Global Economic Overview – February 2025

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• Global

  The first month of the new US administration has been met by a sharp rise in global uncertainty, with tariff and geopolitical noises leaving US allies alarmed. Certainly, European capitals have been unnerved by President Trump’s comments on Ukraine and the impact on its security given the direction of US policy. At this point it is hard to determine whether the US pronouncements represent a negotiating position or whether there is a tectonic shift in the geopolitical post-war order of peace. For Ukraine the risks are clear, Taiwan may also be wondering how firm the US commitment to its defence is. Whilst for Europe there is the stark reality that it must significantly lift defence spending, reportedly at a minimum of €500bn over the next 10 years*. This is at a time when fiscal positions are already challenging.

  Chart 1: Changing geopolitical dynamics puts defence spending in the spotlight

  

  *European Commission President Ursula von der Leyen
  Source: Macrobond, NATO, IMF, Investec Economics

  Tariffs, which would have a more visible macroeconomic impact however remain a clear risk too. Thus far Trump has enacted a cumulative 20% tariff on China and 25% tariffs on Canada* and Mexico, resulting in immediate retaliation from the former two. Indeed, risks of more stringent measures are building with 25% tariffs on the EU being threatened and the blanket 25% rate on steel and aluminium due on 12 March. As such, current policy as it stands is more severe than our 10% universal tariff assumption. But given suggestions from White House officials that Trump could still be open to rolling back tariffs through negotiation the situation is far from certain, and we are hesitant to revise our baseline view just yet but acknowledge the risk that the trade war escalates beyond our initial assumptions.

  Chart 2: Countries most exposed to new US steel tariffs

  

  Source: Macrobond, Census Bureau, Investec Economics

  Trump has also signed a memo on ‘Reciprocal Trade and Tariffs’ which poses another more global threat. This will seek to determine reciprocal tariffs on all trading partners, with the scope for these measures going beyond tariffs to anything which is deemed unfair to US trade. As a simple example, on tariffs alone, this could see the average tariff on Indian imports rise to 9.5%, equalising it with that applied to US exports into India. Tariffs of such a global nature would raise the risk of escalatory measures. For example, the EU has already formulated countermeasures to Trump’s steel and aluminium tariffs covering $14bn of US goods. However whilst most analysis has focused on goods trade, there is a risk that services gets sucked into a trade war.

  Chart 3: US trade study to consider reciprocal tariffs and possibly more

  

  Source: FT, WITS, Investec Economics 

  In this regard it is notable that the EU is reportedly drawing up plans to use its Anti-Coercion Instrument^#, introduced in Dec-2023 possibly to target big US tech firms in retaliation to escalatory US tariff action. The fact of the matter is that the situation remains in flux and extremely uncertain. This in itself we suspect will have a dampening effect on activity even before tariffs are enforced as investment is delayed until the situation becomes clearer. We also are not convinced that that the rebound in several of the manufacturing PMIs, for example the Euro area’s, represents a genuine turnaround in the sector. Instead, we believe that this represents a degree of frontloading orders ahead of anticipated tariffs and that the underlying picture remains weak.  

  Chart 4: Economic policy uncertainty continues to rise

  

  ^#EU tool to deter and respond to economic coercion, countermeasures include tariffs, restrictions on trade in services and trade-related aspects of intellectual property rights
  Source: Macrobond, Investec Economics

  Our global growth forecasts for 2025 and 2026 are unchanged from January at 3.2% and 3.1% respectively, albeit with some minor revisions. The Euro area is downgraded to 1.0% in 2025. In contrast the UK has been upgraded, as has Japan to 1.4% on account of a strong Q4 and positive back revisions. China meanwhile is unchanged at 4.9% (2025) and 4.2% (2026) having met the government’s 5% GDP target in 2024. However whilst we have not altered our global growth forecasts the balance of risks are clearly tilted to the downside and rising in the face of what could be a more aggressive US trade policy than what we currently assume. Certainly, Trump’s 25% EU tariff threat would be more severe than we have assumed.

