US resilience, US risks

US resilience, US risks

The global economy has proved unexpectedly resilient in the face of US tariffs and geopolitical uncertainties this year. Last week the IMF upgraded its forecasts for global growth, reversing the sizeable downgrade it made in April following the initial US tariff announcements. The IMF now expect the global economy to expand by 3.2% this year, only slightly slower than the 3.3% expansion in 2024. Growth is forecast to slow only slightly in 2026 to 3.1%.

• The IMF attribute this resilience to lower US tariffs than initially threatened, the absence of retaliation by other countries, easy financial conditions, the adaptability of the private sector and good growth in emerging markets.

• Improved prospects for the US explain much of the upgrade to the IMF’s global growth forecast. Since a sharp contraction in the first quarter (in part due to distortions from a surge in imports designed to pre-empt tariffs), the US has bounced back, recording solid growth in the second quarter. High-frequency business surveys show continued momentum through to September.

• The IMF now expects growth in the US to slow to 2.0% this year and 2.1% in 2026, down from 2.8% in 2024. It is a material slowdown, but significantly better than though likely in April.

• By any measure, this sort of outcome would count as a soft landing for the US economy. To achieve it, the US economy will need to navigate five risks.

• The first is tariffs. The US economy has not yet felt the full effect of tariffs. Consumers have been shielded from tariffs by companies selling stockpiled goods free of tariffs, the administration’s 90-day pause in the application of tariffs and the willingness of corporates to absorb a significant share of extra costs in slimmer margins. As a result, the level of tariffs actually felt by US consumers lags far behind where they seem likely to settle.

• Moreover, levels of tariffs on Chinese imports are yet to be settled. Following a series of escalations earlier in the year, the US and China are operating under a tariff ‘truce,’ with Chinese imports subject to a temporary tariff of 30% that is due to end next month. Mr Trump has threatened to impose 100% tariff on Chinese goods and trade tensions between the two countries have increased in recent weeks.

• The second risk stems from the AI boom. AI has been a major driver not just of the US stock market but, through investment in tech and data centres, of US growth this year. This investment is concentrated in a handful of big tech companies. The valuation of technology stocks is higher today than in the dotcom boom of the late 1990s and tech stocks make up a larger share of the market. A major reassessment of prospects for AI, or an abrupt change in financial conditions, could trigger a dotcom-style bust in the equity market.  That would hit tech investment and, through the loss of wealth, could have a chilling effect on US consumer sentiment and spending.

• Sharply rising levels of US government debt represents the third risk. Mr Trump’s ‘One Big Beautiful Bill’ involves large tax cuts which will boost growth and add to the fast growing US debt pile. The level of government debt is rising faster than any other developed market with the ratio of debt-to-GDP likely to hit a post-war high in two years. Bond investors have so far taken a fairly indulgent view of America’s debt position. Yields or interest rates on US government debt have fallen this year while those on other developed world debt, including the UK, France and Japan, have risen. A change of heart by the bond market could push up government borrowing costs and, in an extreme outcome, force a painful fiscal retrenchment through spending cuts and tax rises.

• Fourth on our risk list is sharply lower immigration. The FT estimates that tougher controls will reduce net immigration to the US to 400,000 this year, down from 3.5m in 2023 and 2.6m in 2024. Reduced labour supply will act as a drag on growth and could stoke inflationary pressures. This leads to the final risk. Easy fiscal policy, large increases in tariffs and lower immigration could keep US inflation higher for longer. That could upset the notion in financial markets that the Federal Reserve will cut interest rates by 100bp in the next year. To keep growth going around the 2.0% mark the US needs to avoid ‘sticky’ inflation and elevated interest rates. 

• The story of the last few years has been one of American economic exceptionalism. Its economy has outpaced its developed world peers and its stock market has soared. The IMF thinks the US will achieve a soft landing. That may be the most likely outcome, but it’s not assured.

