda's departure in April 2023.
Review of disappointing 2021

Japanese economic performance in 2021 has been disappointing. Our current 2021 2021 GDP growth disappointed
GDP growth forecast is 2.1%y/y, but it was 3.2% under the base case when we compared to our forecast a year ago
presented our 2021-2022 outlook on 23 November 2020. The recovery in H2 2020 was
much stronger than our forecast, leaving 2020 official annual GDP falling -4.7% instead
of our forecast of -5.3%, and creating positive statistical carry-over for this year. On the
other hand, average quarterly annualized GDP growth in 2021 is now expected to be a
mere 0.3%, far weaker than last year's forecast at 3.0% (Figure 485).
Figure 484: Real GDP forecast as of Nov 2020 and latest Figure 485: New cases of Covid-19 infections and mobility
25,000 %, vs pre-COVID-19 20
570 JPY trillion, saar Previous UBS estimate a year ago ppl
New infections (LHS) 18
560 20,000 16
Residential (Google mobility)
550 14
15,000
12
540
Staying home 10
10,000
530 8
520 Real GDP 5,000 6
4
510
0 2
May-21
Jun-21
Jan-21
Aug-21
Apr-21
Sep-21
Mar-21
Feb-21
Oct-21
Jul-21
500
16 17 18 19 20 21 22
Source : CAO, UBSe Source : MHLW, Google, as of 1 Nov for Google data and 4 Nov for new
infections (7 days moving average)
There are basically two reasons for the disappointment. First, and the main reason, were The disappointment was due to the
three waves of Covid-19 infections, especially a surge during the summer with the delta Covid situation, which was much
variant, which prompted people to stay at home, partly due to the government's worse than our assumption...
declaration of a state of emergency (Figure 486). Slow vaccination until early summer
probably contributed to the surge in infections during the summer. Accordingly,
consumption was weak despite a recovery in wage (and disposable) income; the Cabinet
Office's synthetic consumption index was flattish at a low level and the BoJ's
Consumption activity index trended down (Figure 487).
Second, is the bottleneck in supply chains of manufacturing production, mainly in the ..and the bottleneck in supply chains,
auto sector. Indeed, real exports and industrial production fell significantly in Q3 (Figure particularly in the auto sector
488) with shortages of imported production components from ASEAN countries and
China .
Figure 486: Monthly consumption index and wage income Figure 487: Real exports and industrial production
110 sa, 2015=100 120 sa, 2015=100
105 110
100
100
95
90 Industrial production
90 Consumption activity indedx
Synthetic consumption index 80
85 Real export
Wage Income of Employees
80 70
10 11 12 13 14 15 16 17 18 19 20 21 10 11 12 13 14 15 16 17 18 19 20 21
Source : BoJ, CAO Source : BoJ, METI

Capex in equipment recovered solidly with strong exports and an increase in profits Capex in equipment has recovered a
through the summer, but investment in structures and buildings remained weak (Figure lot but structure and buildings have
489). This gap reflects sector performance divergence, which remained large through been weak
2021; accommodation (hotels) and eating/drinking (restaurants and bars) and
amusement have been trending down while other non-manufacturing and
manufacturing stayed relatively firm, even though all sectors' activity is still at or below
the pre-pandemic level (Figure 490).
Figure 488: Capex on equipment (capital goods supply) Figure 489: Activity levels by sectors
and infrastructure and building (private construction
completed)
115 sa, 2015=100. 3mma 110 sa, 2019=100

110 100
105 90
80
100
70 Manufacturing
95
60 Transport
90 Amusement
50
85 Total supply (capital goods) Non-manufacturing*
40
80 30 Accommodation, eating/drinking
Private construction completed
75 1 2 3 4 5 6 7 8 91011121 2 3 4 5 6 7 8 91011121 2 3 4 5 6 7 8 9
10 11 12 13 14 15 16 17 18 19 20 21 2019 2020 2021
Source : METI, MLIT Source : METI, *non-manufacturing exclude “accommodation, eating drinking”
The Tokyo Olympic Games were held in July as expected, with no meaningful impact on Suga's resignation was a surprise
the economy. The surprise event was in politics. We did not expect PM Suga to step
down after just a year in office, at the LDP president election in September. He was
unpopular, and surveys gave him poor marks on handling the pandemic, but he
delivered on some of his policy commitments, including establishing a Digital Agency
and substantially lowering mobile phone charges.
Baseline forecast on 2022-2023 GDP growth

Our baseline scenario assumes the Covid situation will not flare up again like it did this Our baseline scenario assumes
year. We assume that the progress in vaccination (more than 70% of population is now significantly reduced drag from
fully vaccinated and this is expected to rise further), and better handling of medical Covid-19
capacity by the new government based on the experience during this summer, would
prevent a resurgence of new cases and/or the re-imposition of government restrictions,
including states of emergency. We thus expect a rebound in service consumption in Q4
2021 (which is not yet confirmed by hard data) and Q1 2022, leaving a pick-up in GDP
growth from stagnation through Q3 even though exports are expected to stay weak
until the end of this year.
Beyond the initial rebound, the pace of consumption growth is likely to moderate as Consumption is expected to continue
pent-up demand tends to fade quickly, especially with secular drag on consumer recovering beyond the initial
spending from aging and the shrinking population. But, modest/steady gains are rebound
expected to continue (Figure 491) with an expected solid gain in labour income and high
savings of households that can be drawn down (Figure 492). The saving, which has
accumulated thanks to the government's income support to households and
businesses, and the plunge in spending in 2020 and 2021, is estimated at ¥42 trillion,
close to 8% of GDP. We assume a relatively large fiscal package will be introduced
before the end of this year, which will be spent next year and beyond, but we do not
expect a meaningful difference on growth in the next two years based on the size of the
package, as the saving is already high (see below on fiscal policy).

Figure 490: Consumption outlook Figure 491: Excess saving
320 JPY trillion, saar 1,100 JPY trillion for both axes 80
1,050 excess saving (RHS)

310
Cash / deposit in households (LHS) 60
300 1,000
trend 42
290 950 40
Private consumption (actual)
280 Base case 900
20
Scenario 1 mutant virus
270 850
Scenario 2 structural shift higher in inflation
Scenario 3 Accelerated recovery
260 800 0
13 14 15 16 17 18 19 20 21 22 23 10 11 12 13 14 15 16 17 18 19 20 21
Source : CAO, UBSe Source : BoJ, UBSe
Exports are expected to rebound from Q1 2022 as supply chain bottlenecks should ease We expect that exports and capex
with an improvement in Covid in ASEAN countries, and a move away from zero-Covid also will continue to recover with
policies. With steady growth in the global economy, we expect exports would continue solid global demand and corporate
to increase even after the rebound in H1-22 (Figure 493). Capex is likely to continue to profits, but the pace of the capex
recover with steady gains in corporate profits and the recovery of final demand, but our recovery is rather moderate
baseline forecast expects a rather modest recovery based on a secular cautious
corporate investment stance. We do not expect a meaningful impact on corporate
investment from the Kishida administration's policies.
All in all, our annual GDP forecast looks for 3.1% growth in 2022, and 1.4% in 2023. Our baseline forecast looks for 3.1%
Quartery GDP in Q3 this year is still 3.4% below the recent high of Q3 2019, but it and 1.4% real GDP growth in 2022
should be back to pre-pandemic levels by Q3 2022. Compared to consensus, our and 2023, respectively
forecast is somewhat more bullish, but rather conservative compared to the BoJ (Figure
in THESIS MAP).
Figure 492: Exports outlook Figure 493: Real GDP forecast
120 JPY trillion, saar JPY trillion, saar

590 Real GDP
580 Base case
110 Scenario 1 mutant virus
570 Scenario 2 structural shift higher in inflation
560 Scenario 3 Accelerated recovery
100
550
90 540
Export
Base case 530
80 Scenario 1 mutant virus 520
Scenario 2 structural shift higher in inflation 510
Scenario 3 Accelerated recovery
70 500
13 14 15 16 17 18 19 20 21 22 23 15 16 17 18 19 20 21 22 23
Source : CAO, UBSe Source : CAO, UBSe
Alternative scenarios
As usual, we have alternative scenarios (Figure 494). This year, we have three scenarios:
1) a mutant virus that evades vaccines; 2) inflation moving structurally higher; and 3) an
accelerated recovery. The mutant virus case assumes another surge in new infections,
which causes hospitalisation and death rates to move higher again as current vaccines
are ineffective. Under this pessimistic scenario, we expect a fall in consumption and
exports, and a stagnation in real GDP through 2022 (Figure 491, Figure 493), with 0.3%
and 1.8% annual GDP growth in 2022 and 2023, respectively. The second alternative
scenario assumes a structural upshift in inflation expectation (see below). The
implication for growth is to reduce it somewhat over the next two years (2022: 2.6%;
2023: 1.3%), as we think this upshift of inflation expectations mainly emanates from a
supply-side shock, but the damage should be more significant after 2024 with the
lagged effect from tightening in financial conditions and with BoJ's policy normalisation.