  Chart 5: Global growth forecasts unchanged but downside risks are rising

  

  Source: Investec Economics

  Trump trades of rising equities, firmer Treasury yields and a strong dollar had largely played out since November’s election: the S&P500 peaked at 6144, 10y yields hit 4.81%, whilst the USD at one point was 4% up from pre-election levels. However the last few weeks have seen a shift; the S&P 500 is now back below 6000, notably underperforming European indices year-to-date. The dollar is 2.3% off its highs and 10y Treasury yields have fallen back to 4.28%. Is this the end of the Trump trade? Markets may have extrapolated the low number of tariffs actually implemented so far as a signal that policy may be more benign that initially thought. But with Canadian and Mexican tariffs looking likely, as well as reciprocal tariffs, we suspect USD and Treasury yields will rebound given the implications for inflation. As such we maintain our baseline view of 10y UST yields trending back to 5% this year and €:$ hitting parity.

  Chart 6: ‘Trump trade’ performance since 4 Nov

  

  Source: Macrobond, Investec Economics

• United States

  As expected, US tariff news has dominated many of the headlines during the past month. The Trump administration added 10% (pts) on imports from China and threatened a 25% tariff on goods from Canada and Mexico, with Canadian energy imports taxed at a smaller 10%. These were due to take effect on 4 February but were delayed by 28 days following promises by both governments to tighten up their border security. Additionally President Trump moved to impose 25% tariffs on steel and aluminium, starting 12 March. Last, the US is considering placing ‘reciprocal’ tariffs on trading partners after a technical review is completed on 1 April, which will also consider factors such as non-tariff trade restrictions, including unduly onerous regulations.

  Chart 7: Tariffs – still at the start, but much in progress

  

  Source: Various news outlets, Macrobond, Investec Economics

  More granularity on Trump's trade policies would yield some clarity on the overall likely effects - US shares of goods imports by country are shown in Chart 8. But even if we knew all the tariff details on countries and individual product lines, the impact on inflation would still be uncertain given firms’ attempts to mitigate costs by sourcing imports from elsewhere (although those might not be any cheaper). Companies could also try to absorb some of the extra costs in their profit margins. Indeed in its January World Economic Outlook update, the IMF claimed that in general, tariff pass throughs to import costs were considerable, but that the impact on consumer prices tended to be lower though ‘subject to significant uncertainty’.

  Chart 8: US imports of goods by country/area

  

  *2023 data.
  Source: Census Bureau, Investec Economics

  Even in the pre-tariff environment, inflation progress to target had slowed. In January, the core CPI index rose by a hefty 0.4% (+0.446%) on the month. Some claim that the series contains ‘residual seasonality’ i.e. that seasonal adjustment does not fully filter out re-occurring price movements in individual months, perhaps as more firms now adjust their prices in January. Chart 9 suggests that there is an effect at the start of the year, albeit modest. Taking the past decade, January’s seasonally adjusted monthly increase averages 0.05% above that for the other months in the prior year. Over five years, the difference is actually a touch smaller, at +0.03%, so a January effect has not become more pronounced recently. But this misses the bigger picture, namely that over a year, the seasonals sum to zero and that January’s annual rise of 3.3% confirms that the decline in core CPI inflation has stalled since June.

  Chart 9: M/m rise in core CPI (seasonally adjusted) – differences from average over the year

  

  Source: BEA, Macrobond, Investec Economics

  With the Fed funds target range at 4.25%-4.50%, the FOMC is now firmly in pause mode, partly due to the recent stubbornness of inflation, but also on account of the question marks posed by trade (and migration) policy. We still forecast the next reduction in rates in December, by which time we expect the economy to have slowed and the Fed to be more confident that a tariff-induced rise in inflation is not leading to a material jump in pay deals. Interest rate futures are pricing in 1-2 25bp cuts this year. But this masks a high degree of uncertainty. The Atlanta Fed, which calculates market derived probabilities of various outcomes from options prices, estimates that markets are pricing in a 15% risk of a hike this year, but also a 22% chance of rates coming down by 75bps or more over the period (Chart 10).

