Tariffs, Sentiment, and the Fed: Navigating a Fragile Economic Outlook

The Probability of a Recession Now Stands at 40%

Heightened trade policy uncertainty is weighing on sentiment, and a slowdown in U.S. growth could spill over to the rest of the world.

Key Takeaways

• J.P. Morgan Research has raised the probability of a global recession to 40%, up from 30% at the start of the year.
• U.S. business sentiment and consumer confidence have dropped, with concerns over potential global growth.
• Despite these concerns, J.P. Morgan Research still anticipates two more rate cuts in 2025.
• The global economy has seen moderate expansion, but ongoing U.S. policy shifts could have ripple effects worldwide. Could a recession be imminent?

What is the Probability of a Recession?

In response to rising trade policy uncertainty, J.P. Morgan Research has updated the probability of a global recession in 2025 to 40%, an increase from 30% earlier this year.

• Bruce Kasman, Chief Global Economist at J.P. Morgan, attributed the increased risk to the administration’s shift in tariff policy, which could significantly impact sentiment.
• A new round of tariffs is expected to be announced in early April, likely pushing the effective U.S. tariff rate above 10%. This could result in a 0.5 percentage point drag on U.S. and global GDP in 2025.
  • Although this drag is relatively small, it is amplified by three critical factors:
    1. Business sentiment could be severely impacted if the U.S. policy stance shifts away from business-friendly approaches.
    2. Trade restrictions and limitations on immigration may disrupt key North American sectors.
    3. A potential rise in inflation expectations could leave less room for pre-emptive Federal Reserve action to counteract these impacts.
• J.P. Morgan’s Global Manufacturing Expectations Index (MEI) had previously fallen sharply during the 2018-2019 trade war but has seen a surprising increase recently.
  • This recent rise is thought to be driven by a front-loaded pickup in global industry, which may be temporarily offsetting concerns about the trade conflict.
• Conversely, the Federal Reserve’s regional surveys indicate a reduction in U.S. capital expenditure plans, suggesting a significant decline in business sentiment.
• U.S. consumer confidence also dropped to a three-year low in March, according to the University of Michigan’s survey. Despite this, Kasman notes that consumer spending will likely remain steady unless real incomes are squeezed by rising inflation.
• A slowdown in U.S. growth is expected to have a global impact. Research from J.P. Morgan suggests that a U.S.-driven recession could lead to a nonlinear impact on global financial conditions. Specifically, it would likely put significant pressure on the Economic and Monetary Union (EMU) growth.

What is the Outlook for Interest Rates?

Given the economic uncertainty, J.P. Morgan Research forecasts two additional rate cuts later this year, in June and September, which aligns with the Federal Reserve’s own predictions.

• The rate cut cycle is influenced by ongoing policy developments. Trade policy uncertainty may continue to weigh on growth, and tariffs already in place (such as on steel and aluminum) could further stoke headline inflation. This would negatively affect consumer purchasing power.
  • In addition, retaliatory actions by foreign partners could dampen U.S. export growth, affecting overall economic performance.
• J.P. Morgan has adjusted its 2025 real GDP growth estimate to 1.6%, reducing it by 0.3 percentage points. It also expects unemployment to peak at 4.4%, which is slightly higher than its prior forecast.
• Following a March meeting, the Federal Reserve revised its 2025 economic projections. Its GDP growth forecast was lowered from 2.1% to 1.7%, and core PCE inflation was adjusted upward from 2.5% to 2.8%. The unemployment rate forecast was also revised to 4.4%.
• Michael Feroli, Chief U.S. Economist at J.P. Morgan, remarked on the challenge the Federal Reserve faces, balancing higher inflation with slower employment growth. This scenario suggests that the Fed is likely to make further rate cuts despite concerns about inflation.
• Ultimately, the Federal Reserve’s policy response will depend on the labor market’s performance. A substantial weakening in employment could trigger a significant rate cut, while the Fed will remain cautious about hiking rates amidst stronger growth or inflation.