The final optimistic scenario assumes consumers will spend more, with more upbeat The optimistic GDP forecast scenario
long-term income growth prospects due to policy changes or generally improved looks for 4.3% and 1.1% in 2022 and
confidence. As noted above, households accumulated their savings much faster than 2023, respectively. The downside
trend in the last two years (Figure 8). case is growth of 0.3% in 2022 and
1.8% in 2023
Inflation will stay low

Our inflation forecast is based on an output gap style Phillips curve, which shows that We expect core CPI inflation at 0.5%
adjusted core-core CPI (excluding volatile fresh foods, energy and special factors) is and 0.9% at end 2022 and 2023
determined by an output gap (the difference between real GDP and potential GDP) with
a two-quarter lag. The gap was very large in Q2 2020 with the pandemic shock, but the
economy recovered sharply in Q3 so we judged that this acute shock had little impact on
inflation. For the purpose for estimating underlying inflation, we effectively adjusted the
level of the gap (Figure 495). With our baseline real GDP forecast and an assumed
average 0.5% potential growth rate (currently 0.3%, rising to 0.6% by end of 2023),
our forecast of the underlying inflation looks for 0.8% at the end of 2022 (average
0.6%) and 0.9% at the end of 2023 (average 0.9%). However, we need to incorporate
special factors and the energy price outlook to predict the most important inflation
measure, core CPI excluding only fresh foods, especially for 2022 (Figure 496). All in all,
our baseline core CPI inflation forecast at the end of the year looks for 0.5% inflation in
2022 (average 0.5%) and 1.0% in 2023 (average 0.8%) after 0.5% in 2021 (average -
0.2%).
Figure 494: Output gap and adjusted core core inflation Figure 495: Core CPI inflation forecast
forecast
6.0% y/y 3% 2.0% UBS forecast

y/y Core-CPI ex.
Output gap (LHS) 1.5% special effects
4.0% Adjusted output gap 2% 1.0%
Core-core (RHS)
2.0% 0.5%
1%
0.0% 0.0%
0% -0.5%
-2.0% Special effects
-1.0%
-1% Energy
-4.0% -1.5% Core-core
-6.0% -2% -2.0% Core-CPI
1 2 3 4 1 2 3 4 1 2 3 4
-8.0% -3%
2021 2022 2023
95 97 99 01 03 05 07 09 11 13 15 17 19 21 23
Source : CAO, MIC, UBSe *core-core CPI exclude special effects (hotel charge and Source : MIC, UBSe
mobile communication cost)
The alternative scenarios look for slightly lower inflation in the mutant scenario (0.3% at
end / 0.4% average in 2022, 0.4% / 0.2% in 2023) and somewhat higher inflation in
the accelerated recovery scenario (1.3% / 1.0% in 2022 and 1.5% / 1.5% in 2023)
scenarios (Figure 497). In any case, Japan's inflation outlook is lower than in the US and
Euro area (Figure 498). The higher inflation scenario assumes a 1% point step-up in
inflation expectation, leaving inflation close to 2% on average in 2023 by design (1.7%
/1.3% in 2022 and 2.2%/2.0% in 2023).

Figure 496: Core CPI inflation forecast Figure 497: Headline CPI inflation outlook comparison
(EOP basis)
y/y Core-CPI 2022

2.5% Base case Base case Scenario 1 Scenario 2 Scenario 3
Scenario 1 mutant virus
2.0% US 1.8 1.4 2.8 2.0
Scenario 2 structural shift higher in inflation
Scenario 3 Accelerated recovery Eurozone 1.3 1.3 2.4 1.4
1.5%
JP 0.5 0.3 1.7 1.3
1.0% 2023
Base case Scenario 1 Scenario 2 Scenario 3
0.5%
US 1.9 2.5 2.9 2.0
0.0% Eurozone 1.5 1.6 2.5 1.7
-0.5% JP 1.0 0.4 2.2 1.5
-1.0%
13 14 15 16 17 18 19 20 21 22 23
Source : MIC, UBSe Source : UBSe *CPI in Japan exclude VAT hike and free education effects **scenario
1 refers "mutant virus", scenario 2 refers "structural shift in higher inflation" and
scenario 3 refers accelerated recovery.
BoJ unlikely to move even after Kuroda

With the low inflation forecast, we think that the BoJ will stay on hold through our BoJ is likely to stay on hold
forecast horizon. The next policy change should be the unwinding of the special
program to support corporate finance (i.e., funding for lending), which is scheduled to
end in March 2022. We think this program will be extended for six more months, but
with less generous terms. Beyond that, our base case looks for no change in yield curve
control with the overnight rate at -0.1% for the current account and around 0% (+/-
25bp) for the 10 yr JGB yield. The BoJ is no longer conducting QE so even the pace of
increase in the BoJ's balance sheet has slowed (Figure 499); the market has not
misinterpreted this as as tapering, or a sign that the BoJ is heading to normalisation and/
or tightening.
One interesting question is whether the BoJ will react to a weaker JPY (Figure 500). If JPY Policy makers are unlikely to
continues to depreciate and public concern on higher import prices of food and energy intervene in currency markets
grows, the MoF and the BoJ may intervene verbally in currency markets, saying that they
are concerned about the market moves and that they are not supported by
fundamentals. However, we do not think they actually intervene in markets, and a policy
rate hike to prevent JPY from depreciating is very unlikely, in our view, especially as long
as low inflation persists.
Figure 498: BoJ's balance sheet Figure 499: USD/JPY and interest rate differential
800 JPY billion for both axes 140 170 USDJPY (LHS) 6
700 120 160
10y yield gap (US minus JP, RHS) 5
BoJ balance sheet (LHS) 100 150
600
80 140 4
500 y/y change (RHS)
60 130
400 40 120 3
300 20 110
0 100 2
200
-20 90 1
100 -40 80
0 -60 70 0
89 91 93 95 97 99 01 03 05 07 09 11 13 15 17 19 21 90 92 94 96 98 00 02 04 06 08 10 12 14 16 18 20
Source : BoJ Source : Refinitiv
A potential factor that could change the BoJ's policy in a fundamental manner is the
replacement of governor Kuroda who led the Bank for the last eight years (since 2013).
His term will end in April 2023. The government (i.e., Prime Minister) will determine the
next governor and two deputy governors probably in 1Q 2023. At the moment, it is too

early to predict who will be the next governor, but the speculation is likely to be noisy Speculation of who might succeed
from H2 of next year, especially after the Upper house election in July (see below). We BoJ governor Kuroda comes into
think that the BoJ's policy framework and 2% inflation target will not change even with focus in H2 of 2022
a new governor, but politics may alter the basic thinking on broad macroeconomic
policy, including monetary policy. In this case, the government and the BoJ would need
to amend the "Joint Statement of the Government and the Bank of Japan on
Overcoming Deflation and Achieving Sustainable Economic Growth" released on 22
January 2013.
Also worth watching is the replacement of two board members in July 2022, especially Replacement of board member
Kataoka, who has been the most dovish member for the last five years with persistent Kataoka in July 2022 is worth
dovish dissent against the board consensus (Figure 501). The stance of replaced watching
members likely will signal the stance of the government (i.e. Prime Minister).
Figure 500: BoJ board members
Source : BoJ, UBSe
If inflation is much higher than our baseline forecast, like under the higher inflation Under the higher inflation scenario,
scenario, we think the BoJ will amend the shape of the yield curve target. It is difficult to the BoJ with a new governor may
have strong conviction, but the end of negative interest rate policy and a shorter raise policy rates in 2023
maturity target from the current 10yr to 5yr, with something less than a 1% target yield,
could be plausible at the beginning, especially with a new governor.
Fiscal policy probably has limited impact on growth

PM Kishida has been mentioning that his administration will introduce a fiscal package Fiscal package could be large, but
of "tens of trillion yen" before the end of 2021. His government will form a actual size may not be as large as
supplementary budget for FY2021 and FY2022 at the same time. Our current headline business size numbers
assumption for the size of the former is 2-4% of GDP, even though the headline
'business size' of the package could be much larger, as was the case in the past (Figure
502), see "Five questions on Japan’s fiscal policy and its implications" for more
discussion on fiscal policy).
Still, fiscal drag in 2022 and 2023 looks inevitable, as projected by the OECD and IMF
(Figure 503). The drag could be smaller or even turn net stimulus in 2022 with a truly
large fiscal package. But, with the high saving of households as noted above, we think
the actual drag or boost from fiscal policy is smaller than these estimated numbers (i.e.

the fiscal multiplier is small).
Figure 501: Economic measures Figure 502: Fiscal thrust (a change in cyclically adjusted
primary balance of general government)
140 JPY trio for both axes 10.0

120 %pt of potential GDP
Business size Fiscal spending 6.6
100
4.4
80 5.0
60
40 -1.2
20 0.0
0
OECD Underlying Primary Balances (thru 2022)
Aug-08
Aug-16
Nov-99
Apr-09
Nov-12
Apr-20
Oct-08
Sep-10
Oct-00
Oct-01
Oct-10
Oct-11
Jan-13
Dec-01
Dec-02
Dec-08
Dec-09
Dec-13
Dec-14
Dec-19
Dec-20
-2.2 -2.0
IMF Structural Balance
-5.0
-4.4
LDP DPJ LDP 00 02 04 06 08 10 12 14 16 18 20 22 24
Source : CAO, MoF, UBSe Source : OECD, IMF
Politics and Kishida's policies

The key political event in 2022 is an Upper house election in July. The term of the Upper Upper house election is the most
house politicians is fixed at six years, and half of its 245 members are elected every three important political event in 2022
years. The term of the Lower house is four years, but the Prime Minister can dissolve the
house at his discretion (the Lower house election in 2021 was a rare case of the full term
being completed). Unlike the Lower house election, the Upper house election is not the
election to select the government, but a hung Diet (parliament) and an impasse of
policies could lead to a change of Prime Minister, as occurred between 2007 and 2009,
and eventually a change of ruling parties. At this stage, it is difficult to imagine that
opposition parties could gain a majority given their low approval ratings in recent polls.
Indeed, the LDP/Komei coalition gained 63% of the Lower house seats at the Lower
house election on 31 October. But, Japanese politics has been fragile after a long eight-
year Abe regime, as evidenced by the short spell in office for former PM Suga. Winning
the Upper house election is likely important for Kishida to extend his stay in office.

