Trade war means $2 trillion world GDP hit: Global outlook

Tariffs are a negative for growth, they act like a tax hike. We have lowered our 2025 GDP forecast for the US to 1.5% from 2.1% in December. For China, front loading of exports will deliver a short-term boost that keeps 2025 growth buoyant. But with US tariffs up by about 30ppts, we’ve lowered our 2026 China growth call to 4.4%, from 5.6%. China accounts for about half of the downgrade to our global GDP forecast by the end of 2027.

For the world as a whole, we’ve nudged down our 2025 GDP forecast to 3% from our December call of 3.1%. That would be a slowdown from 3.2% growth in 2024 and some way below the pre-Covid run rate of 3.4%. Looking further ahead, and assuming tariffs climb a little from where they are now, we see global growth slowing further, to 2.7% in 2026.

For the US, forecasting the impact of tariffs on inflation is not straightforward. Higher tariffs push import costs up. Margin compression for distributors and retailers reduces the pass-through to final consumers. Weaker growth is also disinflationary. Put the pieces together, and we have raised our forecast for US core PCE to 3.0% from 2.6% – a more modest increase than many on the street as we anticipate margin compression taking more of the strain.

For most of the rest of the world, the drag on growth and impact of Chinese goods seeking alternative markets are the dominant forces and so the impact of Trump’s tariffs is disinflationary. We see global inflation ending 2025 at 3.2%, down from 5.1% at the end of 2024 and on a path to 2.7% at the end of 2026.

The impact of the trade war on growth and inflation differs across economies. The potential for inflationary consequences is keeping the Fed in wait-and-see mode. For the People’s Bank of China, the hit to external demand keeps the dial tilted toward easing. Weaker growth and disinflation as Chinese goods seek new markets both make the European Central Bank likely to cut again. In the UK, which has struck a (narrow) deal with the US, domestic issues, not tariffs, are the primary focus of monetary policy.

We anticipate 25 basis points of cuts this year from the Fed, followed by 150 bps next year as Chair Powell’s successor plays catch-up. For the world as a whole, we anticipate the GDP-weighted central bank rate falling to 5% at end 2025, down from 6.1% at end 2024 and on a path to 4% at end 2026.

Store shelves are stocked. Inflation is benign. People have jobs. And consumer dollars are flowing, albeit at moderating pace and to fewer car dealerships. That’s the view from the US economy, which has so far proved mostly resilient in the face of a new Trump trade war and conflict in Europe and the Middle East.

That’s not to say the economy isn’t cooling. It is – we project GDP growth of 1.0% in the second half of the year, with a consumer-led slowdown the biggest risk to the outlook. As Fed Chair Jerome Powell has emphasized, when tariffs are imposed, someone ultimately bears the cost. We see it so far being borne mostly by the US side – mainly by firms via profit-margin compression, and only partly by consumers via higher consumer prices.

The chaos surrounding Trump’s trade policies shows no sign of easing. The US has toughened its stance in trade negotiations, with President Trump issuing a new tariff threat of 30%. While negotiations between the EU and the US are expected to continue, it now seems unlikely that the pharmaceutical sector will dodge tariffs this year. In our updated projections, we have factored in a 25% tariff on pharma exports from the EU.

That shaves an additional 0.3% from the level of GDP – adding to the drag on growth, without adding up to a crash. When combined with more disinflationary pressures from weaker demand, it reinforces our view that the European Central Bank will move rates back below neutral. We forecast a terminal rate of 1.5%.

UK growth was volatile in 1H25, driven by the behavioral response of UK firms to an increase in US tariffs. The impact of higher levies on the level of output has so far been modest, though we think the drag is likely to intensify in 2H25 on the back of softer global growth. Domestic factors will likely play a larger role in shaping the outlook over the next 6-12 months. The labor market is loosening as a result of tepid demand and a rise in payroll tax. A further tightening of fiscal policy is likely in the autumn and will act as a headwind to growth next year and beyond.

We expect GDP to rise by 1.2% in 2025 and 1.1% in 2026. CPI inflation is likely to average 3.4% in 2025 and 2.4% in 2026. The BOE, meanwhile, is likely to lower rates to 3.75% in 2025,followed by one more 25-bp cut in 2026.

From AI breakthroughs to growth tracking above the 5% target, China’s economy held up well in 1H25, considering all the  challenges from a trade war to a sinking property market, low confidence, and deflation. We’ve raised our 2025 GDP projection to 4.8% from 4.6%. 2H25 will be a lot harder.

A reduction in US tariffs that breathed life back into exports and related sectors is scheduled to expire in mid-August. Consumption is slack beyond a lift from a trade-in program for home appliances and smartphones. Outside the tech sector, private investment continues to slide. Consumer prices are likely to fall this year for the first time since 2009. Monetary easing and faster fiscal delivery have put a floor under growth. Without additional stimulus, a sharp downturn in momentum later in the year looks likely.

Japan is facing stronger stagflationary pressures than it was a quarter ago. Inflation is on a higher path, buoyed by wage gains and rising price expectations. The BOJ is looking to pare stimulus. But gridlock in Japan-US trade talks and a surge in long-term JGB yields over concerns July’s upper house election will open the door to fiscal expansion mean it’s likely to stay on hold until October. This could weaken the yen, stoking inflation.

We’ve pushed back our call for a 25-bp rate hike to October from July. We’ve also lifted our core CPI inflation forecasts (excluding fresh food) to 3.4% for 2025 and 2.7% for 2026 (from 2.9% and 1.6%). With consumption under pressure from the cost-of-living squeeze, we now expect real GDP growth of 0.8% in 2025 and 0.5% in 2026 – down from our previous forecasts of 1.0% and 0.6%.

India’s economy is set to start rebounding in the current fiscal year after a drubbing last year from tight domestic policies. Among the key factors that support our projection are: the Reserve Bank’s rate cuts since February, strong rural growth prospects due to surplus monsoon rains expected this year, and broad expectation of an impending interim trade deal with the US that may offer India better terms than to its rivals. We will revisit our call, depending on the out come of tariff negotiations.

We see growth rebounding to 7.0% in fiscal 2026 – which started in April – from 6.5% in fiscal 2025. The fuller impact of monetary easing and expected progress on trade agreements with the US and EU is likely to play out in fiscal 2027, when we expect growth to recover more strongly to 7.7%. Click the Text tab for the full report.