Key points:

  • Inflation pressures building, notably in the UK where we now expect a first interest rate rise in December.
  • Conditions for continuing US growth look favourable, even by pre-pandemic standards.
  • Gradual removal of pandemic-era monetary policy accommodation in the United States has begun, even though US rate rise unlikely until late 2022.
  • Vanguard continues to expect full-year growth in the euro area of around 5% in 2021 and 4% in 2022, despite ongoing surge in Covid-19 infections.

Economic growth

The economy in the United States grew at an annual rate of 2.0% in the third quarter, down from 6.7% in the second quarter as labour and non-labour supply constraints took their toll. Growth appears to have stabilised as Covid-19 cases have come down from their third-quarter peaks, and we continue to see fourth quarter growth of around 5.5%. We expect the economic recovery to continue in 2022, though at a slower pace of around 4%. Conditions for continuing US growth look favourable, even by pre-pandemic standards. Consumer balance sheets are healthy, as households have broadly cut back on debt, and employment and earnings prospects remain strong.

The economy in the euro area grew by 2.2% in the third quarter compared with the second quarter, and by 3.7% compared with the third quarter of 2020. Vanguard expects the pace of growth to moderate from hereon, a natural slowing at this stage of economic recovery from the pandemic. Sentiment unsurprisingly improved in October as the economy settled into a healthier mode. Risks are skewed to the downside, however, as Covid-19 continues to be a concern – with daily new cases topping 50,000 in Germany for the first time on 11 November –  and as high energy prices weigh on household finances. But a rapid unwinding of supply bottlenecks that would boost manufacturing represents a risk to the upside, with manufacturing accounting for a greater portion of the economy than in the United States. Vanguard continues to expect full-year growth in the euro area of around 5% in 2021 and around 4% in 2022.

GDP increased by 1.3% in the third quarter in the United Kingdom compared with the second quarter, which was slightly lower than expected. Vanguard continues to anticipate full-year 2021 growth around 7%, supported by continued recovery in the country’s services sector. Although output in consumer-facing services remains 5.5% below its pre-pandemic level, it is above this threshold for all other services. The broader economy is now 0.6% below its pre-pandemic level; Vanguard anticipates that ground will be made up around the turn of the year. We foresee full-year 2022 growth of around 5.5%, which would still leave the United Kingdom shy of its pre-pandemic growth trajectory – the level of GDP we would have anticipated in the absence of the pandemic.

Recent data paints a mixed picture of the China economy. Industrial production grew by a greater-than-expected 3.5% in October compared with a year earlier. Retail sales also rose by 4.9% year-on-year, greater than a 4.4% rise in September. But GDP increased by just 4.9% year-on-year in the third quarter, below market expectations. We expect growth in the fourth quarter of around 1% compared with the third quarter, which is below trend, and growth of around 5% for all of 2022. We expect the consumption recovery to remain muted, the property downturn to deepen, and infrastructure investment to accelerate only after the National People’s Congress in March, where we expect the government to target growth of around 5.5% for 2022. As such, we anticipate that it will either have to tolerate undershooting its target or introduce further stimulus measures.

Positive health developments lead Vanguard to hold an above-consensus view on 2022 growth in emerging markets. We foresee growth of around 5.5% in 2022, higher than the 5% consensus of economists surveyed by Bloomberg. We anticipate that Latin America and emerging Asia will have vaccinated almost all eligible individuals who want to be vaccinated by the end of 2021, surpassing developed-market vaccination rates and mitigating any lingering reluctance to engage in activity. But we expect the percentage of the vaccinated population to lag significantly behind in emerging Europe, where vaccine acceptance is low.

Monetary policy

The gradual removal of pandemic-era monetary policy accommodation in the United States has begun with the Federal Reserve’s announcement on 3 November that it would start to scale back its bond-buying programme. The Fed said it would reduce its purchases of Treasury securities by $10 billion per month and of agency mortgage-backed securities by $5 billion per month so that November purchases total $70 billion and $35 billion, respectively, with a similar monthly reduction in purchases thereafter. At such a pace, the Fed’s asset-purchase programme will have wound down by the middle of 2022. The move sets the stage for what Vanguard believes will be a late-2022 interest rate rise.

