The Decisive | Season 3 Ep.14 - Global Macroeconomic Themes: Navigating Policy Changes in a Dynamic World

View Full Transcript

Kristen Hallam  

Welcome to the decisive podcast brought to you by S&P Global Market Intelligence. I'm your host, Kristen Hallam. In this episode, we're sharing an excerpt from our March 20 webinar on the global macroeconomic environment, featuring perspectives from North America, Latin America, Europe and Asia Pacific. Ken Wattret, Global Economist at Market Intelligence, will lead the discussion. Let's listen in.

Ken Wattret  

I'm Ken Wattret, Vice President of Global Economics at S&P Global Market Intelligence. Let me start by introducing today's speakers. They're Ben Herzon, our Co-Head of U.S. Economics; Arlene Kish, Director of Canadian Macro Economics; Nicolas Suarez, Senior Economist for Latin America; Timo Klein, Principal Economist for Europe and our coverage expert for Germany; and Hannah Luchnikava-Schorsch, our Head of Asia Pacific Economics. Since January, the focus has remained on the policies of the new U.S. administration and all of their ramifications, both inside and outside the U.S. As we've highlighted previously, those shifts in U.S. policy and the responses to them have material implications for the global economic outlook. And that's reflected in the direction of the forecast revisions, which we've been making since the U.S. elections in November last year. For example, if we compare our latest growth forecasts for 2025 with those from October last year, we've lowered our projections for most of the world's largest economies. In our latest update, the largest downward revisions have been to the U.S., Canada and Mexico. They're all at the heart of the escalation in trade tensions, obviously, and we'll cover those in detail shortly. Germany is bucking the trend related to recent fiscal developments. Our forecast for annual global real GDP growth this year has been cut again to 2.5%. That would actually be the weakest outcome since 2009, excluding the period around the COVID-19 shock. Now while our growth forecasts have been coming down, our forecast for consumer price inflation have been going up, again, in pretty much all of the world's largest economies. China is a notable exception. And that raises some question marks about monetary policy prospects in turn feeding into our more cautious assessment about global economic growth. Now we've been highlighting the unprecedented surge in various measures of policy-related uncertainty, particularly in the U.S., and they remain alarmingly elevated. We're now also starting to see the negative effects of this uncertainty on some survey data, including our own Purchasing Managers Indices. They're a very reliable gauge of growth trends. And in February's data, the global composite output index fell to its weakest level for more than a year. Looking ahead, the slide in incoming orders and diminishing backlogs of work suggest that weakness is likely to continue. And notable in February's national PMIs were a pronounced loss of momentum in the U.S. and a deepening downturn in Canada. Europe's PMIs, they've continued to struggle, though we do expect to see some improvement in the period ahead. given the sea change in fiscal policy in Germany, which we'll talk about shortly. Now on that note, let's take a closer look at national developments, beginning inevitably with the U.S. And let me bring in Ben at this point. Ben, as we've already highlighted, there's an exceptionally high level of uncertainty over U.S. policy at present. So can you tell us what the key policy assumptions are shaping your assessment of U.S. economic prospects?