Japan
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 4977 4897 4929 5149 5156 4902 5350 5731
Real GDP growth, % 0.7 1.7 0.6 0.0 -4.7 2.1 3.1 1.4
Private consumption, % y/y -0.5 1.1 0.2 -0.2 -5.9 1.9 4.0 1.4
Exports, % y/y 1.6 6.6 3.8 -1.5 -11.8 9.8 6.9 4.5
Imports, % y/y -1.2 3.3 3.8 1.1 -7.3 6.7 6.8 3.7
CPI inflation, % y/y (average) -0.1 0.5 1.0 0.5 0.0 -0.2 0.5 0.8
Policy rate, % (year-end) -0.10 -0.10 -0.10 -0.10 -0.10 -0.10 -0.10 -0.10
10 year bond yield, % (year-end) 0.04 0.05 0.01 -0.02 0.04 0.20 0.20 0.25
USDJPY (year-end) 117.1 112.7 110.4 109.2 103.3 113.0 105.0 100.0
EURJPY (year-end) 123.1 134.7 126.5 122.0 126.3 133.0 131.0 130.0
Fiscal accounts
Revenue, % GDP 33.6 33.6 34.5 34.4 34.8 35.5 34.5 34.6
Expenditure, % GDP 37.5 36.9 37.0 37.3 43.0 43.5 41.3 39.7
Balance of payments
Trade balance, USD bn 47 44 12 -1 27 -19 -62 -61
Exports, USD bn 163 176 179 169 162 170 202 216
Imports, USD bn 148 165 182 167 144 197 222 238
as % of GDP 3.8 4.1 3.5 3.4 3.1 2.6 2.0 2.2

George Tharenou
Economist
george.tharenou@ubs.com
+61-2-9324 3520
Nic Guesnon
Economist
nic.guesnon@ubs.com
+61-2-9324 2192
Robin Clements
Economist
robin.clements@ubs.com
+64-3-359 0602
Australia & New Zealand

Pivotal Questions Q: Has the market pricing of rate hikes for the RBA & the RBNZ gone too far?
Yes. In our view, market pricing has gone too far on the hawkish side. While the outlook is shifting
rapidly, current pricing for an entire 'cycle' of cash rate hikes by the RBA towards ~1½% by around
the end of 2023, and for the RBNZ towards ~3%, is too aggressive.
UBS VIEW
Outlook for Australia & NZ GDP & RBA/RBNZ driven by re-opening post lockdowns
The key driver of the Australian economy remains the recovery from COVID-related lockdowns, &
how quickly policy stimulus is spent. We expect GDP to rebound 3.8% y/y in 2021, & see 3.4% &
2.6% growth in 2022 & 2023 respectively, slightly below consensus (3.6% in 2022 & 3.0% in 2023).
But, we are significantly above consensus on CPI in the near-term, albeit expect border opening to
limit upward pressure over the next year. For NZ, we forecast 4.5% GDP for 2021 (mkt: 5.3%) and
5.5% in 2022 (mkt: 3.5%) on some rebound being captured next year & the boost from borders re-
opening. Growth in 2023 should slow sharply to 2.3% (mkt: 2.8%) reflecting slower global growth &
the impact of tighter lending & higher rates on housing & spending. We expect the RBNZ to hike
25bps at each Monetary Policy Statement, reaching 2.0% by early 2023.
EVIDENCE
RBA already optimistic on GDP, but waiting for wages to hike; RBNZ signal measured hikes
For Australia, the labour market remains resilient to lockdowns & forward looking indicators are
positive, especially job ads. The RBA outlook shifted recently, initially amid more hawkish global
central banks, but especially after Q3 CPI. But, the RBA were already bullish on growth, & still likely
require wages to lift materially to hike. For NZ, with employment expected to remain around its
maximum sustainable level, & inflation above the target mid-point, ongoing above-potential growth,
intensifying capacity & inflation pressures point to a need for further removal of stimulus.
WHAT´S PRICED IN? A strong growth rebound and persistently higher inflation is increasingly expected, given that a very
hawkish rate hike cycle is already priced in by the market for both the RBA & the RBNZ.
RISK The key downside risk remains COVID cases spike, leading to lockdowns that weaken growth &
inflation, slowing policy normalisation. On the upside, the recent lift in CPI may translate into higher
wages amid supply-side disruptions & savings-boosted household consumption boom.
Source : Bloomberg, RBA, RBNZ, UBS

Australian Outlook 22/23: end of lockdown & excess saving

drive rebound; but market pricing of RBA is aggressive
GDP rebounds as lockdown ends, but moderates as fiscal fades & borders open
CPI high near term, but dovish RBA still waiting for wages
The key driver of the Australian economy remains the recovery from COVID-related
lockdowns, and how quickly policy stimulus is spent. Initially, Australia outperformed
most major economies up to mid-2020, reflecting much larger policy stimulus; and
severe lockdowns that 'eliminated' COVID, allowing the economy to open quickly. Real
GDP boomed in Q2-21 by 9.6% y/y, to be well above its pre-COVID level, among the
best of major economies (excluding China), & the labour market tightened considerably.
However, Delta saw prolonged lockdowns in over half the country from ~June to
~October, which will likely see GDP contract in Q3-21 by >3% q/q. However, fiscal
support that became at least at large as the hit to activity should see Q4 GDP rebound by
a similar amount. Positively, after a late start to the vaccine rollout, vaccine rates of the
population surged now to >75% first dose and >65% second dose (fully vaccinated).
Hence, Governments now shifted to 'end' lockdowns, and almost all restrictions (except
for foreign arrivals/migration) will be removed by end-year.
The labour market also remains remarkably resilient to lockdowns & the associated drop
in activity. While employment retraced significantly in recent months, it is still near the
pre-COVID level, & there are already signs of recovery, with record job ads. Furthermore,
the unemployment rate remains near a post-GFC low at 4.6%, and is expected to
decline further over the next year or so towards NAIRU, estimated at ~4%.
Overall, we expect real GDP to rebound 3.8% y/y in 2021, & remain relatively strong at
3.4% in 2022, before easing to 2.6% in 2023. Our outlook is a bit below consensus (for
3.6% in 2022 and 3.0% in 2023), albeit the RBA is far more bullish.
For consumption, we expect a sharp rundown in the household savings ratio to

underpin a strong rebound of spending; with the build-up of excess savings – across
households & businesses – relative to the pre-COVID trend surging to >$300bn or ~14%
of GDP. Dwelling investment will keep rising in the near-term, given the record level of
commencements, amid still strong house price growth (albeit recent macro-prudential
tightening should moderate the pace of price growth over the next year). Business
investment is seen only moderately improving, but could be an upside risk if global
growth remains strong and business confidence recovers. Public demand should remain
strong, with significant additional fiscal stimulus likely in the lead-up to the Federal
election (due by May-2022). Net exports are expected to drag, but exports could be
supported next year if tourism is allowed to resume quarantine-free, and/or trade
relations with China start to improve; while imports should lift sharply given (most)
Australians can travel overseas from November.
For inflation, we've been above consensus. But the lift in trimmed mean in Q3-21 to
2.1% y/y – the highest since 2015 – was earlier than we expected, & far ahead of the
RBA's forecast which previously did not expect a return to their target band until ~mid-
2023. While headline already moderated sharply from a peak of 3.8% y/y in Q2-21 to
3.0% in Q3, we expect inflation to remain elevated at 2.9% y/y in 2022 (vs consensus of
only 2.1%), albeit before slowing significantly to 2.3% in 2023 (vs consensus of 2.2%),
as borders re-open and ease pressure.
The RBA has been remarkably dovish, but the outlook has shifted recently, initially amid
more hawkish global central banks, but especially after the Q3 CPI data. However, the
RBA still require 'sustainable' outcomes of higher inflation, including a material lift in
wages, to hike. UBS still expect QE tapering to be faster than consensus, with the current
$4bn/week pace of purchases to be halved in Feb-22, and stopped in May-22 – seeing
QE3 of ~$100bn. We see risk of an earlier hard-stop in February. We still look for slow
hikes in the cash rate to 0.5% in 1H-23, albeit with risk of an earlier move. Overall, we
think market pricing for RBA rate hikes is too aggressive, given an entire 'cycle' of ~1½%
priced by end-23.

Figure 503: Lockdown will likely see Q3 GDP contract >3% Figure 504: Initially, Australia outperformed most major
q/q, but fiscal support see a similar rebound in Q4, with economies, but renewed lockdowns (which just ended)
2022 relatively strong at 3.4% delayed the recovery
Source : ABS, UBS, Macrobond Source : ABS, UBS, Macrobond
Figure 505: Labour market tightened sharply, with Figure 506: Booming home loans & prices growth should
unemployment much lower than expected near a post-GFC moderate given recent macro-prudential tightening, but
low, & expected to decline further remain positive
Source : ABS, UBS, Macrobond Source : ABS, Corelogic, UBS
Figure 507: CPI moderated sharply from 3.8% y/y in Q2 to Figure 508: We expect wages to lift, but see Trimmed Mean
3.0% in Q3; we see it elevated at 2.9% in 2022 (mkt 2.1%), CPI picking up earlier, given domestic and global supply-
but slowing to 2.3% in 2023 side constraints
4.9 6
% y/y % y/y
Wage Price Index (LHS)* Trimmed Mean CPI (RHS)
4.3 5
3.7 4
3.1 3
2.5 2
1.9 1
* Excluding bonuses; UBS Forecasts

1.3 0
98 00 02 04 06 08 10 12 14 16 18 20 22
Source : ABS, UBS, Macrobond Source : ABS, UBS, Macrobond

Figure 509: Household savings ratio seen retracing sharply Figure 510: Amid 'left-over' fiscal stimulus, the build-up of
to ~pre-COVID level, underpinning strong consumption 'excess deposits' is massive at ~14% of GDP
Source : ABS, UBS, Macrobond Source : ABS, RBA, UBS, Macrobond
Figure 511: Closed borders saw a loss of tourist holders of Figure 512: Closed borders saw migration turn negative &
~750k since COVID population growth drop to ~zero, but should lift ahead
Source : Department of Home Affairs, UBS, Macrobond Source : ABS, Australian Government Papers, UBS
Figure 513: Total fiscal stimulus was enormous initially Figure 514: RBA was late among global central banks to
during COVID, & is still significant now, albeit fading use QE, but is relatively aggressive recently
Source : ABS, Australian Government Papers, UBS Source : Global Central Banks, Bloomberg, Macrobond, UBS

Australia
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 1266 1390 1415 1394 1365 1620 1777 1879
Real GDP growth, % 2.7 2.4 2.8 1.9 -2.4 3.8 3.4 2.6
Gross Fixed Capital formation, % y/y -2.5 3.6 2.2 -2.4 -3.0 8.8 5.0 3.0
Exports, % y/y 6.9 3.4 5.1 3.4 -10.1 -2.7 3.2 7.5
Imports, % y/y 0.1 7.9 4.0 -0.9 -13.4 7.4 6.8 9.8
Broad money M2, % y/y (year-end) - - - - - - - -
AUD/USD (year-end) 0.72 0.78 0.70 0.70 0.77 0.75 0.78 0.80
Fiscal accounts
Revenue, % GDP 23.3 23.7 24.5 24.3 24.0 23.5 22.7 23.1
Expenditure, % GDP 25.2 24.7 24.5 26.1 35.9 29.7 27.3 27.6
Primary balance, % GDP -1.4 -0.5 0.5 -1.5 -4.3 -5.0 -4.1 -3.3
Balance of payments
Trade balance, USD bn -11 7 17 49 51 88 71 49
Exports, USD bn 250 298 327 345 301 379 407 430
Imports, USD bn 261 291 310 296 250 291 336 380
Current account balance, USD bn -41 -36 -30 10 36 63 42 17
as % of GDP -3.3 -2.6 -2.1 0.7 2.7 3.9 2.3 0.9