PS: UK gilts rallied last week after UK chancellor Rachel Reeves hinted that she is considering increasing taxes and cutting public expenditure ahead in her November budget

OUR REVIEW OF LAST WEEK’S NEWS
The UK FTSE 100 equity index ended the week down 0.8% at 9,355 as global investors became increasingly concerned over the health of US lenders in the wake of First Brand Group’s collapse.

Economics

• Silver prices continued their run to reach a record high last week, as investors increase their demand for precious metals
• Global equities fell and the VIX volatility index of US equities rose last Friday to its highest level since April after reports that two regional US banks were exposed to fraud sparked a sell-off in financial stocks and worries over wider credit quality   
• The UK economy grew 0.1% in August, up from a revised 0.1% contraction in July
• The IMF upgraded the UK’s growth rate this year from 1.2% to 1.3%. However, it also warned that persistent above-target inflation risks becoming entrenched 
• The UK unemployment rate increased in the three months to August, to a four-year high of 4.8%
• Graduate hiring in the UK fell for a second consecutive academic year due to rising business costs and an uncertain economic outlook, according to the Institute of Student Employers
• German investor sentiment increased slightly in October, according to research institute ZEW, despite global uncertainties and a “lack of clarity” over the government’s investment plans
• The Italian government announced plans to increase the flat tax rate on overseas income of foreign residents by 50% to €300,000, amid a growing influx of wealthy individuals

Business

• The Bank of England announced reforms to loosen bonus rules for the UK financial sector in a bid to ease compliance costs and increase UK competitiveness
• Australian investment group Macquarie bought an additional 50% stake in London City Airport as part of its £20bn UK investment plan
• Food manufacturer Nestlé announced plans to cut 16,000 jobs globally as part of a cost saving drive
• Shares in Danish pharmaceutical company Novo Nordisk fell following Mr Trump’s pledge to lower the company’s Ozempic weight loss drug from the current price of $499 to as low as $150, as part of a wider drive to lower drug prices for US consumers
• The Competition and Markets Authority said the UK’s regulatory system for veterinarians is “not fit for purpose” and called for an overhaul that includes proposals such as prescription price caps 
• Luxury carmaker Ferrari said it reduced the supply of cars to the UK to retain their residual selling price amid the departure of wealthy individuals over tax changes including the abolition of the non-dom status
• Apple signed a $700m deal to stream Formula 1 races in the US, becoming the latest tech player to venture into the live sport streaming industry

Global and political developments

• The ceasefire between Israel and Hamas is under strain as Israel accused Hamas of attacks against its military, launching airstrikes in retaliation 
• Israel’s military said it killed Houthi military chief of staff Mohammed Abdulkarim in a missile strike in Yemen
• Mr Trump and Russian president Vladimir Putin agreed to meet in Budapest in the coming weeks to discuss the war in Ukraine
• During a meeting with Mr Trump, Ukrainian president Volodymyr Zelenskyy offered to provide drones to the US in exchange for long range Tomahawk missiles, however a deal has not yet been reached
• The US and Saudi Arabia are discussing a defence pact, similar to the US-Qatar pact agreed last month that sees any attack on the gulf state as a threat to the US’ peace and security, the FT reports
• Mr Trump confirmed that he had authorised the CIA to conduct covert operations in Venezuela, and threatened missile strikes on the country as part of plans to tackle drug trafficking
• Mr Trump said Indian prime minister Narendra Modi pledged India would stop buying Russian oil. India’s foreign ministry said discussions are ongoing regarding US-India energy cooperation
• John Bolton, former US national security advisor under Mr Trump, was indicted over alleged mishandling of classified documents. Mr Bolton, a critic of Mr Trump, said his conduct was lawful
• French prime minister Sébastien Lecornu survived a no confidence vote last week, following a decision to suspend president Emmanuel Macron’s planned pension reforms to increase the state pension age to 64
• China’s foreign ministry warned of “consequences” for the UK after it delayed approval of China’s planning application for a new embassy
• UK prosecutors dropped charges against two British men accused of spying for China, sparking a political row over how and why the case collapsed 
• UK home secretary Shabana Mahmood said that the UK’s “failure to bring order to our borders is eroding trust”, ahead of a meeting of European leaders to discuss rising migration

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