Ben Herzon  

Thanks, Ken. Yes, I'd be happy to. The policy landscape is evolving rapidly, especially with regard to tariffs. When we first introduced tariffs in our baseline forecast, we assumed a 10% universal tariff and a 30% tariff on imports from Mainland China, both ramping up over the course of 1 year. Now at the time we introduced those assumptions, that was a placeholder assumption that we viewed as a probable outcome as we awaited actual policy announcements. Since then, there have been actual policy announcements. There's been many of them, and we have updated our forecast in response. So let me get into the details of our assumptions, and I'll start with tariffs. We do assume in the forecast the 25% tariff on steel and aluminum imports that actually went into effect last week. We assume a 30% tariff on imports from Mainland China as of March 4 that rises to a peak of 45% over the coming 3 months. We assume a 25% tariff on imports from Canada and Mexico, effective beginning in April with a 10% carve-out or 10% tariff assumed for automotive imports. Now that 25% tariff on imports from Canada and Mexico, we assume is not sustainable and in fact, steps down to about 10% in about a year. For all other countries, our March baseline assumption is for a universal tariff that ramps up to 10% over the course of the year. That was our initial placeholder assumption. We also assume that U.S. trade partners take countermeasures in the form of tariffs on U.S. exports. Over the next couple of weeks, we will be looking for announcements on reciprocal tariffs that perhaps might go into effect as early as April. We'll be watching for announcements about perhaps tariffs on imports from the EU. Now on immigration, we've assumed that net migration into the U.S. is reduced by 500,000 per year during the 4 years of the Trump presidency. What this assumption implies is a slow rate of U.S. population growth. On fiscal policy, we continue to assume a permanent extension of the personal tax cuts from the 2017 Tax Act. We assume some new tax relief on tip income and overtime pay and an easing of the cap on the state and local tax deduction. We assume a cut in the corporate tax rate for corporations that produce domestically from 21% to 15%. And we also have in the forecast a generic cut in federal outlays in consumption gross investment and in foreign aid. On federal employment, so this is related to the DOGE activities, we assume layoffs of civilian federal employees that accumulate to 255,000 by August. And on Fed policy, we assume that the Federal Reserve holds the funds rate target at the current range, which is 4.25% to 4.5% through December of this year. While the target remains in restrictive territory, we think that the Fed is not in a hurry to ease, especially in light of the elevated levels of uncertainty surrounding the Trump administration's tariff policy assumptions and how those will affect inflation.

Ken Wattret  

Thank you, Ben. So that's a lot to digest. So, I guess what everybody wants to know is if we put all this together, how are those assumptions then reflected in the U.S. economic forecasts?

Ben Herzon  

The tariffs themselves are delaying what would otherwise have been a quick convergence of inflation to the Fed's 2% goal. So, what this is doing, this elevated tariff-induced inflation is keeping monetary policy and financial conditions more broadly tighter than they otherwise would have been. And despite what is in our forecast as an accommodative fiscal stance as reflected in elevated federal deficits, the tighter financial conditions that we have in our forecast that originally stemmed from the tariffs, those tighter financial conditions are weighing on GDP growth. There are other factors involved as well, but the inflation and the tighter Fed policy is a separate drag on growth. And the slowdown in immigration in our forecast is slowing both potential and actual GDP growth. The federal layoffs that we assume are reducing forecasted GDP growth directly by virtue of how the government sector is recorded in the national accounts.

Ken Wattret  

Thanks, Ben. So, one of the things we're certain about is how much uncertainty there is right now, and there are a lot of moving parts to the assumptions to the forecast. With that in mind, what do you see as the key risks surrounding the baseline outlook for the U.S.?

Ben Herzon  

There's a couple of key risks. One is the tariff rate that we have in our forecast. It's hard to know exactly how high the tariff rate will go. The peak tariff rate that we have in our forecast, if we weigh all the tariffs up and weigh them up by import shares, we get a peak average effective tariff rate of 15.8% by early 2026. Now this tariff rate that feeds through to domestic prices could turn out to be much higher, or it could turn out to be much lower, and that has implications for inflation and for how much the Fed would have to respond to that tariff-induced inflation and how tight financial conditions would be. So that's, I think, the key uncertainty in our forecast is how high will tariffs go. But there's also uncertainty out there in the business world about trade policies. And it's just the level of uncertainty about trade policy is at historic highs. Now this could be weighing on — and probably is, it's probably weighing on investment spending. As businesses consider new capital investment, they need to understand their cost structure. And without knowing how trade policy is going to evolve, it's difficult to impossible to evaluate the cost structure. So, this is a risk to the forecast because our forecast, our modeling approach, does not include an explicit role for uncertainty about trade policy. So, it's possible that capital spending could prove weaker than we're showing in our forecast by virtue of the fact that we don't have an explicit channel for the unprecedented levels of trade policy uncertainty that are out there today.