New Zealand outlook 2022-2023 - after border reopening

boost, policy tightening likely to leave weaker momentum
90% vax target likely reached by end-21, allowing gradual border opening in 2022.
Boost to growth expected to underpin persistent capacity and inflation pressures.
RBNZ anticipated to steadily hike OCR 25bps per MPS, reaching 2.0% by early-23.
The NZ Government's 'go early, go hard' COVID elimination strategy over the last 18
months, aside from brief severe restrictions, saw a lower level of mobility restrictions
than most countries. Moreover, the strategy resulted in few cases and deaths. But, Delta
caused the Government to pivot away from elimination to suppression, announcing a
move away from using lockdowns to a 'COVID-19 Protection Framework'. The new
framework involves a 'traffic light' system, utilising vaccine certificates, effective when
District Health Boards reach 90% of the eligible (over 12 years) population fully
vaccinated, which is expected by year-end.
While the implications for the external borders are yet to become clear, the Government
has previously indicated its intention to gradually reopen the borders from early 2022.
Our assumption is that this will produce a lift in both inbound tourism and migrants, but
this will be limited by demand and the logistics of expanding aircraft/seat availability.
Nonetheless, both will provide a boost to growth over 2022. Elsewhere externally, the
terms of trade are at an all-time high, and expected to remain elevated, while the
exchange rate is strong, but not out of line with fundamentals.
The immediate growth outlook is complicated by the current Delta lockdown, which is
expected to see GDP fall 7% q/q in Q3 before rebounding 7% in Q4, with further
recovery spilling over into early next year. The impact of the latest lockdown is muted
compared to last year on account of much reduced uncertainty and resilient business &
consumer confidence. After a GDP contraction of 2.1% y/y in 2020, we forecast 4.5%
growth for 2021 (consensus 5.3%), accelerating to 5.5% for 2022 (consensus 3.5%) on
the back of some of the rebound being captured next year and the boost from borders
re-opening. Growth in 2023E slows sharply to 2.3% (consensus 2.8%) reflecting slower
global growth and the cumulative impact of tightened lending restrictions & higher
mortgage rates on housing and spending.
The Government's COVID economic response (& the wage subsidy in particular), were
instrumental in keeping workers engaged with employers and limiting the fallout for the
labour market. After peaking at just over 5% last year, unemployment fell to 3.4% in
Q3. Consistent with labour shortages reported in some sectors (notably construction),
wage inflation has accelerated. After lifting in Q4 due to the prolonged lockdown,
above-potential growth is expected to see unemployment fall to a low of 3.3% by early
2023, with wage inflation reaching 3%. Weaker growth in 2023 is expected to see
unemployment drift higher and wage pressures ease.
The NZ COVID pandemic economic experience has seen a series of (major) surprises: for
GDP (upside), unemployment (downside) and inflation (upside). Driven largely by
housing (escalating cost of new housing due to labour/material shortages) and transport
(fuel), headline CPI inflation spiked to 4.9% y/y in Q3, with the RBNZ's preferred sectoral
factor model estimate reaching 2.7% – the highest since 2009. Inflation is predicted to
peak at over 5% in the next couple of quarters before much of the transitory component
(fuel, supply-chain disruption price effects) drops out and then tighter macro-prudential
settings, and higher interest rates, serve to cool underlying inflation. Core and headline
inflation are expected to converge near the 2% target mid-point by end-2023.
Taper talk is not an issue for NZ. The RBNZ announced on 14 July that further asset
purchases under the Large Scale Asset Purchase Programme (LSAP) were no longer
needed for monetary policy purposes and would halt by 23 July. Having put on hold an
intention to hike the OCR in August (due to the lockdown), the RBNZ further reduced
monetary stimulus in October with a 25bp hike of the Official Cash Rate (OCR) to
0.50%. With employment expected to remain around its maximum sustainable level,
and inflation above the target mid-point, ongoing above-potential growth, intensifying
capacity & inflation pressures point to a need for further removal of monetary stimulus.
We expect the RBNZ to hike the OCR 25bps at each Monetary Policy Statement (MPS),
reaching 2.0% by early 2023 i.e. what might be considered to be around neutral.

Figure 515: NZ started vaccinating later than many Figure 516: Vaccine first dose is ~90% of over 12-year
countries due to the prior elimination strategy, and few eligible population, while fully dosed passed 75%;
cases, but delivering at a high pace internationally recently Government aiming for 90% fully vaccinated by year-end
Source : Macrobond, Our World in Data, UBS Source : Macrobond, Ministry of Health, UBS
Figure 517: Terms of trade at all-time high (dairy farmers Figure 518: Border closure shut tourism sector that made
on track for record payout); expected to remain elevated ~6% contribution to GDP; gradual border re-opening over
as global re-opening supports commodity export prices 2022 expected to see some contribution regained
Source : Macrobond, Statistics NZ, ANZ, UBS Source : Macrobond, Statistics NZ, UBS
Figure 519: Population growth was in excess of 2% y/y due Figure 520: Unlike lockdown early 2020, latest Delta
to strong inward migration; gradual border re-opening lockdown has not dented business sentiment; border
over 2022 expected to see steady recovery reopening to bolster employment & investment intentions
Source : Macrobond, Statistics NZ, UBS Source : Macrobond, ANZ, UBS

Figure 521: Consumer confidence was relatively resilient, Figure 522: House price inflation (~30% y/y) is expected to
although there has been a sharp fall in people who believe moderate over the next 3-6 months due to tighter lending
now is a good time to buy a major item restrictions, tax changes and rising mortgage rates
Source : Macrobond, ANZ, UBS Source : Macrobond, REINZ, UBS
Figure 523: Unemployment fell to equal record low in Q3 Figure 524: Reflecting a tight labour market and labour
on the back of strong employment. After a lift in Q4, shortages in some sectors (notably construction), wages
unemployment is forecast to fall to 3.3% by early 2023 pressures have accelerated, with upside risk near-term
Source : Macrobond, Statistics NZ, UBS Source : Macrobond, Statistics NZ, UBS
Figure 525: Headline CPI inflation spiked to its highest Figure 526: Medium & long-term inflation expectation
since 2011 and is yet to peak. Measures of underlying remain anchored at 2% but the RBNZ will be concerned
inflation have surpassed the RBNZ's 2% target mid-point about the risk of spillover into wage & price setting
Source : Macrobond, Statistics NZ, RBNZ, UBS Source : Macrobond, RBNZ, UBS

New Zealand
2016 2017 2018 2019 2020 2021E 2022E 2023E

GDP, USD bn 186 204 210 210 209 251 286 303
Real GDP growth, % 3.9 3.5 3.4 2.4 -2.1 4.5 5.5 2.3
Exports, % y/y 2.6 2.7 3.2 2.4 -12.8 -7.6 9.6 7.8
Imports, % y/y 3.8 7.3 6.4 2.1 -15.9 8.7 3.8 6.7
Industrial Production (%) na na na na na na na na
NZD/USD (year-end) 0.70 0.70 0.68 0.67 0.72 0.72 0.73 0.75
Fiscal accounts
General government budget balance, % GDP -2.1 4.5 2.8 0.1 -9.5 4.8 -2.0 -0.2
Revenue, % GDP 29.4 29.6 29.3 30.1 29.0 30.9 27.5 28.3
Expenditure, % GDP 28.6 27.7 27.2 28.0 34.3 31.7 29.3 28.8
of which domestic public debt, % GDP na na na na na na na na
of which external public debt,% GDP na na na na na na na na
Balance of payments
Trade balance, USD bn -2 -2 -3 -3 2 -4 -3 -3
Exports, USD bn 34 37 40 39 39 44 49 52
Imports, USD bn 36 38 43 42 37 48 52 56
as % of GDP -2.1 -2.8 -4.0 -2.9 -0.8 -4.8 -3.5 -3.5
Foreign exchange reserves excl gold, USD bn na na na na na na na na
Total external debt, % GDP -53.9 -51.7 -50.9 -48.0 -48.3 -46.0 -48.0 -50.0

Political calendar
Economy Date Political Event/Election Outlook Macro Implications
Nov-21
NSW & VIC reopen international Likely a near-term negative for domestic consumption given pre-
Australia 01-Nov-21 borders for vaccinated Australians Covid there was a net outbound tourism leakage offshore and
& their immediate family. international students are not yet scheduled to return.
NSW, VIC and ACT interstate Reopening of interstate borders would be positive for domestic
Australia 01-Nov-21
borders to reopen. consumption and the labour market.
6th Plenary Session of the 19th The 6th plenum will focus on Party history and achievements in
China Nov 8 - Nov 11
CPC Congress the past 100 years.
The new executive and legislative branches will have to coexist
with the Constitutional Convention in charge of redrafting the
constitution in 2022. If the left-wing candidate wins the
presidential race, we expect greater interaction between these
two powers and a bigger push towards drastic changes in the
Presidential and Congress Current polls show that left-wing candidate Gabriel Boric and Chilean economic model (a permanent rise in social spending,
Chile Nov 21 elections (Second round pres. right-wing candidate Jose Antonio Kast would pass to the an overhaul of the pension system, a greater role for the public
Elections: Dec-19) second round presidential elections. sector in the health and education sectors, etc). Conversely, a
victory from the right may be seen as a sign of relief for
markets. However, given the composition of the Constitutional
Convention, such a situation may create a confrontation
between the two powers for delivering demands related to the
2019 social protests.
Will lift Indonesia's profile internationally. Possible distraction
Indonesia Assumes Presidency of G20
from domestic reform agenda.
US late Nov Budget packages $2 trillion in spending over 10 years Our baseline forecast.
The PASO primaries were a setback for the governing Peronist

One half of the Lower House and
coalition, Frente de Todos. At a national level, FdT obtained A Peronist defeat in the midterm elections would start to
one third of the Senate (from
33% of the intended vote, trailing the main opposition consolidate a more pro-market majority in Congress. A
eight different provinces) is up for
coalition, Juntos por el Cambio, by close to 10 percentage potential split between President Fernandez and VP Kirchner in
Argentina Nov-21 renewal. Half of provincial
points. If these primary results are confirmed on Nov 14, FdT the event of a Peronist loss could complicate things significantly
Congresses will also be elected,
would lose its quorum or simple majority in the Senate and politically, including with respect to negotiations with the IMF
including those of the Province of
would no longer be the single largest minority party in the for a new program.
Buenos Aires and the City of BA.
Lower House.
Nov elections are the first in which the opposition will
participate since 2018. However, it will be difficult for them to
obtain favourable results, as i/ there is a loss of momentum in
In our view, prospects for significant political change (towards
Venezuela Nov-21 Regional elections popular support for the opposition, at a local and international
celebration of free elections) are limited in the near term.
level; ii/ previous calls for election absenteeism may affect voter
turnout; iii/ and because of the lack of an opposition coalition
for candidacies at a regional level.
The Expo, which was initially scheduled for 20 October 2020 - According to a pre-COVID 2019 EY report commissioned by
10 April 2021, was postponed to 1 October 2021 - 31 March Dubai, investment into infrastructure and other assets for Expo
2022 due to the COVID-19 pandemic. Organisers originally 2020 was expected to reach Dh40bn ($10.9bn) during 2013-
01 October
United Arab targeted 25mn visits, which would have made it the largest 20. The event itself is likely to boost growth in late 2021 - early
2021 - 31 Expo 2020 in Dubai
Emirates event ever held in the GCC region. Nearly 1.5mn visits were 2022, benefiting tourism, property and trade. The longer-term
March 2022
recorded in the first 24 days of Expo. The authorities aim to benefits will depend on how much of the facilities will be re-
showcase Dubai's tourism, trade and transport infrastructure used and the size of the boost to tourism and inward
and attract technology and creative companies. investment.