  Chart 10: Atlanta Fed probability tracker shows wide of range of possible rate outcomes

  

  Source: Atlanta Fed Market Probability Tracker, Macrobond, Investec Economics

  Official data show the economy remaining solid. Total Q4 GDP growth was softer than expected at an annualised 2.3% but ‘final sales’ (GDP ex-stockbuilding) up by 3.2%. The Fed’s favoured measure of underlying momentum (consumption plus private investment) rose by 2.7%. We still expect the economy to cool through the year, thanks to: i) a continued restrictive stance of monetary policy; ii) tariff increases pushing up prices and eroding real incomes; and iii) a step up in deportations hitting the supply of labour. Our GDP forecasts are very similar to those in January at 1.9% this year (unrevised) and 1.6% for 2026 (was 1.5%). Nowcasts from three regional Federal Reserve banks are generally not pointing towards a material slowdown in Q1 (Chart 11). 
  

  Chart 11: Headline GDP v real private domestic final purchases

  

  Source: Atlanta Fed, NY Fed, St. Louis Fed, Macrobond, Investec Economics

  That said, February’s ‘flash’ composite S&P PMI plunged to a 17-month low of 50.4. The services index fell to 49.7, below the 50 ‘breakeven’ level for the first time since January 2023. Meanwhile the manufacturing PMI was probably boosted by firms ‘front-running’ tariff increases, which points to a future retracement as the process is complete, even if import duties do not in the end rise sharply. According to survey compilers S&P, respondents cited ‘a darkening picture of heightened uncertainty’. While this survey does not (yet) change our baseline forecasts, it is plausible that a slowdown has begun. If so, this would tend to encourage the FOMC to ease earlier, giving a softer USD and 10y Treasury yields peaking below our current central view of 5.0% this year.

  Chart 12: Flash PMIs have weakened in February – the narrative was negative too

  

  Source: S&P Global, Macrobond, Investec Economics

• Eurozone

  In the Q4 GDP press release, Eurostat described growth in the Eurozone as ‘stable’, but despite the upward revision from flat to +0.1% q/q we think a better description is ‘stagnant’. But the problem facing policymakers now is where growth is going to come from. Global uncertainty is elevated, likely supressing consumption and investment, exports are at risk from US President Trump's tariff policies and there is pressure to tighten fiscal policy. Indeed seven EU states are facing Excessive Deficit Procedure (EDP) recommendations from the EU Commission to reduce budget deficits. One of these is France. The French government has survived six no-confidence votes in two and a half months, but it did manage to pass a budget, bringing relative stability for the time being.

  Chart 13: GDP in Q4 by country - some Southern European economies are doing well

  

  Note Q4 data not yet available for Greece, Croatia, Luxembourg, Latvia and Malta
  Source: Eurostat, Macrobond, Investec Economics

  However, despite aiming to cut the budget deficit to 5.4% of GDP (from 6.1% in ‘24), meeting EDP recommendations, France’s ‘25 budget has been drawn up on optimistic growth forecasts. This leaves a risk of fiscal slippage: extra fiscal tightening could be required, capping growth. In turn, political instability may also reappear. Germany is also grappling with fiscal policy, albeit from the perspective of trying to loosen its own rules. There were calls for reforms to the constitutional debt brake in the run up to the Bundestag elections, but there is no easy path to this. The results of the election put the CDU/CSU on top with 28.5% of votes, the AfD second with 20.8% and the SPD third with 16.4%.

  Chart 14: A failed no-confidence vote allowed the French budget to go through

  

  NFP and Ensemble are political alliances in the National Assembly.
  Source: The FT, Macrobond, Investec Economics

  Crucially though neither the FDP nor the far-left BSW reached the 5% minimum vote share required to enter parliament, so  the CDU/CSU can combine with just the SPD to form a governing coalition (mainstream parties maintained their vow not to include the AfD in government). However, with 329 out of 630 seats, such a coalition would fall short of the 2/3 majority required for constitutional changes needed to relax or scrap the debt brake. Theoretically there could be a majority in favour of debt brake reform in the outgoing Bundestag. With the new parliament not convening until 25 March, there could still be time to push through reforms to the debt brake. Although being considered by incoming Chancellor Merz, this would be unorthodox, with a high chance that the constitutional court would throw it out. The Bundesbank has promised a suggestion within the next two weeks of how the debt brake could be altered.