Ken Wattret  

Thank you, Ben. We're going to head north of the border and go to Canada and bring in Arlene. So obviously, Arlene, as we've been talking about U.S. trade policies are changing rapidly. Can you talk to us about Canada's response to that and how that's impacting on your growth forecast?

Arlene Kish  

Sure thing, Ken. Like the U.S. tariff policy, very similar reactions have been coming out of Canada. Canada's response has been a dollar to dollar, not just a certain tariff rate. It is 25%. We know that the USMCA items have been temporarily excluded from tariffs right now. That should be ending soon, a temporary pause. There is the aluminum and steel tariffs, 25%. Canada responded by imposing the same rate on steel and aluminum, but the dollar-for-dollar response is about $29.6 billion. So, there's going to be other tariffs on things like computers, they've even announced sports equipment and cast-iron products. So, there's always some kind of variability in Canada's response. There is still planned right now an additional $125 billion, but we don't know the details on that, I guess, depending on what is going on with the negotiations right now. With the implementation of these tariffs, I do expect that demand conditions and production will be reduced, and that's going to be lowering our trade flows for Canada, given that we're heavily reliant on trade with the U.S. The real GDP outlook has been downgraded once again, like Ken highlighted earlier. I expect that the biggest impact will be on trade flows, and I am forecasting recession this year with a drop in GDP in the second and third quarters. There is a very high degree of uncertainty in Canada as well. For example, with the implementation of the tariffs on steel and aluminum, I've been hearing that firms are reporting that they're able to handle a 25% tariff temporarily, even though that's going to result in loss of some business contracts. This would mean that manufacturing would have to cut back production, possibly eliminate some shift work and potentially have some layoffs. So ultimately, we're going to have weaker industrial production and softer labor demand. And as such, jobs are at risk. Consumers are going to become more cautious with their spending dollars. They plan on increasing their precautionary spending, and that's going to lead to slower household expenditures. We already know that firms are planning on reducing investment in spending and hiring based on previous outcomes from Bank of Canada surveys. So as such, all sectors of the economy are expected to be negatively impacted.

Ken Wattret  

Sounds pretty tough, Arlene. So, moving to other related issues and monetary policy specifically: The Bank of Canada managed to get inflation back within its target range, but tariffs obviously are a potential source of renewed upward pressure on inflation. How big an impact are we expecting?

Arlene Kish  

Ken, in the very near term, I'm expecting right now an upward drift in inflation. A lot of that has to do with the ending of the temporary HST tax break. Earlier this week, inflation jumped up to 2.6% in February, and that was stronger than what we were expecting in market expectations, even though the tax break lasted for only half a month. So, the demand conditions are out there, but that will probably lead to an upward revision of our forecast going forward. We know that tariffs are going to put upward pressure on prices. Again, it's all about finding out and analyzing how much of the price increases and the timing of the price increases going on to consumers. It could be delayed, it could be immediate. So, for example, we know that firms may be able to adjust supply chains quickly, and that would allow them to avoid maybe potentially not having to pay a tariff. If there's a seamless solution, then firms may not pass on any price adjustment based on new suppliers. And it all depends on the exposure to the U.S. market on inputs and sales. Just to give an example, there's a popular Canadian ice cream company. They've already announced they don't plan on passing on higher cost to consumers. And despite having long-term relationships with the U.S. as some of their inputs, they turned to other suppliers in Europe to say, okay, we're going to be sourcing some of our ingredients from Europe now. So in essence, trade volumes will not be impacted. However, it could be the issue of what's going on with prices and relationships going forward. So obviously, if you're going to source ingredients from other countries, we also have the issue of the low Canadian dollar, and that's making imports more expensive as well. There's other pressures, upward pressures. If firms are adjusting their inventories, they front-loaded all this, all imports, then the storage costs that could be associated with that or finding new markets if they lost contracts with the U.S., those costs can be passed on consumers as well. But based on some recent Bank of Canada survey data that was released early, they are indicating that about half of the companies, they plan on passing tariff price increases on to consumers. And of those firms, about 75% plan on passing on at least 50% of those costs. So, there's some indication as to what could possibly happen down the road. Now overall, I expect inflation to edge up close to the Bank of Canada's target range of 3%. The impact is not expected to be too significant right now in the near term for reasons that I've just discussed. But there are some downside inflationary risks as well. Many of you may know that we have a new Prime Minister, and he immediately signed a ministerial directive instructing the removal of the fuel charge of the carbon tax for consumers, farmers, as well as small- and medium-sized businesses. It does remain for large company emitters. So there could be some downside risks associated with that as well.