Dec-21
Politburo meeting will review economic work on a quarterly
China Early December Politburo meeting
basis, and set policy for 2022.
Budget deadline and nearing debt The size and composition of the fiscal package will be more
US 03-Dec-21 Will be extended assuming fiscal package is passed by then.
limit deadline important.
BoC's Rogers becomes Senior
Canada 15-Dec-21
Deputy Governor.
Half Year Economic & Fiscal
New Zealand 15-Dec-21 Update (HYEFU) and Budget
Policy Statement (BPS)
Central Economic Work Central Economic Conference will set the policy stance for We expect fiscal policies to ease modestly, and PBC to continue
China Mid December
Conference 2022. to offer ample liquidity.
The 2021 referendum will be held over four questions: 1. The

construction of a receiving terminal for natural gas energy
production on Taoyuan’s Datan Algal Reef. 2. To lift restrictions
on pork imports from the US. 3. The activation of the There will be sectoral impacts regarding more energy supply,
Taiwan 18-Dec-21 2021 Referendum
Lungmen Nuclear Power Plant. 4. The future referendum natural gas and nuclear energy supply.
dates, and whether referenda should be held alongside general
elections if a referendum proposal is confirmed less than six
months before a general election.
This will mark the first legislative election after the 2019 social
Successful formation and smooth functioning of the legislative
events, the COVID outbreak and the implementation of the
Hong Kong 19-Dec-21 Legislative Election council will likely help to support the economic policy
National Security Law. This is also a delayed election as
formulation and implementation.
originally it was scheduled on 6th Sep 2020.
Until final approval, we expect a heated debate over the
This is the deadline for 2022 federal budget approval. Later
spending cap rule vs. social stipends, congressional
Brazil 22-Dec-21 Congress ends its 2021 activities. ratification is unlikely, given electoral law restrictions the
appropriations and Precatórios (court order decisions against
following year.
the federal government).
Source : UBS

Dec-21
This will be the fourth out of five members that AMLO will have
End of Alejandro Diaz de Leon's Ex-Minister of Finance Herrera has already been confirmed for elected to the board in a brief two-year window, and the
Mexico 31-Dec-21
term as governor of Banxico. this role. governorship sets the tone and direction of the institution as a
whole.
Expected month for Mid-year

Upside risk of additional fiscal stimulus announced ahead of the Important for the economic outlook. This may have implications
Australia Dec-21 Economic and Fiscal Outlook
Federal election. for AOFM issuance, RBA QE and financial markets.
(MYEFO) to be published.
US 31-Dec-21 PAYGO deadline Budget sequester will be avoided. Avoids an income shock.
The Budget Office has proposed the full year budget for 2022 The budget deficit is set to narrow according to the proposal.
on 31st Aug, initiating a further increase of expenditure by However, the government tends to initiate supplementary
National Assembly to review and 8.3%y/y and a budget deficit of 2.6% vs. the original 2021 budgets through the year if weakness in the economy is
Korea Likely Dec-2021
approve Korea Budget deficit of 3.7% and post-supplementary budget deficit of observed. The longer term fiscal situation and external financial
4.4%. We expect this budget proposal to be approved by the conditions are currently not imposing significant constraints to
government. further budget expansion if necessary.

Jan-22
From Q2-22 to early Q4-22, we may see reduced legislative
activity, given the general elections in early October. Brazil will
Brazil 31-Jan-22 Congress resumes its activities. Electoral season is likely to impair congressional activities. hold elections for State and Federal Congress, local Governors
and President. We do not expect major macro reforms or
progress in the privatization agenda.
The term of Fed vice-chair Clarida Likely to be replaced by someone putting more weight on the
US 31-Jan-22 Reappointment is unlikely.
ends. employment mandate.
US 31-Jan-22 Student loan deferral ends Close call on rolling off or extending. Modest impact to disposable income.
The mandate of current President Mattarella will end on 2

February and a successor will have to be elected in the weeks
If Prime Minister Draghi were to be elected for this post, this
before. The Constitution requires that the President of the
would raise questions about whether the current technocratic
Italy during January Presidential election Chamber of Deputies shall summon a joint session of
government could continue, and the prospect of snap elections
Parliament and the regional delegates to elect a new President
would increase.
at the latest thirty days ahead of the end of the President's
term, i.e.. on 4 January.

Feb-22
The spending mix between consumption and capex will be key
Central government 2022-23 We expect the government to continue its path of fiscal to watch out for. We expect the government to remain
India 1 February 2022
budget consolidation in FY23. committed to boosting public capex/infrastructure spending to
help create jobs and boost demand in the economy.
Covid restrictions will likely be tightened around the Winter

China Feb 4 - Feb 20 Winter Olympics
Olympics.
Fed Chair Powell's term as

US 05-Feb-22 Renomination is in question. If replaced by Brainard, would leave another open seat.
Chairman ends.
Germany 13-Feb-22 Presidential election President Steinmeier is running for another term. Limited, as President plays a largely ceremonial role.
Earliest date likely for Federal The Federal election outcome is important for the outlook on
Australia 26-Feb-22 election, latest date possible is 21 the economy given differing policies on housing and fiscal
May 2022. stimulus.
China is unlikely to meet the purchase target set by the trade

Annual review of US-China Phase
China Feb 2022 deal. The two sides may engage in more talks in 2022, but any
One trade deal
new deal is unlikely to be reached in the near term.
The focus of the budget may shift away from pandemic-related

support measures to long-term revenue reforms in the
Singapore Feb 2022 Government Budget 2022/23 Fiscal year is Apr-Mar.
economy, introducing changes in Singapore's taxes (i.e. GST)
and transfers system in particular.
UP assembly election is crucial as the state represents 80 seats

We think if BJP is able to retain a majority in UP, markets should
(15%) in general (national) elections. BJP, Prime Minister Modi’s
take the outcome positively as a sign of support for Modi’s
party, is in power in this state too, and seeking re-election. This
reform agenda. However any setback for BJP from the UP
State election of Uttar Pradesh time the elections will help to understand the on-ground
India Feb/Mar 2022 election might increase their concerns for general elections in
(UP) impact of handling covid 2nd wave, recently proposed farm bills
2024 and their focus could shift to gain back lost ground
and high fuel prices. While some of these issues may have hit
through populist measures and there could be some
BJP’s popularity, the party continues to face a rather weak &
moderation in the reform agenda as well.
divided opposition.
Fed Semi-annual Monetary Policy

US mid-late Feb
Report to Congress
Source : UBS

Mar-22
We expect a lower GDP growth target (or a range), with more
focus on the quality of growth. The headline fiscal deficit may
The Chinese government will set the main economic targets for
set at ~3.1% of GDP, with a largely stable quota for special local
Early March 2022 at the NPC, including GDP growth, fiscal deficit, CPI, etc.
China National People's Congress government bonds (UBSe: RMB 3.65trn). PBC may keep liquidity
2022 The NPC will also set the policy tone for monetary and fiscal
ample without rate cuts. We also expect more progress on
policy, and long-term plans for structural reforms.
opening up, SOE and market reform, as well as energy related
policies (for example, more details on carbon neutrality).
The incumbent Democratic Party came to office in 2017, and
won the 2018 local elections as well as the 2020 National Currently, the incumbent party holds a majority (180/300) in the
Assembly election amidst the COVID outbreak, helped by the National Assembly, which helps to facilitate policy formulation.
strong initial response to the outbreak. On the other hand, In addition, the next election of the National Assembly is not due
Korea 09-Mar-22 Presidential Election housing related matters have been reported as a key weakness. until April 2024. Therefore, if there is a party change in the
The incumbent party also suffered a setback in the local by- Presidential election, the current National Assembly may not
elections held in 2021. Recovery from the pandemic, housing shift significantly in the near term which would support
related policies and Korea’s long term economic growth are macroeconomic policy continuity.
likely the key topics in the election.
In a polarized political environment, the composition of the

Colombia 13-Mar-22 Congressional elections Congress/Senate can be key to preserve the soundness of
economic policies.
With >30 pre-candidates for presidential elections, the popular
consultation will allow votes from different political parties to
congregate in a reduced number of coalitions. Political blocks
Popular consultation for
and alliances after the consultation will shed more light on the
Colombia 13-Mar-22 presidential candidates (primary
main trends ahead of the presidential elections. We expect
elections)
political parties at the centre and centre left to position a
presidential candidate, together with the right and left wing
options.
Australia 19-Mar-22 SA state election
The broad macroeconomic policy framework shall maintain its

This will mark the first Chief Executive Election after the 2019 continuity despite the election schedule. The Greater Bay Area
social events, the COVID outbreak and the implementation of and better integration with the mainland economy as well as
Hong Kong 27-Mar-22 Chief Executive Election the National Security Law. The election committee of 1500 Hong Kong’s growth and international roles under the 14th Five
members has been formed. The candidate nomination process Year plan will remain as the key growth themes for Hong Kong
will likely commence on 15th Feb and conclude 2nd Mar. in the coming years, while public housing supply remains at the
top of the to-do list.
Additional fiscal spending while the economy is close to full
Sometime We expect that the government of Prime Minister Trudeau will
Canada Presentation of federal budget employment might lead to a more hawkish stance by the Bank
during March aim to add new spending of at most C$70bn.
of Canada.
The results are likely to be non-binding, as at least 40% of the
There is no set date for this and it may ultimately not happen, electorate would need to participate, a high bar for this type of
Mexico Mar-22 Presidential recall referendum but holding a recall referendum past the midpoint of AMLO’s consultation. Given AMLO’s high popularity, he is likely to be
term of office was a key campaign pledge by the President. ratified, giving him and his party Morena additional momentum
ahead of key gubernatorial elections.
The current BoK governor Lee Ju-yeol took office in April 2014,
his governorship was subsequently renewed to March 2022.
Post the presidential election, the new president will need to We expect continuity of the monetary policy framework despite
The reshuffle of Bank of Korea’s
Korea Likely Mar 2022 appoint a new candidate for the governorship and the National the scheduled reshuffle of the monetary policy committee
monetary policy committee
Assembly will need to approve the nomination before the new members.
governor takes office (likely in April 2022). Governor Lee will be
the only BoK governor to have completed two terms post-1980.

