Balancing Acts

The circus is much more than a pure visual spectacle. Each act, from juggling to the tightrope walk, offers a lesson in finding steadiness amid complexity. In many ways, the global economy today resembles a high-wire circus act.

Central banks are walking a tightrope, carefully fine-tuning their next moves as they face lingering inflation and subdued growth. Governments are juggling competing forces of debt sustainability, public spending and industrial policy. Geopolitical tensions are becoming a spinning-plate challenge, demanding agility from businesses to adapt to the evolving landscape. Consumers are the nervous spectators, watching from the sidelines and waiting for performers to finish their routines successfully.

Growth has held up well in most regions, but a slowdown is forthcoming as the boost from trade frontloading fades. We believe the show can go on, but softer demand and elevated costs have raised the specter of some economies stumbling into stagflation.

Following are our thoughts on how top markets are faring.

United States

• Volatile trade policy had been casting a shadow over the U.S. outlook, but the path forward for trade relations is becoming clearer. Tariff rates are approaching a steady state. These trade barriers and the summer fiscal bill create incentives for businesses to boost investment. However, higher tariffs, persistent inflation, and a cooling labor market are expected to weigh on growth in the remainder of the year.
• Inflation remains stuck, with most cost indicators hovering closer to a 3% annual rate than the Fed's 2% target. But sticky underlying price pressures have been overshadowed by growing concerns about the state of the labor market. Job gains disappointed in two consecutive months, and the annual benchmark revision revealed far weaker growth than previously estimated. The soft labor market offered sufficient justification for the Fed to resume its easing cycle after a nine-month pause. We expect cuts at the next two meetings, and one more next year; any additional action would require a weaker labor market than we anticipate..

Canada

• Following a steady pace of growth at the start of the year, the trade war appears to have taken a toll on the Canadian economy. Real gross domestic product (GDP) fell 0.4% quarter over quarter in the three months to June. Exports and business investment declined as new tariffs took hold, leading to the unwinding of frontloading from the first quarter. The slump in the Canadian labor market has deepened, with the economy losing 66,600 jobs in August, following a decline of 41,000 jobs in July. This pushed the unemployment rate to 7.1%, the highest since 2016, excluding the pandemic period. That said, we expect the economy to return to growth, aided by expansionary fiscal policy, more accommodative monetary conditions and the recent rollback of Canada's retaliatory tariffs.
• The lowering of levies will translate into a smaller rise in consumer prices and reduce trade uncertainty. This allowed the Bank of Canada to pivot its focus toward supporting activity, as it lowered its overnight rate by 25 basis points in September to 2.50%, the first cut since March. The decision was driven by a combination of economic weakness, labor market deterioration, and fading inflation risks. We now expect one more reduction in October, pushing the policy rate down to the low end of its neutral range estimate.

Eurozone

• Incoming data paint a picture of economic resilience, but also of subdued momentum. Real GDP growth for the eurozone stepped down in the second quarter: strong activity in Spain and a modest expansion in France were offset by contractions in the German and Italian economies. Consumers may play an increasing role in supporting activity, driven by easier monetary conditions and strong labor markets. Fiscal sustainability in France, amid high political instability, is a key regional concern
• The European Central Bank (ECB) appears to have achieved a soft landing. Inflation measures have stabilized around the 2% target, and the outlook is marked by steady employment gains, stable price pressures and easing external uncertainty. With trade tensions subsiding and major economies like Germany planning to increase spending, further policy support seems unnecessary for now.

United Kingdom

• The U.K. economy had a relatively healthy first half of the year, but Britain is also among the markets facing the biggest risk of stagflation. The U.K. faces the highest borrowing costs and inflation among peers, alongside a fragile currency. The labor market has loosened gradually, with the unemployment rate rising 0.3 percentage points to 4.7% over the course of the year. Yet progress on underlying price and wage disinflation has been slow. The recent rise in employers' national insurance contributions, an increase in the national living wage and surging food prices are all complicating the inflation picture.

  Weaker than expected growth and policy U-turns have swiftly eroded the fiscal headroom unveiled in the March budget. Chancellor Reeves will struggle to avoid raising taxes in the November 26 budget. With the tax burden already elevated in the U.K. relative to its peers, growth will likely suffer in the coming quarters.

• The Bank of England (BoE) kept its policy rate unchanged at 4% at this month's meeting and slowed the pace of its quantitative tightening from £100 billion to £70 billion a year. Governor Bailey emphasized a "gradual and careful" approach to future cuts. Given stubborn inflation and the Monetary Policy Committee's hawkish commentary, we think the BoE will remain on the sidelines for the remainder of the year. We expect the quarterly easing cycle to resume in February 2026 with a terminal Bank Rate of 3.50%. Risks of further reductions, due to potential drag from looming budget-related tax increases, cannot be ruled out entirely.

Japan

• Japan clocked in a solid 0.5% expansion in the second quarter. Growth was driven by positive contributions from both domestic and external demand. However, a payback from inventory buildup could drag growth down in the third quarter. Though it's still early to assess the full impact of U.S. tariffs on Japanese exports, trade flows are starting to reveal the hit to the country's external sector performance. Exports to its top two destinations, the U.S. and China, posted a double-digit decline on an annual basis in August. This followed a sharp drop in total exports the prior month. Real imports also fell, a sign of declining capital investment. Robust consumption, led by healthy wage gains, will continue to underpin activity; however, external conditions will not provide the same level of support.
• The Bank of Japan (BoJ) kept the policy rate unchanged at the September meeting but took another step toward further policy normalization by announcing plans to sell its massive holdings of Exchange-Traded Funds (ETFs) and Japanese Real Estate Investment Trusts (J-REIT). High uncertainty around trade along with the change in Liberal Democratic Party leadership are the key hurdles for further monetary tightening. We continue to expect one more hike early next year, before food-led inflation starts to moderate toward the 2% target.

China

• After a strong first half, third quarter reports to date suggest that growth is shifting to a lower gear. August data showed softening exports alongside dwindling infrastructure investment, a sign that higher tariffs are starting to take a toll. Consumption is slowing as the impact of trade-in programs for consumer goods fades. Property prices fell further last month. Government efforts to curb disorderly price wars and excessive competition, termed "anti-involution", will fall short of halting deflationary forces. Lowering overall production capacity to address the excess supply problem will weigh on revenue and could trigger credit troubles for manufacturing firms. This would translate into higher unemployment and further dent domestic demand.
• The downshift in growth will pile pressure on policymakers to step up support for the economy. But chances of aggressive stimulus measures remain low, as the worst outcomes of the trade war have been avoided. Like most of its counterparts, the People's Bank of China remains in a data-dependent posture, implying more gradual easing lies ahead.

Australia

• Following a weak start to the year, economic growth rebounded in the second quarter. Though household spending was a key driver of activity, it was boosted by temporary factors. Business investment is struggling to gain momentum, but better prospects lie ahead. Healthy real income, falling interest rates and tax cuts will provide a stronger push to growth.
• Headline and underlying inflation are within the Reserve Bank of Australia's (RBA) 2%-3% target band. Other measures of price pressures also suggest that inflation remains well-contained. Even though signs of softening have emerged, Australia's labor market remains resilient, with the unemployment rate steady at 4.2% over the past two months. We continue to expect a gradual quarterly pace of easing by the RBA, leading to a terminal rate of 3.10%.