A new horizon: The economic outlook in a new leadership and policy era

Summary

The economic aftershocks of the COVID pandemic, which have dominated the economic landscape over the past few years, are steadily dissipating. These pandemic-induced economic effects are set to be largely supplanted by economic policy changes that are on the horizon in the United States.

The American president can act largely unilaterally when it comes to changes in trade policy. During his campaign for the presidency, Donald Trump promised to impose a 10% across-the-board tariff on U.S. trading partners with 60% levied on China. Although the magnitude and timing of any actual tariff hikes are uncertain, we expect the Trump administration will indeed impose some levies on American trading partners. By raising consumer prices, tariffs impart a modest stagflationary shock to an economy.

We have bumped up our forecast of inflation for next year, while shaving down our real GDP growth forecast. We still expect the Federal Reserve to ease monetary policy further, but we believe the target range for the federal funds rate will be 50 bps higher at the end of 2025 than we did previously.

Republicans will control both chambers of Congress beginning in the new year. We expect Congress to fully extend the tax cuts that were legislated in the 2017 Tax Cuts and Jobs Act, which are set to expire at the end of 2025. But extension of the tax cuts does not impart fiscal stimulus to the economy, because extension would simply prevent tax rates from reverting to their higher pre-2017 levels. That noted, we expect Congress to legislate some additional tax relief next year, which should help to boost real GDP growth in 2026.

Not only will tariffs weigh on U.S. real GDP growth next year, but economies with significant export exposure to the United States likely will be negatively affected as well. Under our tariff assumptions, we forecast the global economy will grow only 2.5% in 2025, down from 3% in 2024.

We look for a significant amount of monetary easing next year by many major foreign central banks, including the European Central Bank, the Bank of England and the Bank of Canada. As interest rate differentials move in favor of the greenback, we look for the trade-weighted value of the U.S. dollar to rise to its highest level in more than 20 years in the coming quarters.

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