Apr-22
The hard deadline for President Bolsonaro to choose a party to
Deadline for party affiliation for Further information about candidates in bigger states and for run for re-election. We expect him to affiliate before that. By
Brazil 02-Apr-22
the 2022 elections. President. early April, the candidates for the main positions to run for state
Governor and President will become clearer.
President Macron is currently leading in the polls but challenged The outcome of the election has implications for European
France 10-Apr-22 Presidential election - first round mainly by candidates from the right, including Marine Le Pen, policymaking, but also the prospect for structural reforms in
and Éric Zemmour on the far right. France.
These are going to be issues for discussion among Presidential
Last date for the Executive to send
Like in 2021, Congress will continue to discuss how to deal with candidates: How the country will cope with budget restrictions,
assumptions for the 2023 budget
Brazil 15-Apr-22 the budget law constraints and pressure for more social and corporate demands amid increasing
proposal for Congress' review
disbursements. disbursements/GDP, rising public debt/GDP, higher real policy
(PLDO 2023).
rates and decelerating growth.
President Macron is currently leading in the polls but challenged Outcome of the election has implications for European
Presidential election - second
France 24-Apr-22 mainly by candidates from the right, including Marine Le Pen, policymaking, but also the prospect of structural reforms in
round
and Éric Zemmour on the far right. France.
The Politburo meeting will review economic work on a quarterly

China Late April Politburo meeting
basis, and set the policy tone for the coming quarter.
Opinion polls indicate that governing Fidesz-KDNP remains the

most popular party with 40-50% of support. However, polling
In 2021-22 the government has embarked on a notable fiscal
for United Opposition (consisting of: DK-Jobbik-MSZP-
stimulus before the election - unlike in the previous election
Momentum-Parbeszed-LMP) places them on par with incumbent
years, when fiscal policy was more neutral. However, the
Hungary By April 2022 Parliamentary election Fidesz-KDNP. A crucial question for the election is whether
challenging relationship with the European Union has resulted in
United Opposition would be able to successfully maintain its
a delay in the RRF National Plan approval and Hungary is one of
unity - given the different backgrounds - during the election
the countries under the Article 7 procedure in the EU.
campaign under the helm of the newly elected Prime Minister
candidate, Mr Marki-Zay.
ASEAN Summit Apr-May 2022 Regional leaders meet
Source : UBS

May-22
Australia 03-May-22 Federal Budget
New Zealand 03-May-22 Government Budget
Local council elections in London and local authorities elections Results should not have any significant impact on the balance
UK 05-May-22 Local elections
in Wales and Scotland. of power in Westminster.
First elections after a new government has likely been put in
Germany 08-May-22 State elections Schleswig-Holstein CDU prime minister is up for reelection.
place in December.
An election for successors to Philippine President Rodrigo
Duterte (who is limited to a single six-year term) and Vice
Presidential, Vice Presidential and
Philippines 09-May-22 President Leni Robredo. There will also be elections for Potentially far-reaching implications for the outlook.
Congressional Elections
Congress, and in the regional, provincial, city and municipal
levels.
State elections North-Rhine CDU prime minister is up for reelection (successor of Armin First elections after a new government has likely been put in
Germany 15-May-22
Westfalia Laschet). place in December.
Current polls show that Gustavo Petro (member of the Senate,
Several challenges ahead for the new government:
left wing politician and former presidential candidate in 2018
First round of presidential implementing a comprehensive tax reform no later than its first
elections) leads the presidential race. However, this could also
Colombia 29-May-22 elections (second round pres. year in office; and boosting production in the energy sector
reflect that other political coalitions have not announced their
Elections: Jun-19) without discarding the transition to other more sustainable
presidential candidates yet (to be defined in March popular
sources of growth, among others.
consultation).
Government Budget 2022/23
Thailand May-Jun 2022 Fiscal year is Oct-Sep. Investors will be looking for fiscal consolidation plans.
presented to parliament

Jun-22
Given that this election is only 3 months after the presidential
Korea 01-Jun-22 Local election To elect local governments across the nation. election, significant swings will likely impact the economic
policy formulation of the new president.
The election will give a sense of the strength of the Liberal
Canada 02-Jun-22 Ontario general election
party following the 2021 Parliamentary election.
Gubernatorial elections in
Aguascalientes, Hidalgo, Further opportunity for Morena to increase its regional
Mexico 05-Jun-22
Durango, Oaxaca, Quintana Roo, expanse.
and Tamaulipas
Prime Minister and President from the same party (as now)
allows for more wide-ranging policies to be implemented. In
Parliamentary elections - first Determines the Prime Minister who will govern under the new
France 12-Jun-22 the past, Prime Minister and President often came from
round President.
different parties (cohabitation) which limits the potential for
reforms.
Prime Minister and President from the same party (as now)
allows for more wide-ranging policies to be implemented. In
Parliamentary elections - second Determines the prime minister who will govern under the new
France 19-Jun-22 the past, Prime Minister and President often came from
round President.
different parties (cohabitation) which limits the potential for
reforms.
Together with the NBP President, the terms of 9 out of 10 MPC
The President of the NBP is appointed by the Sejm, at the
End of term of the NBP President members expire in 2022. A nearly complete renewal of the
Poland Jun-22 request of the President of the Republic of Poland, for a term
Adam Glapinski MPC makes the policy outlook beyond February 2022
of six years. The law allows for a second term for Mr Glapinski.
somewhat less predictable.
During her two terms at the helm of the CBR, Elvira Nabiullina
This will be the end of the second term for Mrs Nabiullina; the completed the switch to inflation targeting, a major clean-up
law allows her to be re-appointed for one more 5 year term. of the financial sector and is currently steering monetary policy
End of term of the CBR Governor
Russia Jun-22 The President has to submit the CBR Governor candidate to the through the second economic crisis on her watch; she is well
Elvira Nabiullina
State Duma for approval no later than 3 months prior to respected by investors. Whether she stays or is replaced by a
expiration of the term. person of a similar calibre will be important for the CBR's policy
credibility.

Jul-22
The CNB Governor is appointed by the President of the Czech
End of term of the CNB Governor Republic for six years. Governor Rusnok will complete his first 6-
Czech Republic 01-Jul-22
Jiří Rusnok year term. Bank Board members - including the CNB Governor -
are not allowed to hold the position more than twice.
As long as LDP/Komei coalition wins a majority, no significant
At this stage, it is difficult to imagine that opposition parties
Japan 01-Jul-22 Upper house election policy change looks likely. But, a hung Diet may prompt a
can gain a majority given low approval ratings in recent polls.
change of PM again.
Fed Semi-annual Monetary Policy
US mid-late July
Report to Congress
Congress enters its mid-year Mid-year recess starts if Congress votes on 2023 budget After mid-year recess, we expect the main political players to
Brazil 18-Jul-22
recess. assumptions for growth, inflation and other variables (PLDO). be focused on the general elections.
Congress resumes its H222 There is unlikely to be any important voting in the legislature
Brazil 31-Jul-22 Electoral season in full swing.
activities. during Q3.
Constitutional Convention The Constitutional Convention should present the final text of
Chile Jul-22
finishes its 12m term. the new Constitution.
The Politburo meeting will review economic work on a
China Late July Politburo meeting
quarterly basis, and set the policy tone for the coming quarter.
State of the Nation Address
Budget presentation follows within a month of SONA. Fiscal
Philippines Jul-Aug 2022 (SONA) + Government Budget Investors will be looking for the new administration's plans.
year is Jan-Dec.
2023/24
Source : UBS

Aug-22
Most polls suggest the main contenders for President are
The potential absence of defined future fiscal and monetary
Deadline for candidate enrolment incumbent President Bolsonaro and former President Lula. As
Brazil 15-Aug-22 policies and the overall government agenda may lead financial
for 2022 elections. of Q4-21, there are several candidates trying to offer an
conditions to tighten.
alternative "third way".
Last date for the Federal Executive
to send to Congress the 2023 Despite the proposal, budget voting may happen only in late
Brazil 31-Aug-22 We do not expect any advance in budget analysis until late Q4.
budget proposal for review Q4, given the electoral season.
(PLOA).
Budget usually presented shortly before National day (16 Aug).
Indonesia Aug 2022 Government Budget 2023/24 Investors will be looking for fiscal consolidation plans.
Fiscal year is Jan-Dec.
The newly appointed Prime Minister Ismail Sabri Yaakob has a
small majority in parliament. An MoU signed with the
Possible from The 15th Malaysian general An election result which results in a solid majority would be a
Malaysia opposition implies no election will be called before end-July
End-Jul 2022 election plus for political stability.
2022. However, elections have to be held on or before July
2023.

Sep-22
According to the law that created the Constitutional

Compulsory referendum to
Convention, a compulsory plebiscite to approve or reject the
Chile approve or reject the new
new Constitution should be held no later than 60 days after
Constitution
the final workday of the Convention.