Ken Wattret  

Thanks, Arlene. So again, putting all this together, what are the implications for monetary policy and the exchange rate in Canada?

Arlene Kish  

Earlier this month, the Bank of Canada lowered its overnight rate by 25 basis points to 2.75% Inflation was already close to the 2% target, and the economy was performing really well given that we saw some huge upgrades to Canada's real GDP spending. However, the focus is now likely on the downside risk associated with the high degree of uncertainty that would lead the economy operating below potential, and that was the main impetus for the bank's easing. Now I continue to believe that the downside risk of below potential or trend GDP will keep the output gap wide as tariffs are imposed. Therefore, the Bank of Canada will be required to keep interest rates low. In earlier forecasts, when we assumed 10% tariffs, I expected the Bank of Canada to lower the overnight rate to 2% for about 6 months. Now with 25% tariffs, I've revised the forecast to bottom at 2% a bit earlier than the previous forecast, but it will stay much lower now for about 1.5 years. Now given that the Bank of Canada will cut interest rates, we're seeing that they cut more than what the Fed has been doing. That's going to leave a large negative Canada-U.S. interest rate gap. And for the Canadian dollar, that's going to keep it low, weakening to about USD 0.65 by mid-2026. Now when monetary policy cycle ends, the dollar will strengthen and supporting our forecast is the gradual increase in oil prices, which should lift prices to our previous expectations of about USD 0.82 over the longer term.

Ken Wattret  

Thank you, Arlene. A lot to digest again. Let's bring in Nicolas, and we're going to head south now. We're going to go to Mexico, another country in the firing line of U.S. trade policy. Again, similar question, given all the recent market volatility that we've been seeing and the assumptions you're making on tariffs, what does all this imply for the growth outlook for Mexico?

Nicolas Suarez  

Thank you, Ken. Since we released our forecast last December, we initially expected a 10% tariff on Mexican exports to the U.S. However, with the latest updates from our March forecast round, we are now assuming a 25% tariff starting in April 2025. Because of this change, we have adjusted Mexico's real GDP growth for 2025 from a 0.8% growth to a contraction of 0.9%. On top of that, our current baseline scenario includes insights from our country risk analyst, who is predicting that Mexico will respond by imposing a 10% tariff on a limited selection of U.S. imports, mainly targeting metals and certain food items, similar to what we saw during President Trump's first term. When it comes to domestic demand, we expect real private consumption to slow down even more after the second quarter of this year. As a result, we have lowered our growth forecast for 2025 and the ongoing uncertainty around tariffs is also likely to cause further delays in private investments in Mexico, leading us to predict a contraction in real fixed investment for 2025. On the external demand side, we are anticipating a contraction in the real export sector, mainly due to the negative impacts on the manufacturing exports. It is important also to point out that this uncertainty around tariffs is hitting the Mexican economy at a time when it already is slowing down significantly, and it is in a weaker position than it was in 2017. We have projected that the Mexican economy entered a recession in the last quarter of 2024, reflecting the weakness observed in several domestic demand indicators following the Mexican presidential elections. Moreover, Mexico has a limited fiscal space to mitigate the impacts of the tariffs, having recorded the highest fiscal deficit in the last 36 years in 2024.

