(Editor's note: This report, first published on March 24, 2025, in a statement on tariff differentials with the U.S., had not taken into account the impact of the Korea-U.S. Free Trade Agreement. A corrected version follows.)

Asia-Pacific economies will feel the strain of rising U.S. tariffs specifically and a pushback on globalization more generally. However, we see domestic demand momentum broadly holding up, especially in the region's emerging-market economies.

While we have revised many of our GDP projections downward, these revisions were mostly minor. Given the volume of policy measures and external pressures hitting Asia-Pacific, the robustness of our forecasts underscores the resilience of the regional economies.

The New U.S. Government Ramps Up Tariffs And Uncertainty

The Trump administration is changing U.S. economic policy in key areas. Domestically, immigration reduction, deregulation and cuts to taxes and government spending are in focus.

Externally, U.S. import tariffs are rising across the board. So far the new U.S. government has imposed:

• An additional 20% tariff on imports from China;
• 25% levies on some imports from Canada and Mexico, with levies on other products postponed for a month; and
• A global 25% tariff on steel and aluminum.

The U.S. has also announced an intention to impose "reciprocal tariffs" and tariffs on cars, semiconductors and pharmaceuticals.

In our view, the import tariffs will lower growth in the U.S. and abroad, and raise U.S. inflation. In all, we now expect the U.S. Federal Reserve to cut its policy rate by 25 basis points (bp) only one time in 2025, at the end, and make three such cuts in 2026.

The heightened uncertainty about U.S. economic policy and its impact, notably around tariffs, is weighing on investment in the U.S. and elsewhere.

Plans for major increases in European spending on defense and infrastructure (in Germany) should support growth from 2026 onwards.

Amid U.S. Tariff Action, China's Growth Ambitions Prompt Stimulus

The U.S. tariff hikes on China's exports will weigh on its economy. We had incorporated 10% U.S. tariffs in our November baseline, implying an effective U.S. tariff on Chinese exports of about 25%.

The additional 10% levies will bring the effective rate to about 35%. That will depress China's growth via lower exports, investment and other spillover effects.

There are offsetting factors:

• Chinese growth at the end of 2024 was better than we had expected due to policy support, a tentative bottoming out of the property sector and strong exports. This lifts 2025 growth even as 'organic' domestic demand has remained soft.
• The country's official 2025 growth goal and fiscal stimulus are more ambitious than we expected in November. At the National People's Congress in March 2025, the government said it targeted a 5% GDP expansion this year and committed to a rise in the official government deficit and increased special government bond issuance over last year.

In all, we have kept our GDP growth forecast for China broadly unchanged. We project 4.1% growth in 2025 and 3.8% in 2026. Because of the above changes, we adjusted the composition of growth in 2025, and now expect weaker exports and stronger domestic demand.

In our view, structural factors will prolong the downward pressure on prices in China. Amid excess capacity in many sectors, declines in the producer price index (PPI) and strains on profit margins have remained. The PPI fell 2.2% year-on-year in February, and consumer prices dropped 0.7% (see chart 1).

Sectors with overcapacity continue to attract investment, and many lossmaking companies won't cut supply or otherwise retreat. In our view, this is due to interference by local governments, the patience of capital providers and corporate strategies that sometimes prioritize market share over profit.

At the National People's Congress the government called for measures to reduce cutthroat competition. However, we don't expect fast resolution to this situation. Consumer inflation should stay low through 2026.

The subdued growth and inflation outlook weighs on bond yields. The 10-year government bond yield has picked up after bottoming out at a record-low 1.6% in January (see chart 2). Yields on this benchmark bond had been steadily dropping since October 2024.

Chart 1

Chart 2

Reflecting the subdued outlook for organic growth and inflation, the government has called for a "moderately loose" monetary policy for the first time since 2011. Also, the People's Bank of China (PBoC) has lowered its inflation target to 2%, from 3%.

The revision of the outlook for U.S. policy rates compared to November 2024 has, in our view, reduced the PBoC's leeway to cut interest rates. As confirmed by recent statements and actions, it is keen to prevent significant renminbi weakening against the U.S. dollar.

We now expect China's central bank to cut its policy rate by 20 bp in 2025, which is 20 bp less than we assumed previously. Still, we expect policymakers to strive for solid credit growth.

China faces external and domestic risks. U.S. trade policy remains a key question. Downside risks around the U.S. economy are rising, which would hit the global economy. Some upside risks have emerged with respect to eurozone growth.

Domestically, the key questions are the timing and nature of China's eventual property market stabilization and prospects for consumption.

U.S. Tariffs Will Weigh On Asia-Pacific Economies, Not Choke Them

Growth across Asia-Pacific generally held up through to end-2024. GDP gains in the fourth quarter were better than we expected in Australia, India, Japan, the Philippines, Singapore, Taiwan and Vietnam. They were weaker than we expected in Malaysia, South Korea and Thailand. In the other economies gains were broadly in line with our expectations.

Monthly indicators on exports and industrial production in early 2025 are mixed. In many Asia-Pacific economies they are hard to interpret anyway because of the shifting timing of the Lunar New Year, year to year.

Several Asia-Pacific economies are likely to face direct U.S. tariffs. One reason is the U.S. plan to raise tariffs on cars, pharmaceuticals and semiconductors. We assume the U.S. will impose a 10% levy on these imports.