Oct-22
US 01-Oct-22 Start of new FY Risk of shutdown pre-election Temp. disruptions to government spending
Most political experts and polls suggest a run-off between

A candidate must have 50% + 1 votes in the first ballot to former President Lula and incumbent President Bolsonaro. As
Brazil 02-Oct-22 First round of 2022 elections.
avoid a run-off. of Q4-21, President Lula is performing better in all published
public opinion surveys.
Since re-election of subnational authorities is banned under

The ruling party Peru Libre will likely try to gain representation the Peruvian constitution, the change of authorities typically
in regional governments as a way to push for its agenda which affects the execution of public investment. In addition, regional
Peru 02-Oct-22 Regional and municipal elections includes the call for a constitutional assembly, and state governments have considerable veto power over the
control of proceeds from natural resources exploitation, implementation of big infrastructure/mining projects, which is
among others. why it will be key to follow elections in regions where mining
companies operate.
What may matter for financial conditions and, ultimately,
Current polls (Q4-21) suggest a final run-off between growth and inflation will be what (and how quickly) the winner
Brazil Oct-22 Second round of 2022 elections.
incumbent Bolsonaro and former President Lula. will signal about future economic policies, cabinet positions,
etc.
China Late October Politburo meeting
quarterly basis, and set the policy tone for the coming quarter.
The 20th CPC National Congress will elect the next Party
20th National Congress of the
China Late October leader (General Secretary of the Communist Party) for the next
Communist Party
5 years (2023-2028).
Indonesia Oct-Nov 2022 2022 G20 Bali summit
Federal Government Budget Policy priorities may shift if there was any change in the
Malaysia Oct-Nov 2022 Fiscal year is Jan-Dec.
2023/24 government.
Continuity of current policies, with a focus on economic
Vietnam Oct-Nov 2022 Government Budget 2023/24 Fiscal year is Jan-Dec.
stability during the year.
Regional leaders meet. Indonesia takes over from Cambodia as
Regional ASEAN Oct-Nov 2022 ASEAN Summit
ASEAN Chair.

Nov-22
In the Senate 14 Democrats and 20 Republicans are up for
US 08-Nov-22 Midterm elections election, and in the House 222 Democrats and 213 Divided government is possible.
Republicans.
Regional ASEAN Nov 2022 APEC Summit Regional leaders meet
Australia Nov-22 VIC state election Expected in November but due in 2022.
The local election will determine the formation of the local

councils and local government senior officials (e.g. Mayors).
The local election is often perceived as a mid-term test of the
Significant swings in the local elections may motivate the
Likely to be Nov- Local council and government political parties given it is scheduled right in the middle
Taiwan incumbent party to shift its economic policy for the incoming
2022 official elections between the general elections. Kuomintang obtained a
general election.
significant victory in the 2018 local election but failed to covert
it into victory in the 2020 general election. The incumbent
Democratic Progress Party won the legislative in 2020.

Dec-22
China Early December Politburo meeting
quarterly basis, and set the policy tone for 2023.
Central Economic Work Central Economic Conference will set the policy stance for
China Mid December
Conference 2023.
This is going to be the last budget from the 2018-22
Brazil 22-Dec-22 Congress ends its 2022 activities. This is also the deadline for 2023 federal budget approval.
legislature.
New Zealand Dec-22 Update (HYEFU) and Budget
Policy Statement (BPS)
Source : UBS

2023
Chicago Fed Evans's term ends
US January He is one of the most dovish members in the FOMC.
(cannot be reappointed)
Kansas City Fed George's term
US January She is one of the most hawkish members of the FOMC.
ends (cannot be reappointed)
Due to the recently deteriorated health of President Milos
Not later than
Czech Republic Presidential election Zeman, there is uncertainty whether he would be able to fulfil
January 2023
his whole term.
Australia Mar-23 NSW election
On or before Signs that the political elite is preparing for an election in 2022
Thailand General Election
Mar 2023 or 2023 are increasingly clear.
At the moment, it is too early to predict who will be the next Market implications will depend on how different the new
Japan 08-Apr-23 BoJ governor, Kuroda ends term
governor. governor will be from Kuroda.
New Zealand 03-May-23 Government Budget
Parliamentary elections to be held five years after the previous Outcome could matter for the outlook for structural reforms,
no later than
Italy Parliamentary election election and no later than 70 days after this date. Current impact expectations about Italy's future fiscal path and
June 1, 2023
opinion polls point to a majority for the centre-right. influence European decision-making.
The PRI, Mexico's erstwhile hegemonic party, currently controls

Gubernatorial elections in
Mexico 04-Jun-23 Further opportunity for Morena to increase its regional support. these two states. Failure to retain them could have
Coahuila and the state of Mexico
repercussions for the future of the party.
Current polls put ruling's AKP popularity around 32-33% and

their coalition partner, MHP, ratings at 8-9%. Thus the ruling
coalition (People's Alliance) would garner 40-41% of support.
Election is likely to be very important for financial markets.
The key alliance of opposition parties, Nation's Alliance
Ruling AKP has been in government since 2002, and their
(consisting of CHP, IYI, SP) would have similar support of 40-
current popularity rating is not as high as it has been during
Turkey 18-Jun-23 General election 42%. The popularity of two opposition parties (DEVA+GP)
other points in the party’s history, or versus the opposition's
formed by former AKP cabinet members - Messrs Babacan and
current standing. Any important changes in economic policy-
Mr Davutoglu - is around 5-6%, while the popularity of
making after the election, would be in focus.
opposition People's Democratic Party (HDP) is around 10-11%.
Presidential polls are more difficult to interpret given the lack of
an announced opposition candidate.
Prime Minister from the CDU/CSU up for re-election with

State elections in Bavaria and potential implications for the next federal elections in 2025 Could influence the likelihood for a change in government in
Germany H2 2023
Hesse (Markus Söder is running in Bavaria and is a potential chancellor 2025 and perhaps a change towards more conservative policies.
candidate for 2025).
The newly appointed Prime Minister Ismail Sabri Yaakob has a

small majority in parliament. An MoU signed with the
On or before Jul The 15th Malaysian general An election result which results in a solid majority would be a
Malaysia opposition implies no election will be called before end-July
2023 election plus for political stability.
2022. However, elections have to be held on or before July
2023.
Greece has been successfully completing the reviews in the

EU's Enhanced surveillance framework under the helm of New
Based on the current polls, New Democracy party holding
Democracy. The framework focuses on key macro structural
majority in the parliament, has over 10pps lead over the main
Greece 06-Aug-23 Parliamentary election reforms (fiscal policy, financial stability, labour and product
opposition party, Syriza. However, the gap has been narrowing
markets, privatization, and modernization of public
since the beginning of pandemic.
administration). Greece has become a frontrunner in using the
EU's RFF funds.
Outcome could potentially impact/reactivate negotiations with

Switzerland 22-Oct-23 Federal election Both houses of the Federal Assembly up for election.
the EU about an institutional framework agreement.
Congressional and presidential

Argentina Oct-27
elections
Assuming that Ukraine's application to extend the current IMF
Following amendments to Electoral Code, parliamentary programme to June 2022 is approved, the proximity of elections
elections will follow proportional system with open regional might make it more difficult for the authorities and the Fund to
lists; previously, half of MPs were elected in single-member successfully negotiate and implement reforms that would
constituencies. Current opinion polls suggest that five parties underpin further IMF programmes beyond 2022. Ukraine is a
would have made it past 5% threshold if elections were held at parliamentary-presidential republic, so a good working
Ukraine 29-Oct-23 Parliamentary election
the end of October. The Servant of the People ruling party relationship between the President and the ruling party (or
continues to lead in the polls with 20-25% support, although coalition) is usually necessary for the government to function
its rating has declined significantly since 2019. Opposition effectively. The results of the parliamentary election will also
platform and European Solidarity parties are in close second shape the outlook for presidential elections due in 2024,
and third places with around 15% support. including whether the current President Volodymyr Zelensky
runs for the second term and his chances of success if he does.
New Zealand Oct/Nov-23 General Election
The ruling Law and Justice (PIS) party has an average lead of
PIS is a right-wing, Eurosceptic and socially conservative party,
c.12pp in the opinion polls over the main opposition party, Civic
supporting some state intervention in the economy. PIS is in
Platform (PO). As of October 2021, opinion polls suggest that
disagreement with the EC on a number of issues (judiciary,
PIS needs to increase its share of votes to secure a majority in
Poland 11-Nov-23 Parliamentary election migration, EU budget). The EC has delayed the approval of the
the Sejm, although the allocation of the seats can vary
EU Recovery Fund program for Poland. The application of the
significantly depending on how many parties or coalitions make
rule of law criteria could pose a challenge in the future
it into the Sejm. The elections follow a proportional system via
absorption of EU funds by Poland.
the D'hondt method.
Elections for the Congress of
Election could affect the fiscal stance, labour market policies,
Deputies (lower house) and most Current left-of-centre minority government (PSOE & Podedos)
Spain 01-Dec-23 and broader structural policies. December 2023 is the latest
of the seats in the Senate (upper will fight for re-election.
possible date, but the election could well take place earlier.
house).

New Zealand 25-Dec-23 Update (HYEFU) and Budget Policy
Statement (BPS).
Source : UBS