Ken Wattret  

So, we're hearing more and more about recessions. So, what about the other impacts on Mexico exchange rate, inflation, monetary policy? Can you tell us a little bit more about those?

Nicolas Suarez  

First of all, regarding the exchange rate, we have recently observed the Mexican peso appreciating against the U.S. dollar. However, we still anticipate considerable volatility in the coming quarters. As a result, we have revised our forecast upward. We now project that the average exchange rate will reach around MXN 21.25 per U.S. dollar in the second quarter of this year, an increase from our previous forecast of MXN 20.5 per dollar. Additionally, we expect the exchange rate to conclude in this year around MXN 22 per dollar, an increase from our earlier forecast of MXN 21.2 per dollar. On the inflation front, given the assumed Mexican retaliatory measures and a major pass-through effect from a sharp depreciation of the exchange rate, we have revised our inflation forecast upward. And lastly, in light of the domestic economic slowdown and the recent comments from several Banxico members, we expect the overall board to maintain a dovish stance through the remainder of 2025. As a result, we are anticipating continued policy rates in the coming quarters, projecting that the benchmark rate will conclude at 8.75% by the end of this year.

Ken Wattret  

Thank you. So, let's focus on another subject that's been obviously a hot topic for Mexico: nearshoring. Can you give us an update on what your thinking is on that issue?

Nicolas Suarez  

Since 2023, we have incorporated a nearshoring assumption into our baseline projections, influenced by several factors, including domestic political uncertainty, elevated security and operational risk that negatively affect business sentiment in the country and inadequate infrastructure for water, power and natural gas. The recently approved judiciary reform in Mexico has introduced further uncertainty for new investors, which is reflected in the performance of the new ventures component within the foreign direct investment variable. We can see that in the data from Mexico Central Bank that show us that the new venture inflows in 2024 hit their lowest point since 1999, making up only 0.2% of Mexico's GDP. Furthermore, in recent weeks, several companies that were considering investing or expanding their operations in Mexico have announced plans to either postpone their investment decisions or shift their investments to the U.S. As a result, we expect to see further delays in investment decisions for the remainder of 2025, primarily driven by the uncertainty surrounding the U.S. tariffs and the negative impact of the recent Mexican judiciary reform on business sentiment.

Ken Wattret  

Thank you. So, we're seeing again some common themes here, uncertainty, weaker investment and so on. And we're going to cross the Atlantic now and head to Europe, bringing in Timo to talk again about policy, this time with a more positive slant, the incoming German government's sea change on fiscal policy. So, Timo, the big question, are financial markets right to see this as a game changer with major economic ramifications for Germany and Europe more broadly?

Timo Klein  

Yes. In short, they are right. We're really talking about a strategic change that implies a new willingness to take on also a political leadership role within Europe, which has been somewhat absent in recent years. End of February, we had a general election and there's a change of government is coming, although it's not actually finalized yet. So, as we speak, they're still having coalition negotiations. But even ahead of the formation of the new government, there has been a vote in the outgoing parliament about major off-budget funds, which represent really a huge magnitude of additional public expenditures. And we're talking about over a period of more than a decade, though, we're talking about a volume of somewhere around EUR 1,000 billion for both defense and infrastructure. So, this is — just to give an idea, there's about 1.5% to 2% of GDP per year for the next 10 to 12 years, which obviously has major implications for both growth and public finances. There are guardrails that are being integrated into this new legislation, which actually is also embedded into the constitution. So, it was decided by a 2/3 majority. These guardrails will limit to some extent the potential for these expenditures to be not spent as intended on investment, but partly perhaps on consumption-related purposes. Yes. So, this is a major change.

Ken Wattret  

Thank you, Timo. So again, like with some of the other issues we've talked about, there's a lot to digest. Can you give us a bit more color on the main features of the off-budget funds that are being created, both for defense and for infrastructure?