The hit on GDP growth should be most significant for Malaysia (because of semiconductors), Singapore (mainly due to pharmaceutical products), and South Korea (mainly because of automobiles).

In addition, the U.S. administration's "Fair and Reciprocal Plan" calls for country-specific tariffs. The size and targets of these tariffs are unclear, given the broad range of criteria and ample room for interpretation (see "Asia-Pacific Economies Likely To Be Hit By U.S. Trade Tariffs," published Feb. 21, 2025, on RatingsDirect).

Our forecast assumes the U.S. will increase tariffs in line with the extent to which trade partners' effective tariffs exceed those of the U.S. We assume no reduction where U.S. tariffs are higher.

Under that assumption, Thailand would face the largest impact on GDP growth, because its tariff differential is significant and exports to the U.S. are large relative to the size of the economy.

Some Asia-Pacific economies will be affected less by U.S. tariffs than others.

• Australia, Indonesia, New Zealand and the Philippines should be less at risk of U.S. tariffs, as they generally have low import tariffs, no major bilateral goods surplus with the U.S., nor significant exports to the U.S. of the three product groups noted above.
• As tariffs tend to be levied on goods, trade will be more resilient in economies where a substantial share of exports is of services. This is the case for the Philippines and, especially, India.
• For some economies, the competitiveness of their exporters in the U.S. market improved somewhat due to the tariffs on China.

Still, all of Asia-Pacific will feel the indirect impact of tariff turmoil. Slower growth internationally as a result of trade friction and the associated uncertainty will weigh on exports. Also, Asian manufacturers will feel pressure from Chinese manufacturers, as Chinese producers seek alternatives to the U.S. market.

Domestic demand will provide some offsets

Despite these external strains, we generally project domestic demand momentum to remain solid, especially in most emerging-market economies. This is important, given the large role that domestic demand plays nowadays in most Asia-Pacific economies.

India's GDP will grow 6.5% in the fiscal year ending March 31, 2026, we expect. Our forecast is the same as the outcome for the previous fiscal year, but less than our earlier forecast of 6.7%. This assumes the upcoming monsoon season will be normal and that commodity--especially crude--prices will be soft. Cooling food inflation, the tax benefits announced in the country's budget for the fiscal year ending March 2026, and lower borrowing costs will support discretionary consumption.

In all, we have reduced our 2025 growth forecasts, but only modestly (see chart 3). The exceptions are South Korea and New Zealand. In South Korea, a weak finish to 2024 and significant expected impact from U.S. tariffs have led us to reduce our 2025 GDP growth forecast by 0.8 percentage points to 1.2%.

In New Zealand, weak activity in the second half of 2024 also sapped momentum from 2025 growth, while uncertainty and weak domestic demand delay the recovery.

Chart 3

Interest Rates To Fall As Growth Focus Outweighs Inflation Worries

With U.S. policy interest rates likely to stay elevated for longer, Asian currencies stand to weaken if central banks cut policy rates. Indeed, interest rate differentials with the U.S. generally remain unfavorable, especially in China, Japan, Taiwan, and Thailand.

However, as the growth outlook softens and inflation likely stays moderate, we think central bankers will increasingly be willing to risk some currency depreciation and cut policy rates anyway.

Central banks have already cut policy rates this year in Australia, India, Indonesia, New Zealand, South Korea, Taiwan and Thailand. All cuts were by 25 bp, except in New Zealand, where it was by 50 bp. We expect rate cuts to continue across the board through this year (see chart 4).

The Reserve Bank of India will cut interest rates by another 75 bp-100 bp in the current cycle, we project. Easing food inflation and lower crude prices will move headline inflation closer to the central bank target of 4% in the fiscal year ending March 2026 and fiscal policy is contained.

Emerging Southeast Asia central banks are likely to ease interest rates further this year. Inflation across the region is low and output gaps have closed. However, the pace of easing will be constrained by the elevated U.S. interest rates.

In Australia, we see only moderate policy-rate cuts this year. Consumer price inflation has receded. However, a tight labor market and the expiration of government subsidies should push up headline inflation through 2025. That will make it hard for the central bank to cut rates significantly--we expect one more cut in 2025.

In Japan, barring major global shocks, conditions seem in place for the Bank of Japan to gradually raise its policy rate. So-called core-core consumer inflation (excluding fresh food and energy) was 2.6% in February. Wage growth is on the rise, as confirmed by the 5.4% average increase agreed so far during the spring round of wage negotiations, where the initial agreements are mainly with larger firms. Fourth quarter GDP growth was better than we had expected. We have revised up our policy rate forecast for 2026 and 2027, and now expect it to reach 1.5%--our estimate for Japan's neutral rate--by end-2027.

Chart 4

Increases in U.S. tariffs, uncertainty about them, and pushback on globalization generally are weighing on the economies in Asia-Pacific. The region has benefited a lot from free trade and globalization. Still, many Asia-Pacific economies have become less dependent on exports over the past two decades. With domestic demand momentum likely to broadly hold up, we expect the hit to overall growth this year to be contained in most economies.

Appendix

Table 1

Table 2

Table 3

Table 4

Table 5

Editor: Jasper Moiseiwitsch

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