Global Economic Research Contacts
Global Economic Research Contacts

Name External Tel Email Title
Global Economics
Arend Kapteyn (London) +44 20 7567 0531 arend.kapteyn@ubs.com Global Head of Economics and Strategy Research
Pierre Lafourcade (New York) +1 212 713 4543 pierre.lafourcade@ubs.com Senior Economist
Alan Detmeister (New York) +1 212 713 1222 alan.detmeister@ubs.com Senior US Economist
Americas
US Economics
Jonathan Pingle (New York) +1 212 713 2225 jonathan.pingle@ubs.com Chief US Economist
Samuel Coffin (New York) +1 203 719 1252 samuel.coffin@ubs.com Senior US Economist
Andrew Dubinsky (New York) +1 212 713 4670 andrew.dubinsky@ubs.com Senior US Economist
Pablo Villanueva (New York) +1 212 713 4074 pablo.villanueva@ubs.com Senior US Economist
LatAm Economics
Rafael de la Fuente (New York) +1 203 719 7127 rafael.delafuente@ubs.com Chief LatAm Economist
Andrea Casaverde (New York) +1 203 719 2515 andrea.casaverde@ubs.com LatAm Economist
Brazil Economics
Alexandre de Ázara (Sao Paulo) +55 11 2767 6570 alexandre.azara@ubs.com Chief Brazil Economist
Fabio Ramos (Sao Paulo) +55 11 2767 6525 fabio.ramos@ubs.com Brazil Economist
Rodrigo Martins (Sao Paulo) +55 11 2767 6331 rodrigo.martins@ubs.com Brazil Economist
Asia Pacific
Australia & New Zealand Economics
George Tharenou (Sydney) +61 2 932 43520 george.tharenou@ubs.com Chief Australia Economist
Nic Guesnon (Sydney) +61 2 932 42192 nic.guesnon@ubs.com Australia Economist
Robin Clements (Auckland) +64 33 590 602 robin.clements@ubs.com New Zealand Economist
ASEAN and India Economics
Edward Teather (Singapore) +65 64 955 965 edward.teather@ubs.com Senior ASEAN Economist
Tanvee Gupta Jain (Mumbai) +91 22 6155 6070 tanvee.guptajain@ubs.com Chief India Economist
Asia Economics
Tao Wang (Hong Kong) +852 2971 7525 wang.tao@ubs.com Head of Asian Economic Research, Chief China Economist
Ning Zhang (Hong Kong) +852 2971 8135 ning.zhang@ubs.com Senior China Economist
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Kamil Amin (London) +44 20 7568 2225 kamil.amin@ubs.com Credit Strategist
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Rohan Khanna (London) +44 20 7568 0745 rohan.khanna@ubs.com European Rates Strategist
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Sean Simonds (New York) +1 212 713 2851 sean.simonds@ubs.com Global Equity Strategist
Stuart Kaiser (New York) +1 212 821 2069 stuart.kaiser@ubs.com Head of Global Equity Derivatives Research
Artour Danilov (London) +44 20 7567 5203 artour.danilov@ubs.com Strategist
Philip Finch (London) +44 20 7568 3456 philip.finch@ubs.com Head of EM Equity Strategy
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*UBS Evidence Lab is a sell-side team of experts, independent of UBS Research, that work
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billions of data items each month. Since 2014, UBS Research analysts have utilized the
expertise of UBS Evidence Lab for insight-ready datasets on companies, sectors and themes,
resulting in the production of thousands of differentiated UBS Research reports. UBS
Evidence Lab does not provide research, investment recommendations, or advice, but
provides insight-ready datasets for further analysis by UBS Research and by clients.

Valuation Method and Risk Statement
Risks of multi-asset investing include but are not limited to market risk, credit risk, interest rate
risk, and foreign exchange risk. Correlations of returns among different asset classes may
deviate from historical patterns. Geopolitical events and policy shocks pose risks that can
reduce asset returns. Valuations may be adversely affected during times of high market
volatility, thin liquidity, and economic dislocation.
All options recommendations are 'over-the-counter'. Losses on some options trades are
potentially unlimited unless hedged/neutralised.

Required Disclosures
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Regulatory Commission. UBS acts or may act as principal in the debt securities (or in related derivatives) that may be the subject of
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UBS Global Credit Strategy and Research: Rating Definitions

UBS ranks potential investment opportunities within non-government fixed income markets and sectors.
Issuer Ratings
UBS Rating Time
Definition Coverage 2 IB Services 3
Terminology Category 1 Horizon
Positive Buy <1% <1%
Up to 6 UBS' expected trend in a
Credit Outlook Stable Hold <1% <1%
months company's creditworthiness
Negative Sell <1% <1%
UBS
Time Horizon Definition
Terminology
AAA, AA, A (+/-)
UBS' assessment of a company's creditworthiness. Credit
Credit Rating BBB, BB, B (+/-) Up to 12 months
Ratings are only used in the evaluation of Swiss corporates.
CCC, CC, C (+/-)
Security Recommendations
UBS
Terminology
Outperform
Bond A corporate bond's expected relative performance versus a
Marketperform Up to 3 months
Recommendation defined reference
Underperform
UBS
Terminology
CDS Buy Protection

Up to 3 months Recommendation to hedge a company's creditworthiness
Recommendation Sell Protection

Note: Bond recommendations may be defined as 'Tactical', as in Tactical Outperform or Tactical Underperform, where there is a
near term catalyst(s) taken into account.
The UBS credit rating may be modified by the addition of a plus (+) or minus (-) sign where applicable to show relative standing
within the major categories.
Source: UBS. Rating allocations are as of 30 September 2021.
1.To satisfy regulatory requirements, we assign Buy, Hold and Sell in our Credit Outlook ratings distribution table for our Issuer
Rating system.
2.Percentage of companies under coverage globally within this rating category.
3.Percentage of companies within this rating category for which investment banking (IB) services were provided within the past
12 months.
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research analyst account. The name of each affiliate and analyst employed by that affiliate contributing to this report, if any, follows.
UBS AG: Moritz Diller.UBS AG, Singapore Branch: Edward Teather, Joni Teves, Rohit Arora, Teck Quan Koh.UBS AG Hong Kong
Branch: Jiamin Shen, Karen Hizon, Katharine Jiang, Niall MacLeod, Ning Zhang, Tao Wang, William Deng.UBS AG London Branch:
Alexey Ostapchuk, Alireza Kharazi, Anna Titareva, Anna Zadornova, Arend Kapteyn, Artour Danilov, Bhanu Baweja, Gyorgy Kovacs,
James Malcolm, Joao Toniato, PhD, Kamil Amin, CFA, Lefteris Farmakis, Manik Narain, Nick Nelson, Nicolas Le Roux, Philip Finch,
Reinhard Cluse, Rohan Khanna, Sutanya Chedda.UBS Europe SE: Felix Huefner.UBS New Zealand Limited: Robin Clements.UBS
Securities Australia Ltd: George Tharenou, Giulia Specchia, Nic Guesnon.UBS Securities Co. Limited: Aaron Luo, Jennifer Zhong,
Mary Xia, CFA.UBS Securities India Private Ltd: Tanvee Gupta Jain.UBS Securities Japan Co., Ltd.: Go Kurihara, Masamichi
Adachi.UBS Securities LLC: Alan Detmeister, Alastair Pinder, Andrea Casaverde, Andrew Dubinsky, Jess Eagel, Jonathan Pingle, Keith
Parker, Matthew Mish, CFA, Michael Cloherty, Pablo Villanueva, Pierre Lafourcade, Rafael De La Fuente, Roque Montero, Samuel D.
Coffin, Sean Simonds, Stuart Kaiser, CFA, Vassili Serebriakov.
Issuer Name Credit Rating Outlook
Argentina3 No Rating No Rating

Canada7 No Rating No Rating
Hong Kong Special Administrative Region No Rating No Rating
Venezuela No Rating No Rating
3. UBS has been designated by a group of institutional holders of debt securities issued by the Republic of Argentina to
facilitate constructive dialogue with the Republic's new administration regarding potential liquidity challenges that
the Republic may face in the coming months.
7. Within the past 12 months, UBS Securities LLC and/or its affiliates have received compensation for products and
services other than investment banking services from this company/entity.
Issuer Name
Brazil
China (Peoples Republic of)4,5,7,6b,6c
Commonwealth of Australia4,7
Czech Republic
European Union7
Federal Republic of Germany2,4
Federation of Malaysia4,7,6b,6c
French Republic4,7
Hungary7,6b
Japan7,6b,6c
Kingdom of Spain7,6b,6c
Kingdom of Thailand
Korea (Republic of)
Mexico
New Zealand2,4,5,7,6b,6c
Philippines (Republic of)2,4
Poland7

Issuer Name
Republic of Chile7,6b,6c
Republic of Colombia
Republic of India7,6b,6c
Republic of Indonesia2,5
Republic of Italy4,7
Republic of Peru7,6b
Republic of South Africa7
Republic of Turkey
Republic of Vietnam7,6b,6c
Russia4,7,6a,6b
Singapore2,4,7,6b,6c
Swiss Confederation4,5,7,6b,6c
Taiwan
United Kingdom of Great Britain and Nort
United States of America
2. UBS AG, its affiliates or subsidiaries has acted as manager/co-manager in the underwriting or placement of securities
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Global Economics & Markets Outlook 2022-2023 Economics

Key Economic Indicators . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7 Gyorgy Kovacs

Will the S&P 500 finally tire in 2022? . . . . . . . . . . . . . . . . . . . . . . . . . . 25 Masamichi Adachi

Global Economics & Markets Outlook 8 November 2021 ab 2

USA & Canada . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 99 Alastair Pinder

Global Economics & Markets Outlook 8 November 2021 ab 3

Global Economics & Markets Outlook 8 November 2021 ab 4

Top Investment Ideas for 2022

1. Long US Financials over US Industrials

2. Long China over India

3. Long Germany over Japan

4. Long Growth over Value

6. Receive Dec-22 Euribor

7. Long US 5y5y inflation vs Europe 5y5y inflation

8. AUD 2s5s flattener vs UK steepener

9. Sell CNY NEER

10. Long JPY vs CHF

11. Short EURGBP

12. Short USDCAD

13. Receive Jan-23 DIs. Long USDBRL

14. Long USD and EUR vs ZAR

15. Receive 3y Korea vs Pay 3y India rates

16. Long 10y Russia OFZs vs IndoGBs

17. Long Asia HY

18. Long US Levered Loans v US IG

Sustained inflation hedge

19. Buy puts in US Small Caps

Accelerated recovery hedge

20. Buy MSCI EM calls

Global Economics & Markets Outlook 8 November 2021 ab 5

Pivotal Questions Q: Where are we in the cycle?

Q: Is Capex about to take off?

Q: Should we worry about a wage/price spiral?

% QoQ saar Global - GDP % Global - Policy rate

9.0 3.5 Baseline

0.0 Scenario 1: mutant virus

Source : UBS, Haver

Global Economics & Markets Outlook 8 November 2021 ab 6

Key Economic indicators

Current account (% Fiscal balance

end '22 end '23 end '22 end '23

Global Economics & Markets Outlook 8 November 2021 ab 7

UBS-current UBS vs UBS-current UBS vs UBS-current UBS vs UBS-current UBS vs

Global Economics & Markets Outlook 8 November 2021 ab 8

UBS market forecasts

Global Economics & Markets Outlook 8 November 2021 ab 9

Figure 3: EUR USD Figure 4: Quarterly change in EUR USD (%)

Global Economics & Markets Outlook 8 November 2021 ab 10

Figure 11: US HY spread Figure 12: Quarterly change in US HY spread (bp)

Figure 13: MSCI EM Figure 14: Quarterly change in MSCI EM (%)

Figure 15: EM FX Figure 16: Quarterly change in EM FX (%)

Global Economics & Markets Outlook 8 November 2021 ab 11

Global Economics & Markets Outlook 8 November 2021 ab 12

2. What kind of returns will 'expensive' equities deliver? (Page 18)

3. Where are we in the cycle? (Page 21)

4. Will the S&P 500 finally tire in 2022? (Page 25)