Timo Klein  

Yes, sure. So, first of all, these 2 off-budget funds we're talking about for defense and infrastructure, they by themselves represent an emergency exemption as they call it, from debt brake requirements. So, in that sense, it's not actually reform of the debt brake itself, but it's basically using the kind of escape clause. The one exception is that within the new plans, the 16 regional states are supposed to also be able to, on a regular basis, have deficits of up to 0.35% of GDP, which matches what the federal government so far has been allowed to do. So just within existing debt brake rules. So, separate from these budget funds that I'm going to talk about more in a second, there is also the plan to actually put in place an expert commission to debate more thoroughly about what additional reforms might have to be done with the debt brake legislation itself. And that will be — supposed to be completed by the end of the year. First of all, the off-budget fund for defense, which stipulates that any defense-related expenditures that exceeds 1.0% of GDP as for comparison, this figure was in 2024, 1.2%. So, it's actually a bit lower. This was supplemented by already an existing off-budget fund since 2022 by 0.8%. So, we had about 2.0% of GDP defense spending last year. Now so any additional defense spending in future above this 1% of GDP in the regular budget can be supplemented with this new off-budget fund or expanded budget fund. And it's important to say this is open-ended. There is not a figure as a cap on this. So basically, depending on the requirements seen on the defense front, this theoretically can be extended without an explicit limit. Now in sum, one can say the additional fiscal stimulus we're talking about here will amount to roughly 1.7% of GDP per year. But it's important to note that, of course, given the fact that such investment takes time to be planned and to be translated into output, this will not impact this year's GDP very much at all yet. We're talking about the full amount not going to be impacting before 2026 or even 2027. One important point to note here as well, in order to ensure that this infrastructure fund only finances investment that exceeds what was already in the budget for public investment last year, a threshold of 10% of the federal budget has been set that needs to be passed before this infrastructure fund can be used for such expenditures. Now that said, there is actually a bit of a gap of about EUR 10 billion between what was spent last year on public investment of roughly EUR 60 billion and the EUR 50 billion that is implied by this 10% rule. So in other words, the EUR 10 billion do provide some additional leeway for spending on, let's say, non-investment purposes within the regular budget.

Ken Wattret  

Thanks, Timo. Once again, there's a lot to digest. So, what would be really helpful is if you could talk us through some of the details on the estimated impacts of all these measures on growth, inflation, debt in Germany, but also more broadly in Europe.

