We see four main threats for the rest of 2025.

First, the trade war is set to cause stagflation in the US from the supply shock of steep tariffs on all imports, and subdued growth in the rest of the world from the demand shock of lower exports to the US. We forecast global growth will fall below 3.0% this year and next after expanding by a firm 3.3% in 2024. US GDP growth is likely to almost halve after last year’s strong 2.8% expansion and China’s growth to slow from 5.0% to 4.6% in 2025.

Second, US tariffs will keep inflation above the Fed’s 2% target, delaying the resumption of interest rate cuts. We expect the Federal Reserve may only cut its fed funds rate once from 4.25-4.50% this year. We also think the European Central Bank (ECB) will not lower its deposit rate anymore from 2.00%.

Third, fears over rising public debts across the major economies are likely to keep government bond yields volatile. Concerns over the Trump administration’s “One Big Beautiful Bill Act” (OBBBA) leaving the US budget deficit high at 6-7% of GDP, the fragile fiscal outlook in the UK and risks that a new prime minister in Japan may cut taxes, are all keeping upward pressure on long-term bond yields.

Last, the risk of Fed Chair Jerome Powell being replaced by a more pliant successor in 2026 is set to keep the US Dollar weak and demand for safe haven assets including gold strong. Thus, we think the economic outlook suggests investors should still hedge against the risks of fresh volatility.

US – The Fed remains unwilling to resume rate cuts yet

The Fed kept its fed funds rate unchanged at 4.25-4.50% in July for the fifth meeting as officials wait to see if steep US tariffs will push inflation further above its 2% target.

Fed Governors Christopher Waller and Michelle Bowman, candidates to replace Chairman Powell when his term as Fed Chair ends in May 2026, voted to cut interest rates by 25 basis points (bps) - the first time since 1993 that two of the Fed’s seven Board of Governors have dissented on the Federal Open Market Committee. But the meeting overall was in line with our view that the Fed will make only one rate cut this year while inflation stays above 2%.

First, despite strong pressure from the White House, the FOMC maintained its view that the economy does not need rate cuts yet, noting: “the unemployment rate remains low, and labour market conditions remain solid. Inflation remains somewhat elevated.”

Second, Powell said interest rates currently were not restraining growth: “the economy is not performing as though restrictive policy is holding it back inappropriately.”

Third, the Fed Chair warned tariffs may have a longer impact, thus requiring interest rates to stay elevated: “it is also possible that the inflationary effects could instead be more persistent - and that is a risk to be assessed and managed.”

Last, Powell gave no signal the Fed would start cutting interest rates at its next meeting: “in coming months we will receive a good amount of data that will help inform our assessment of the balance of risks and the appropriate setting of the federal funds rate. We have made no decisions about September.”

There are still two US inflation reports and one employment report before the FOMC meets on 16-17 September. Unless unemployment jumps sharply above 4%, we think the Fed will keep interest rates on hold until tariff-driven inflation has peaked.

We thus expect the Fed’s first cut only towards the end of the year. Headline and core US inflation are still above the Fed’s 2% target more than three years after the pandemic ended.

China – Upgrading growth forecasts but risks remain

So far in the first half of 2025, China’s growth has been surprisingly resilient despite US major tariff hikes on Chinese exports. China’s GDP expanded by 5.4% YoY in 1Q25 and 5.2% YoY in 2Q25 - above the 5.0% annual growth rate recorded in 2024 - as exporters rushed to beat US tariff rises.

Growth was also supported by the National People’s Congress (NPC) agreeing in March to lift the central government’s budget deficit target for 2025 from 3% to 4% of GDP, a rare move, to help fund more infrastructure spending and subsidies for consumption. Furthermore, in May, the People’s Bank of China (PBOC) announced its first interest rate cut since September, lowering its 7-day reverse repo rate 10bps to 1.40%.

For the second half of 2025, however, we expect growth will slow to 4.0% YoY as US tariffs curb exports, inflation stays low, the property market remains weak, and consumers stay cautious.

The government’s new “anti-involution” drive to reduce excess capacity in key sectors including solar and electric vehicles will help rebalance supply and demand over time in the economy. But the stronger growth in 1H25 has reduced the chances of further fiscal stimulus in 1H25. We thus upgrade our 2025 growth GDP forecast from 4.2% to 4.6% but still think further measures are needed to stimulate consumption and real estate to ease deflationary pressures in China’s economy.

Europe – Broader trade war averted with the US

This year, European growth is set to stay subdued near 1% in the Eurozone and the UK but with the European Union and Britain signing trade deals with the US, the risks to the outlook for the rest of 2025 and 2026 have diminished significantly.

For interest rates, we think that firmer growth prospects and the likelihood of inflation settling around 2% will allow the ECB to stop easing monetary policy any further now.

In July, the ECB kept its deposit rate unchanged at 2.00%, the first time in a year that interest rates have not been reduced after being lowered at each meeting from 4.00% last year. We see no more ECB rate cuts now as less uncertainty over EU exports to the US reduces the need for further monetary easing to support growth.

In contrast, we think the Bank of England (BOE) will continue to gradually cut interest rates each quarter as the UK labour market slows. The BoE cut rates 25bps to 4.00% but only by 5 votes to 4 after an unprecedented second vote. We expect another 25bps cut in November but the end of the BoE’s easing cycle is in sight now.

Japan – US deal, less political risk improves the outlook

Like Europe, Japan’s trade deal with the US reduces uncertainty and improves the outlook. Though firms will face a 15% tariff when exporting to the US, the deal ends months of confusion over how high US tariffs would be under the Trump administration. At the same time, the ruling Liberal Democratic Party’s losses in July’s upper house elections were less than feared, enabling the government to continue with its path of consolidating Japan’s high public debts.

We think less uncertainty over Japan’s trade and fiscal outlooks will allow the Bank of Japan (BOJ) to resume its gradual pace of interest rate hikes. We expect the BOJ to lift its overnight rate again by 25bps from 0.50% to 0.75% before the end of the year, providing support to the weak Japanese Yen.