2025-03-24 12:02

Key takeaways The combination of high import tariffs and low FDI in mid-tech sectors has hurt India’s export potential over the past decade. One positive from the potential US trade tariffs is that they could become a catalyst for change, but reforms must run deep. The experience of China, ASEAN, and India’s own success with services exports could shed light along the way. Too many uncertainties on the external front will likely hurt India’s GDP growth in the short term. But can these be turned into opportunities in the medium term? We go back in history to see what has worked in the past, and what has not. We analyse India’s economy over two periods –the ‘high growth’ decade, FY01-FY10, when India’s growth soared, alongside rising global export share and investment; and the ‘lower growth’ decade, FY11-FY20, when all three softened. How can India escape‘lower growth’ and ascend to ‘high growth’? One key differentiating factor between the two periods was import tariffs, falling in the former, but rising in the latter. In fact, India’s import tariffs are amongst the highest globally, and were hurting exports even before the Trump administration put them centrestage. How have high tariffs hurt India? The economy has not fully plugged into global supply chains. One reason why China could raise its exporting strength (or its forward participation) was because it was open to importing (raising backward participation) before it became self-sufficient. Protectionist tendencies in India may have led to a premature clamping down of backward participation, hurting its export potential. India’s FDI story also sheds light. After soaring in the pandemic period, high-tech FDI has fallen, as global competition has picked up. What India seems to have overlooked is mid-to-low tech FDI in labour intensive manufacturing sectors like food, apparel, furniture, and toys, which stagnated in the ‘lower growth’ period. In fact, India did not gain as much as ASEAN in these sectors during the first Trump Presidency. But if supply chains are rejigged during the second Trump Presidency, following higher tariffs on current large exporters, and the world looks for new producers, India may get a second chance. If sectors such as electronics, apparel, furniture, and footwear, where Vietnam made significant progress in the first Trump Presidency, is a reflection of where global opportunities from supply rejigging lie, it is worth noting that India is already a player, with room to grow. Incidentally, China’s excess capacity is not as large in these mid-to-low tech sectors. Space for another manufacturer may well be there. But first India needs to make changes. And there is good news here. Potential US tariffs may have become a catalyst for reforms –lowering import tariffs, opening up to regional FDI, fast-tracking trade deals, and making the INR more flexible. And India does not have to look too far for models to emulate. Its success in services exports has demonstrated the power of moving up the value chain, from basic (e.g. call centre services) to high-tech (professional services). But for similar success in goods trade,reforms must run deep. Certainly uncertain There are too many uncertainties on the external trade and tariffs front (see exhibits 1 and 2). Higher tariffs on India’s exports will likely lower its GDP growth directly (for instance, as we discuss later, reciprocal tariffs could lower India’s GDP growth by about 0.3ppt), and indirectly (for instance via lowering global FDI flows). In this report, however, we look beyond the immediate impact, and how this adverse shock can be turned into an opportunity. After all, in the past India has reformed best in periods of crisis (a la 1991). We go back into history to understand what worked in the past, and what has not. We analyse India’s economy and its external finances over various periods, and a few lessons are clear. If India can dare to be different by opening up for business by lowering tariff and non-tariff barriers, and be more welcoming of regional FDI in labour-intensive sectors, even as the world is turning more protectionist, it could more meaningfully plug into global value chains, and in the process create more jobs and growth. India may have already embarked on this journey, but success will depend on how far it is ready to go. Let us elaborate. Going back in history Two distinct periods in India show good insights: FY01-FY10 and FY11-FY20 (see exhibit 3). High growth FY01-FY10: This period showed high GDP growth (averaging 7.8% per year), rising investment (by 1.1% of GDP per year), and strong export growth (13% per year in real terms). India’s global export share more than doubled in this decade. This was a period when India was cutting import tariffs (even bringing them down to where China’s tariffs were by 2010, see exhibit 4). There were high imports too, leading to a worsening of the c/a balance (by 0.3% of GDP per year). But because growth was strong, so were capital inflows. The c/a deficit was easily funded, leaving behind a high BoP surplus (2.9% of GDP). Lower growth FY11-FY20: The next decade was quite the opposite. GDP growth was lower (average 6.6% per year), investment weaker (falling by 0.2% of GDP per year), and export growth softer (6% per year). India’s global export share was broadly stagnant in this period. This was a period when India’s import tariffs stopped falling, and even started to rise from 2018 onwards (see exhibit 4). Imports were low too, leading to an improvement in the c/a balance (of 0.3% of GDP). But because the growth prospects were weaker, capital inflows were softer, leaving behind a smaller BoP surplus (0.9% of GDP). What is clear from these periods is that high growth is a function of strong investment and export, and has been experienced best at times of falling import tariffs. The worsening of the c/a balance during the higher growth period has not been a problem, because it was fully funded by higher capital inflows. The challenge for India is to break out of the ‘lower growth’ track, and ascend to ‘high growth’. What can it do right? Are import tariffs too high? India’s share in global merchandise exports has been low and sluggish (see exhibits 5 and 6). The obvious next question is why? Although global liquidity was lower in the ‘lower growth’ period than the ‘high growth’ period, all countries should have suffered. Why did India’s export share stagnate? There could be many reasons, such