Timo Klein  

I should put a general caveat at the beginning of this because, of course, the magnitude of the impact of this fiscal stimulus on growth — in other words, the fiscal multiplier — depends on many different factors and can vary historically significantly. So, factors influencing this include, for instance, the extent of accompanying structural reforms that can boost productivity. Actually, this kind of issue about structural reforms, this is a major subject of these coalitional negotiations that are still going on at the moment that I would expect to actually last for a few more weeks until — maybe until Easter, maybe until mid-April. So, this is still a lot going on beyond the off-budget funds already being decided. Another factor is, of course, the speed with which production capacity can be increased, especially in construction. We have a skilled labor shortage, which acts as a bottleneck — the question is how fast can capacity be ramped up to actually translate this additional fiscal spending into output. Another factor influencing the multiplier would be political efforts by the government, in this case, especially, of course, the social Democrats to mitigate or offset potential regressive income distribution effects of such structural reforms. So, this could, of course, dilute to some extent the amount of stimulus from investment. Then because of the capacity constraints, of course, there is a high likelihood that at least initially, imports will be boosted because it can't be produced at home fast enough to put those additional funds into good use. So that, by itself, obviously reduces the GDP growth impact simply because of rising imports. And finally, we already saw right on the day of the announcement on March 4 or 5, it was that the euro appreciated quite a lot that long-term interest rates went up by in 1 day more than any time after German reunification, so like about 40 basis points, which is quite a big step for long-term interest rates. And this obviously by itself has a dampening impact. So, it's a bit of an offsetting impact. So, putting all this together, based on the assumption of the fiscal multiplier in a range between 0.5 and 1, we've made the following rough changes to our growth in inflation predictions compared to what we had in mid-February. For this year 2025, we actually stick with the 0.3% growth forecast because we don't believe that much, if anything, can actually already be translated into output this fast. There's a lot of planning having to go on prioritizing and these infrastructure projects and even for defense, this will take time. And this — as I said, the infrastructure program is designated to go until 2036. And if we're then talking about the really long term beyond that time frame, we do expect additional growth from higher total factor productivity. As for inflation, there should be some upward impact, of course, but we think only a modest increase of 0.2, 0.3 percentage points or so because, of course, we do have the stronger euro and the higher long-term interest rates countering inflationary effects to some extent. For the ECB, we therefore, also think that, okay, there will be probably from current level of 2.5%, the policy rate will be cut a couple of times more, but only to 2.0%. Previously, we had a lower terminal rate of 1.75%. So, the fiscal impact, if one assumes additional public sector expenditures of about 2% of GDP per year until 2036, now that would initially, if one just calculates purely mathematically from there, would lead to a debt GDP ratio from 63% at the moment to around 87%. We do expect, though, some offsetting factors. We're talking about higher real and nominal GDP growth than previously assumed, of course, that boosts both tax revenues and it increases the denominator of the ratio, namely GDP, of course, so that the debt GDP ratio at the end of the day stays below 80% — and finally, to wrap it up, there will also be an impact on other European economies, of course, that is very hard to tell in terms of magnitude. But first of all, this looser German fiscal policy will have indirect effects also on the fiscal policy of other European economies that will feel more emboldened now to be looser in their stance with Germany also taking on such a tack. There has been a recent European Commission launch of this Rearm Europe plan, which involves additional exemptions from the procedure for defense spending, which in itself also is expansionary. And finally, any stimulus for German GDP growth is likely in the coming years, will have positive knock-on effects elsewhere on Europe also because of concurrent political pressure to reduce economic dependencies on both China and nowadays also on the U.S. So, there will be positive effects in terms of distribution or supply chains towards other European countries rather than the U.S. or China.

Ken Wattret  

Thank you, Timo. Now we're going to move to Asia Pacific and bring in Hanna. Hanna. So, during the last global macro webcast that we did back in January, we focused on the significant downward revisions to our growth forecast for Mainland China related to changes in tariff assumptions that were made in late 2024. Now since then, there's been lots of announcements both from the U.S. administration targeted to China and also responses from the Chinese authorities. Can you tell us how our forecasts for China have been evolving as a consequence?

