Macroeconomic Update: Macroeconomic Update Challenges for U.S. Growth in 2025

This Macroeconomic Outlook report is excerpted from the Second Quarter 2025 Fixed-Income Sector Views.

The April 2 “reciprocal” tariff announcement exceeded nearly all estimates, lifting the effective tariff rate on U.S. imported goods to the highest level in over 100 years. While a 90-day pause on these reciprocal tariffs for countries other than China is now in effect, the baseline 10 percent tariff rate remains in place. In addition, tariff rates on Chinese imports now exceed 100 percent, which could bring bilateral trade to a halt, and the tariffs announced prior to April 2 remain in place. Combined, this still represents a large shock to the U.S. economy.

Uncertainty about the administration’s policies remains elevated, and many questions remain about how tariff levels will evolve from here. We have moved our outlook for U.S. and global economic growth materially lower. In the U.S., we expect growth will slow to barely positive levels this year. Consumer spending, which has already been decelerating, will likely retrench further as higher prices weigh on real incomes and consumers save more in response to elevated uncertainty. Higher goods prices are likely to hit low income consumers disproportionately, a segment of the population already under stress. Business investment will also suffer, with near-term supply chain disorder expected.

We believe the odds of recession have materially increased and are now quite elevated, but our assessment could change: The outlook could improve if negotiations further lower tariff levels, or if rapid progress is made on a tax cut bill that helps support economic growth. In the other direction, additional trade partner retaliation or an even sharper tightening in financial conditions could make a recession more likely.

At current tariff levels, we believe core inflation will rise close to 3.5 percent this year. But given the economic slowdown, we anticipate the inflationary pressure from this price shock will fade in 2026. The Fed is likely to face challenges to both sides of its mandate this year, but given the expectation for a sizable jump in inflation, the Fed will be cautious in responding to the expected economic slowdown, waiting to ease until labor market weakness shows up in the data. We expect that means a cautious approach to rate cuts initially, before the Federal Open Market Committee (FOMC) responds more forcefully in 2026 and ultimately takes the fed funds rate below 3 percent. A more rapid economic slowdown could accelerate the pace of cuts in 2025. A risk to our view is if measures of longer-term inflation expectations broadly rise, which could increase the weight the FOMC places on defending its inflation mandate. It is a difficult spot for both the Fed and investors, with a nimble approach needed as the policy backdrop rapidly shifts.

—By Matt Bush and Maria Giraldo

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