Economic and financial risk insights: no New Year's resolution for bond markets

• Growth: US momentum to persist, but the global business cycle is closer to late stage with greater downside risks in Europe and China.
• Inflation: US inflation will remain above the 2% central bank target until 2026, but the euro area won't. Policy changes could delay the global disinflation process.
• Interest rates: the ECB is expected to ease policy more aggressively than the Fed. Fiscal and inflation concerns in the US will keep bond yields in both regions elevated this year.

Potential US tariffs add downside risk to a benign 2025. We see the US outperforming again with real GDP growth of 2.2% this year, more than double our forecast for the euro area. The US jobs report for December 2024 reaffirmed our positive outlook as the economy added 256 000 jobs (see Figure 1) and the unemployment rate fell 0.1ppt to 4.1%.

Figure 1: US nonfarm payroll growth

We expect the new US administration to prioritise trade and immigration policies in its first 100 days, which would add downside risk to global growth and raise policy uncertainty (see Figure 2).

Figure 2: Economic policy uncertainty

In the euro area, trade tensions with the US may undermine business confidence and growth momentum. We expect divergence between regions to persist. In Europe, the German auto sector is exposed to higher tariffs and weak demand from China, while France navigates political turmoil while traditional periphery economies (Spain, Italy) are finding firmer footing (see Figure 3).

Figure 3: Euro area composite PMIs

We remain cautious about a rebound in headline PMIs in China, as the contributing factors are mixed, with strength partly reflecting a temporary holiday effect and frontloaded trade ahead of higher tariffs.

US public policy proposals imply stickier inflation this year. Tariff and immigration policy uncertainty adds further upside risk to our inflation forecasts this year, delaying a return to the Fed's 2% target on average until 2026. US core CPI inflation remains sticky but moderated slightly to 3.2% (see Figure 4), and was unchanged in the euro area too at 2.7% in December.

Figure 4: US core CPI measures, YoY growth

However, reverse base effects in both the US and euro area will lend downward pressure to annual inflation rates in Q1. In China, we see low inflation (CPI: 0.2%, PPI: -2.2%, 2024), due to below-trend domestic demand and the correction in the real estate sector. 

Global rise in bond yields is challenging central bank goals.  After 100bps of rate cuts in 2024, the FOMC projects just two cuts this year due to inflation risk, in line with our own forecast. Global bond markets have sold off in response: the US 10y Treasury yield has risen by 120bps since the start of the Fed's easing cycle.

The ECB enjoys more leeway to reduce rates given Europe's more benign inflation outlook. We forecast consecutive rate cuts this year through June to reduce the depo rate to 2%. In China, a record-low 10y bond yield raises concerns over its near- and medium-term economic prospects and suggests downside risk to our year-end yield forecast. 

A benign global growth outlook in 2025 and gradual but divergent disinflation. Downside risks dominate as new US government policies may hamper global growth and raise inflation and interest rates.

Swiss Re Institute key forecasts for 2025 and 2026