Hanna Luchnikava-Schorsch  

Yes, you're right. As we spoke in January, we have highlighted the fact that we lowered our GDP projections for China quite significantly. And the assumptions we made at the time were, as Ben already indicated, that our average effective rate on imports from China would go to 30% over 4 quarters starting from the second quarter of the current year. And we're already at a point where the average effective tariff rate is slightly above that, but just a notch above 30%. At the same time, we are incorporating even a higher tariff rate of reaching 45% by June. And obviously, we have seen tariffs coming into effect much sooner than our initial projections. Now we, in fact, actually saw China's response to the U.S. tariffs being proportionate and measured so far. China has responded to 2 waves of U.S. tariffs of 10% each with some reciprocal announcements on oil products as well as on some of the farm products and that affected about 13% of China's imports from U.S. It also announced a number of symbolic measures like filing complaints with WTO and also put some targeted measures against U.S. companies, including the expansion of its unreliable entities list and export controls on critical minerals. So that is also more or less in line with our initial assumptions. Now there are 2 major factors which are speaking towards the upside if we are talking about the effects in our forecast. And one being the latest developments in the Chinese economy itself. We have seen that the last quarter of the last year was boosted by the stimulus measures, which the authorities put in from about September of last year as well as the front-loading effects of exports in anticipation of tariffs have been boosting merchandise exports from China again in the latest months of 2024. What it's meaning for our GDP for the current year is that it is likely that it might come out a little bit stronger during the first quarter. We see the impact on supply, both in the industrial side of the economy, we see stronger PMIs for January as well as on the demand side of the economy, where the positive developments were seen in housing sales, which turned positive after a long contraction at the end of the last year. We have also seen that the year-on-year contraction in yuan-denominated loans actually ended in January with the level of yuan-denominated loans being the highest since 2015. So, there is a little bit of an impulse and a positive momentum, which will carry into the year, even though we are starting to see the effects of front-loading coming to an end at this point. And then lastly and probably more importantly is that we have seen also the announcements from the Chinese authorities during the latest 2 sessions, which is the most important political event with some of the signals and announcements on the economic front. And there, we have seen that the government has announced additional fiscal stimulus, which is estimated to boost the broad fiscal deficit to around 8.4% of GDP, which is 2 percentage points higher than the 5-year average we have seen as well as the highest amount of fiscal deficit of spending from the time of the COVID pandemic. That is likely to be spent, again, on some of the direct support measures as well as on the general and special purpose government bonds, which are going to be front-loaded and will be spent on programs supporting the recovery of the property sector, the deleveraging of local government debt and some pro-consumption measures, including the trade-in program, which has been doubled in terms of its outreach from the previous year. And our projections estimate that it will add about 1 percentage point to our retail sales forecast going forward. On top of the fiscal stimulus measures announced, we clearly also are seeing that the monetary policy remains accommodative. We're expecting additional 30 basis points of rate cuts during the current year. And all of this is going to contribute again to supporting the GDP growth. But at the same time, of course, tariff measures and trade policy uncertainty remain high, and that is something that is continuing to be a significant downside risk to our current forecast for China.

Ken Wattret  

Thanks, Hanna. Now amid all this uncertainty, India has been a key growth engine. But since September last year, we've been hearing about signs of slowing momentum there and now India might also be affected by the U.S.'s proposed reciprocal tariffs. So do we see its position as the world's fastest-growing large economy potentially at risk?

Hanna Luchnikava-Schorsch  

So, our analysis shows that indeed, India is among the most vulnerable economies to the proposed reciprocal tariff plan from the U.S. administration. Now of course, there is still a lot of uncertainty regarding the extent, timing of its implementation. But just going by the WTO data and comparing across different economies, the exposure to U.S. exports as well as the tariff differential between the country in question and the U.S. Again, India stands out to be one of the most affected if they come into effect fully. But of course, on one end, we see that India's authorities are very keen on negotiating some trade concessions from the U.S. We have seen already a number of announcements with India being willing to increase its imports of defense and energy products from the U.S. It also already announced a number of reductions in tariffs and is also willing to negotiate a trade agreement by September of the current year. And then on the other hand, India is one of the economies which is less sensitive to exports and external demand and is more driven by the domestic demand. And on this front, what we have seen so far is that indeed, the momentum has been slowing. We have seen that the September quarter of 2024 year actually slowed year-on-year in terms of real GDP growth from the rates as high as 9% seen during the fiscal year 2023. Now again, we have seen that the economy improved slightly during the December quarter, thanks to the government capital spending. And we are also anticipating that going forward, the fact that inflation — consumer price inflation — has started coming down again as well as that the government has announced a number of fiscal support measures in the latest budget, including the tax cuts. There will be additional support to the economy. The central bank, Reserve Bank of India, also has started easing monetary policy in February and is likely to cut interest rates at least once more this year. And combined, all of these measures should basically sustain the level of real GDP growth at the same level as in the past year. So, we are projecting India to grow at 6.4% during the fiscal year 2025 and slow to 6.2% in the fiscal year 2026.

Ken Wattret  

Thank you, Hanna. Thanks, everybody. We're out of time. Thanks to today's speakers, but most of all, thank you for taking the time to engage with us during these highly uncertain times. Goodbye for now.

Kristen Hallam  

Thank you for listening to The Decisive podcast from S&P Global.