The European Central Bank (ECB) left its main deposit rate unchanged at negative 0.50% and said it would stick to a moderately lower pace of asset purchases under the Pandemic Emergency Purchase Programme (PEPP) in the fourth quarter compared with the second and third quarters. Markets have brought forward their expectations for the ECB’s first post-pandemic rate rise to occur in late 2022. Vanguard believes markets have gotten ahead of themselves as we don’t expect an ECB rate hike in the next 24 months. We believe that the inflationary pressures (or lack thereof) prevalent before the pandemic will reassert themselves. We expect both headline and core inflation to fall back to around 1.5% by the end of 2022 as tax changes wash out of calculations and rises in input prices decelerate.

The Bank of England (BOE) voted at its 4 November meeting to keep its bank rate at 0.1% and maintain its asset-purchase programme at current levels. Holding the bank rate at its current level was in line with Vanguard’s view but surprised markets, which had fully priced in a hike to 0.25%. The bank’s next move will depend significantly on the strength of the labour market. Vanguard believes the labour market recovery will be sufficiently advanced to lead the BOE to raise the bank rate by 15 basis points to 0.25% at its 16 December meeting, followed by an additional quarter -point hike to 0.5% at its next meeting, unless jobs market data comes in weaker than expected, in which case we’d foresee a delay in the bank’s first rate rise until its 3 February meeting.

US government funding

The threat of a US government shutdown, a US debt default, or both could still arise in early December. On 30 September, the US Congress and president signed a continuing resolution to fund the government through 3 December (Annual appropriations bills need to be signed each fiscal year beginning 1 October to fund the approximately one-third of the federal budget classified as discretionary). Legislation to raise the US debt ceiling by $480 billion, an amount expected to allow the government to pay its bills until at least 3 December, was also signed. Although Vanguard believes a US debt default is unlikely, investors may want to ask themselves ahead of time how they might respond should the value of their investments fall significantly in such an event. Vanguard’s principles for investing success are intended to help investors prepare for such occasions.


Vanguard’s medium-term outlook for inflation in the United States hasn’t materially changed despite a stronger-than-expected reading in October and even though inflation is likely to be pressured higher in the near-term. The US consumer price index (CPI) climbed by 0.9% on a seasonally adjusted basis in October compared with September and by 6.2% compared with a year earlier. Energy prices, which rose by 4.8% in the month, drove the broad-based increase. Core CPI, which excludes food and energy prices, reached 0.6% in October and 4.6% year-on-year. Strong readings over recent months have increased the possibility that supply constraints, labour shortages and the effects of the economy’s reopening will take further time to normalise. We foresee inflation persisting above 2% toward the end of 2022. A risk that inflation persists at, or above, 3% by year-end 2022 would depend on broad wage gains taking hold. Whereas Vanguard sees the likelihood of strong wage gains in certain pandemic-affected sectors such as leisure and hospitality, we see the risk of such strong gains across all industries as low.

Headline inflation in the euro area climbed to 4.1% in October compared with a year earlier, up from a 3.4% reading in September. Core inflation, which excludes food and energy prices, reached 2.1% compared with a year earlier. Energy prices, up 23.7% compared with October 2020, again provided the greatest impetus for the increase. Vanguard anticipates that inflation will fall back to around 2% by the end of 2022 and toward 1.5% over 2023 as tax changes wash out of the comparison period and input price rises decelerate. With less in accumulated household savings, among other things, the euro area faces less inflationary pressure than either the UK or US.

Inflation rose to 4.2% in October in the United Kingdom compared with a year earlier, the quickest rise since November 2011. Most of the increase was driven by energy price inflation, which surged to 22.3% compared with a year earlier, largely due to an electricity cap increase alongside rising petrol prices. Core inflation, which excludes food and energy prices, reached 3.4% compared with a year earlier. Vanguard expects headline inflation to peak at around 5% in the second quarter of 2022 as a domestic energy price cap is expected to be raised significantly. Surging natural gas prices are being felt in the production chain. These increases, alongside the effect of shortages in non-energy industrial goods, are likely to manifest themselves in higher consumer prices. We see core inflation peaking around 4% toward the end of 2021. As supply bottlenecks ease and comparisons to high year-earlier prices unwind, we expect headline and core inflation to fall below 3% by end-2022.


