EVANS Westpac has recently revised up its growth forecast for the US in 2018 – to 3 per cent from 2.5 per cent. This reflects the impact accelerated depreciation is going to have on business investment as well as the mooted expenditure package.

As a result, we have also raised our forecast for the Federal Reserve (Fed)’s cycle to three rate hikes in 2018 and a further two hikes in 2019. By mid-2019, we expect the Fed to go on hold for the rest of the year.

The Fed funds rate will be 2.625 per cent, slightly above the assessed neutral rate of 2.5 per cent. however, the much tighter financial conditions associated with a 3.5 per cent 10-year bond rate, a rising US dollar, wider credit spreads and volatile equity markets will slow the economy. This will be a decent result, seeing a reasonably soft landing for the US economy.

A gradual rise in inflation and wages will threaten a much more aggressive Fed. Faster-than-expected inflation risks could push the Fed harder and potentially cause an inverse yield curve, which history shows would be associated with a recession.

Europe had a strong growth year in 2017, expanding by an impressive 2.4 per cent or more than 1 per cent above potential. We expect Europe and Japan to slow down somewhat in 2018.

Emerging markets, including India and Brazil, are on solid growth trends and appear to be better placed to deal with rising rates in the US than has been the case in the past.

As usual, China represents a perplexing story. We expect China to slow down to 6.3 per cent in 2018 from 6.9 per cent in 2017. This will mainly reflect a further slowdown in investment, rising inflation and a tightening of credit.

We have reached the point where, on our calculations, largely unregulated parts of the financial system in China – including wealth-management products and trust loans – are nearly 50 per cent of the regulated banking system. The government is taking steps to address this issue. For instance, banks that used to offer wealth-management products now have to emphasise that these products are not guaranteed.

At the moment, financial assets in China are 450 per cent of GDP. If this is allowed to continue, even the Chinese authorities with all their firepower and their strong fiscal position won’t be able to control it. This implies a major policy change and therefore a slowdown for China.

For Australia, we see growth remaining around 2.5 per cent in 2018 and 2019. This is below trend and substantially below official forecasts. The government is expecting growth at 3.25 per cent in both years.

We remain concerned about the pace of consumer spending. The government expects wages growth to pick up, consumer incomes to grow accordingly, and consumer spending growth to lift back to 3 per cent. We, on the other hand, think it will be stuck at around 2.2 per cent. Weak consumer demand is also a constraint on equipment investment.

I’m also expecting to see residential construction contract in 2018 and through 2019. this reflects the fact that building approvals peaked in 2016 and some high-rise markets in particular are facing oversupply.

On the other hand, the good news is that Australia is continuing to see a really strong boost in nonresidential construction, partly reflecting the need to catch up in light of strong population growth. There are booms in office investment, social building including hospitals, schools and childcare centres, entertainment, power and telecommunications infrastructure, and government spending specifically boosting transport investment.

All these sectors, which are important for private-placement investors, represent a really strong story for Australia over the next few years.

In 2015 and 2017, the Australian government regulator imposed substantial controls over bank lending to property investors. What this has done is reverse the strong trend in house prices in Australia. Sydney residential markets are weak and Melbourne will follow over the course of the next six months.

Inflation and wages growth remain stuck at around 2 per cent. Unlike in the US, there is still a very high level of underutilisation in our labour market. We have had a modest fall in the unemployment rate to 5.5 per cent from 6 per cent, but underutilisation remains very high.

As a result of all these factors, inflation will remain a challenge for the authorities. Australia has similarities with the US, Europe and Japan: strong employment growth with limited evidence of wage pressure. Arguably, the US is in the process of breaking this mould with a range of survey results emphasising some rising wage pressure.

My view is that Australian rates will remain on hold this year and next, and by mid-2019 the US cash rate will be more than 100 basis points above the Australian cash rate. This is uncharted territory since the previous record negative spread was 50 basis points, back in the late 1990s.

I also believe US bond rates can rise to 3.5 per cent from the current 2.9 per cent. Australian bond rates are likely to fall below US bond rates over the next year.

The expected slowdown in China is likely to reduce iron-ore and coal prices. When we combine this with the yield-differential story I expect the Australian dollar to be falling to US$0.70 by early 2019.