Synopsis:

Morgan Stanley forecasts a sharp US slowdown beginning late 2025, driven by tariffs and immigration restrictions, with inflation peaking before growth weakens. The Fed is expected to stay on hold through 2025, with easing beginning in 2026. Meanwhile, the euro area sees subdued growth and falling inflation, prompting more ECB cuts. China faces the largest hit, with modest stimulus failing to prevent a tariff-driven deceleration and persistent deflation.

Key Points:

United States:

• Growth slows sharply: from 2.5% in 2024 (Q4/Q4) to just 1.0% in 2025 and 2026.

• Inflation surge precedes growth drag: core PCE to peak at 4.5% q/q saar in Q3 2025.

• Tariffs and tighter immigration policies stall the economy by late 2025.

• Fed remains on hold through 2025; easing resumes in March 2026 with 175bps in cuts by year-end.

Euro Area:

• Growth hovers around 1.0%, constrained by weaker consumption and exports.

• Euro strength versus the USD weighs on inflation, pushing it below the ECB’s target.

• ECB continues easing, taking policy rates to 1.50% by December 2025—below neutral.

Japan:

• Nominal GDP reflation continues, supported by resilient consumption.

• Inflation moderates as JPY appreciation tempers import costs.

• BoJ stays on hold in 2024, avoiding further hikes due to growth risks and stronger yen.

China:

• Expected to see the steepest slowdown among major economies.

• Modest, supply-oriented fiscal expansion likely insufficient to counter tariff shock.

• Real GDP growth forecast 0.5pp lower in 2025 vs. 2024.

• Deflation persists: GDP deflator seen between -0.5% and -1% throughout the period.

Conclusion:

Morgan Stanley sees a global policy divergence into 2025–26, with the US entering stagflationary territory and delaying easing, while the ECB and BoJ lean more dovish. China, facing external trade shocks and weak domestic stimulus, risks prolonged deflation. Currency and policy dynamics will increasingly reflect these macro divergences.