Central banks are on a technically challenging route – a descent from peak interest rates following a period of aggressive rate hikes in 2022 and 2023. A new report from Mercer examines this and other economic and market considerations in their annual outlook entitled After the climb comes the descent.

“Central banks are likely to keep cutting interest rates at various intervals until the road looks a lot smoother – hoping the economy doesn’t get a flat tire along the way,” the report states. “We expect growth in the developed world to soften in the near term.” That said, they add that recession risks are low, thanks to strong corporate and household sector balance sheets.

“Looking further out into 2025, we expect the loosening of monetary policy to boost growth. There are now, however, risks to this base case to both the upside and downside in the U.S.,” they write.

They say inflation has declined, and, in 2025, “we believe it will walk the final mile to bring it to target levels.” 

Japan and China’s prospects 

The global report focuses on Japan and China’s prospects in some detail. Global equities generally could still offer higher than expected returns compared to cash and may warrant an overweight position, they add. In fixed income they say government bond markets, particularly in the U.S. have cooled their expectations for aggressive interest rate cuts. They add, however, that certain U.S. policies could put upward pressure on yields.

On inflation, they say 2024 started on a bad note, but normalized as the year progressed. “We expect inflation to continue normalizing in 2025 for a number of reasons,” they write. “The wrench in all this for U.S. inflation is increased tariffs and an increased fiscal deficit. “It remains to be seen whether these tariffs are actually implemented and in what size or whether they are just a negotiation tool.”

Potential tariffs 

The report states that should the U.S. impose 60 per cent tariffs on Chinese imports and 10 per cent tariffs on all imports from the rest of the world as promised, they would be the largest tariff increases in more than 100 years. More recently, the new president has reportedly promised 25 per cent tariffs on all Canadian imports, as of February 1. 

One of the main risks the report discusses is the potential for policymakers to underestimate the lagged effects of monetary policy, which could lead to a recession in one or more economies. “Growth has remained remarkably resilient in the face of one of the most aggressive rate-hiking cycles ever,” they write.

“More optimistically, artificial intelligence (AI) and some other new technologies could lead to a pickup in productivity growth across much of the world,” they add, saying that AI is likely to deliver substantial productivity gains. At the same time, it could present disinflationary risks in the coming years “as any future increased productivity and automation puts downward pressure on wages.”