The economy in the United States created 531,000 jobs in October, a reading that confirmed the labour market’s strength. With inflation likely to have already met the Federal Reserve’s criterion for an interest rate hike, we expect labour market developments to command attention in the coming months. The unemployment rate fell from 4.8% to 4.6%, but don’t expect the Fed to rely solely on that indicator in determining when to raise interest rates. Vanguard expects the unemployment rate to continue to fall, to just above 3% by the end of 2022, with labour-force participation peaking perhaps a full percentage point below its pre-pandemic level.

Unemployment in the euro area continued its slow but steady 2021 decline in September, inching down to 7.4% on a seasonally adjusted basis compared with 7.5% in August.

The unemployment rate in the United Kingdom fell to 4.3% in the three months to September, from 4.5% in August, after an increase of 247,000 in the number of employed individuals. But the data doesn’t account for the 30 September-end to the furlough scheme, which is expected to provide additional workers to meet rising job vacancies, although early payroll indicators suggest labour market strength continued into October.

The points above represent the house view of the Investment Strategy Group’s (ISG’s) global economics and markets team as of 17 November, 2021.

Asset class return outlooks

Vanguard has updated its 10-year annualised outlooks for broad asset class returns through the most recent running of the Vanguard Capital Markets Model® (VCMM), based on data as of 30 September, 2021. The probabilistic return assumptions depend on market conditions at the time of the running of the VCMM and, as such, can change with each running over time.

ISG updates these numbers quarterly. The projections listed below are based on the September 30, 2021, running of the VCMM. Projections based on the 31 December, 2021, running of the VCMM will be communicated through the February 2022 economic and market update.

The greatest change in our outlooks from the 30 June running of the VCMM was in emerging markets equities. Large price declines in the intervening months lowered valuations, which are reflected in a 10-year forecast range that is 60 basis points higher in the 30 September running. In fixed income, yields increased marginally in the third quarter, allowing for a marginal rise in forecasts for many fixed income sub-asset classes.

Our 10-year annualised nominal return projections are as follows. Please note that the figures are based on a 1-point range around the 50th percentile of the distribution of return outcomes for equities and a 0.5-point range around the 50th percentile for fixed income. Numbers in parentheses reflect median volatility.

Note: return projections are calculated for British pound investors. * return projections are calculated for euro investors.

Any projections should be regarded as hypothetical in nature and do not reflect or guarantee future results.

IMPORTANT: The projections or other information generated by the Vanguard Capital Markets Model® (VCCM) regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results, and are not guarantees of future results. Distribution of return outcomes from the VCMM are derived from 10,000 simulations for each modelled asset class. Simulations are as of 30 September, 2021. Results from the model may vary with each use and over time.

The VCMM projections are based on a statistical analysis of historical data. Future returns may behave differently from the historical patterns captured in the VCMM. More important, the VCMM may be underestimating extreme negative scenarios unobserved in the historical period on which the model estimation is based.

The Vanguard Capital Markets Model® is a proprietary financial simulation tool developed and maintained by Vanguard’s primary investment research and advice teams. The model forecasts distributions of future returns for a wide array of broad asset classes. Those asset classes include U.S. and international equity markets, several maturities of the U.S. Treasury and corporate fixed income markets, international fixed income markets, U.S. money markets, commodities, and certain alternative investment strategies.

The theoretical and empirical foundation for the Vanguard Capital Markets Model is that the returns of various asset classes reflect the compensation investors require for bearing different types of systematic risk (beta). At the core of the model are estimates of the dynamic statistical relationship between risk factors and asset returns, obtained from statistical analysis based on available monthly financial and economic data from as early as 1960. Using a system of estimated equations, the model then applies a Monte Carlo simulation method to project the estimated interrelationships among risk factors and asset classes as well as uncertainty and randomness over time. The model generates a large set of simulated outcomes for each asset class over several time horizons. Forecasts are obtained by computing measures of central tendency in these simulations. Results produced by the tool will vary with each use and over time. 


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