  Chart 15: A prospective ‘Coke Zero’ (Black/Red) coalition is feasible after the German elections

  

  Source: The Federal Returning Officer, Investec Economics

  With fiscal policy overall probably acting as a headwind to growth for the foreseeable future, stimulating the Eurozone economy remains dependent on monetary policy. Despite having loosened policy by a cumulative 125bps since the summer, as ECB President Christine Lagarde pointed out at last month’s Governing Council meeting, policy remains restrictive and the trajectory of rates looks set to be downward from here. Indeed, a paper published by the ECB earlier this month estimates the neutral level of the Deposit rate to be between 1.75-2.25%, implying that with the current level of the Deposit rate at 2.75% there is clear scope for further rate cuts. Less certain is the pace and size of those cuts, which is still very much dependent on the data, and questions remain over where rates will settle.

  Chart 16: ECB estimates of r* point to room for further rate cuts

  

  Source: ECB, Macrobond, Investec Economics

  We maintain our baseline view that the ECB will continue with back-to-back cuts until the summer before slowing the pace of easing in the second half of the year, taking the Deposit rate below neutral to 1.50% by end-‘25. We judge that the weak growth backdrop, coupled with confidence that inflation is on course to reach the 2% target sustainably (with a risk that it will undershoot), warrants an accommodative policy stance. Indeed the outturn for both headline and core HICP in Q4 last year was below the ECB’s December staff projections. Our own forecasts point to inflation at target by this July, paving the way for cuts. But we do acknowledge the cloud of uncertainty hanging over the rate outlook from President Trump’s trade policies, with the total impact on inflation and growth still highly uncertain. 

  Chart 17: Inflation has fallen faster than ECB forecasts in Q4, and more disinflation looks likely

  

  Source: ECB, Macrobond, Investec Economics

  Markets seemingly consider the imposition of US tariffs to have been less severe than expected, at least so far. Moreover recent survey data (see US section) have fuelled fears of an abrupt US slowdown. The result has been a recovery in the Euro to around $1.05 against USD from a low of below $1.015 earlier this month. We expect markets to fret more over tariffs and their effect on the global economy in the coming weeks. Furthermore, although risks of a confidence hit exist, we consider recent fears over the US economy suddenly falling off a cliff to be overdone. We still expect EUR:USD to reach parity soon before recovering towards $1.03 by end-‘25 (and $1.10 by end-‘26) as US growth weakens and the Fed cuts more.

  Chart 18: EURUSD should still drop to parity in the near term before a rebound later on  

  

  Source: Macrobond, Investec Economics

• United Kingdom

  Fears that the UK economy entered a technical recession in H2 ’24 proved unfounded, at least on the current vintage of data: December’s 0.4% month-on-month bounce exceeded the consensus and our own forecast (both +0.1%). This also provides helpful base effects for Q1 GDP growth. Indeed, as a result, we have revised up our full-year forecast for 2025 by 0.2%pts to +1.0% (2026 stays at 1.7%). Beneath the surface though, the picture is of a two-tier economy. We calculate that total GDP growth in 2023 and 2024 (+0.4% and +0.9%) has been mainly driven by rising value-added in the public sector* (+1.4% and +2.2%), whereas the private sector has lagged far behind (+0.1% and +0.5%) (Chart 19). We wonder whether this has implications for reported productivity too.

  Chart 19: GDP growth in the private sector has lagged behind that in the public sector recently

  

  * Public admin & defence, education, human health & social work    Source: ONS, Macrobond, Investec Economics

  The latest published data on overall productivity certainly look worrisome: in ’23 and ‘24 hourly labour productivity fell by 0.4% and 1.1%, respectively. But these figures are derived using unreliable numbers from the Labour Force Survey (LFS). The ONS has estimated an alternative measure incorporating data from HMRC real-time data on employees too. This unfortunately shows an even weaker performance (-1.0% and -0.9% for ’23 and ’24; Chart 20). But it is far from definitive. We take a slightly different perspective. Public sector work is often labour intensive and can, by its nature, not achieve the same productivity gains as the total economy (e.g. social care). Therefore, the recent outperformance of public-sector GDP will naturally have pulled down whole-economy average productivity growth. When this sectoral divergence ends, total productivity may rise.

  Chart 20: Labour productivity has performed very poorly in the last few years, as per ONS data

  

  Source: ONS, Macrobond, Investec Economics

  We have previously noted that the UK may be less exposed to US goods tariffs than other countries. Our baseline assumption on tariffs has not changed materially this month. But we have become more concerned that the uncertainty caused by President Trump putting into question some of the foundations underpinning the current setup of the global economy – and of European security – could cause firms hesitate to invest. As in the past, planned investment in plant & machinery in the coming year has weakened amid higher economic policy uncertainty, as per the CBI survey (Chart 21). That said, higher defence spending, for instance, could go the other way. Hence for now our UK baseline forecasts do not incorporate a negative confidence effect.

  Chart 21: Investment intentions have plummeted amid rising economic policy uncertainty

  

  Source: CBI, Economic Policy Uncertainty, Macrobond, Investec Economics

  When it comes to inflation, January’s data were a mixed bag. The Bank of England had expected a 0.3%pt rise in inflation to 2.8% year-on-year; instead, it increased to 3.0%. That disappointment though was more than explained by high food price inflation. More reassuring was that services inflation rebounded to 5.0% i.e. its November level rather than the 5.2% the Bank had as its baseline case. Looking ahead, we foresee a couple of months of slightly softer inflation but then a step up in April to a plateau that could extend through Q3. The bulk of this reflects expected utility price moves though. Within ‘core’ inflation, even with the upcoming employer National Insurance Contribution and minimum wage rises, we envisage a gentle downward trend (Chart 22).

  Chart 22: Inflation looks set to rise to a higher plateau in Q2 and Q3 but should then fall

  

  Source: ONS, Macrobond, Investec Economics

  Perhaps most importantly, we expect services inflation to ease visibly more than in the Bank’s baseline case (Chart 23). At the last MPC meeting, the majority who voted for a 25bp cut was split into two distinct camps: one that wished to be careful – favouring further gradual cuts but being mindful of two-sided risks to inflation – and one that advocated caution – concerned that weak productivity meant limited spare capacity despite anaemic growth. If our view that productivity will recover proves right, those latter worries should fade, giving room for further careful once-a-quarter cuts that would bring the Bank rate to 3.75% by end-’25 and 3.00% by end’26, lower than priced in. We do, however, acknowledge that there could be fewer cuts after all if the productivity improvements we forecast fail to materialise.

  Chart 23: The Bank of England’s services inflation forecast looks too pessimistic to us

  

  Source: Bank of England, ONS, Macrobond, Investec Economics

  After a fraught start to the year, when concerns about the UK economy had mounted amid fears that more tax rises may be needed, sterling has staged a recovery. Gains have been visible not just against a generally softer USD but also against EUR; against the latter, GBP is broadly back to its December levels (Chart 24). We expect sterling’s improved levels against EUR to be broadly maintained this year, predicting an end-’25 level of 82p (though we see end-’26 at 85p, on lower UK but by then rising EUR policy rates). However, we see GBP temporarily losing some ground against USD in the next months if US tariffs widen from current levels. Still, by end-’25 and end-’26, a weaker US economy putting US rate cuts back on the agenda may lead GBPUSD up to $1.25 and $1.30, respectively.

  Chart 24: Sterling has overcome its January wobble, but may fall against USD in the near term

  

  Source: Macrobond, Investec Economics

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