as the hurdles around the ease of doing business and quality of infrastructure, but what stands out for us in the current environment is elevated tariffs. India has had amongst the highest import tariffs (see exhibit 7), and they have been on the rise (see exhibit 4, although this does not include some cuts in the recent budgets). Non-tariff barriers are also rife (although harder to quantify). WTO data shows that India ranked second after China in imposing antidumping measures against the US. Quality control orders (QCOs) are also on the rise (from 14 notified in 2014 to 186 notified in 2024). These orders are quality standards imposed on imports. They are meant to ensure quality and safety, but can also double up as non-tariff barriers. India’s high tariff and non-tariff barriers have begun to stand out at a time when President Trump has suggested reciprocal tariffs on India’s exports (see exhibit 8), although it is not clear what form reciprocal tariff increases will take, or the likely timeline. Going by the tariff differential with the US, the sectorsmost impacted could be agriculture, automobiles, jewellery, and pharmaceutical products (see exhibit 9). All said, these tariff barriers were already hurting India, even before the Trump administration brought them centre stage. Next, we explore how exactly India has been hurt by high tariffs by undertaking a comparative assessment of India and China in trade integration. India’s still-low integration in the global goods value chains Our India and China analysis uses OECD’s trade in value added (TiVA) database, which helps understand how economies have become integrated into global value chains over time. We use two concepts, backward and forward participation, both expressed as a share of an economy’s gross exports. Backward participation refers to the use of foreign-sourced inputs to produce a country’s exports, and forward participation refers to the use of domestically produced value-added in a foreign countries’ exports. In the case of China, the forward participation has been on the rise for a few decades, making more countries dependent on Chinese produce (see exhibit 10). No surprise that China’s global export share has continued to rise. An important enabler in the process was falling tariffs throughout the period, and higher imports, at least initially. China’s backward participation shows that the reliance on imported inputs increased for several years, before China deepened its manufacturing and became more self-sufficient. In the case of India, we go back to the ‘high growth’ and ‘lower growth’ periods referred to above. Forward participation was rising until about 2010, after which it stagnated (see exhibit 11). Backward participation increased in the ‘high growth’ period, but declined in the ‘lower growth’ period, when import tariffs began to rise. The high tariffs may have made it costly to import, and given that the intermediary inputs industry had not developed by then, India’s forward participation, or more broadly, itsexport potential, suffered. India may have become a victim of premature protectionism. But this can now change, and there are some nascent signs (more later). India’s FDI mystery Having analysed trends in external trade, we move to its funding counterpart, i.e. foreign direct investment (FDI). What’s gone on there? Net FDI into India increased appreciably in the five years before the pandemic (from USD22bn in FY14 to USD31bn in FY19). During the pandemic it increased further (to USD44bn in FY21). Thereafter net FDI has been declining sharply, now to about USD3.5bn (sum of the past four quarters, see exhibit 12). India’s share in regional FDI has also declined (exhibit 13). Which parts of FDI flows have led to this? To recap the definitions: Net FDI: FDI to India –FDI by India; FDI to India: Gross FDI –repatriation. We find that FDI to India has fallen while FDI by India has inched up (see exhibit 14). And within FDI to India, gross FDI has been sluggish, and repatriation has risen(see exhibit 15). The rise in repatriation is not too great a concern in our view, as it is largely secondary sales and IPOs by MNCs as well as exits by PE firms, and perhaps adds to investor confidence that investing in India can be profitable. What bothers us is that gross FDI has been more sluggish than one may have expected given India’s strong growth potential in the few years following the pandemic. The mystery thickens when we find that throughout this period, foreign investment intention in high-tech and futuristic sectors such as renewables, semiconductors, green hydrogen, and data centres was strong (see exhibit 16 and 17). Some of this pledged money never came. Looking closer we find that much of the FDI instead went to advanced economies, in several instances where large government incentives made it attractive. In fact, 23% of global FDI in 2023 went to the US alone. A case of missing mid-to-low tech FDI Our constructed indices show that much of the FDI boost in the pandemic period was led by high-tech sectors such as autos/EVs, electronics, pharmaceuticals, and computer services (see exhibit 18). This FDI culminated in strong growth in high-tech exports (see exhibit 19). And it is this FDI segment that declined in recent quarters given the fierce global competition (as other economies, some with deeper pockets to give subsidies, are competing for the same funds). While high-tech FDI is critical for growth, what seems to have been overlooked is the other half –mid-to-low tech FDI. This includes foreign investment that fuels the more labour intensive sectors such as food, textiles, furniture, and toys. This has stagnated in the ‘weaker growth’ period (falling from 40% of overall FDI in 2000-10 to 30% in 2011-17, and further to 25% in 2018-24). No surprise that India’s mid-to-low tech exports have also been weak. Lessons learnt from the first Trump Presidency As a result of elevated tariffs and soft mid-to-low tech FDI, we believe India was not able to fully seize the opportunities in the first Trump Presidency, when supply chains were rejigged following the imposition of new and elevated tariffs. Did India benefit at all? Yes, but narrowly. It did gain market share in the export of electronics and iron & steel articles (see exhibit 20). But it was not able to gain significant market share in most other sectors, largely mid-tech (e.g. furniture, footwear, apparel, and toys), as well as some high-tech (e.g. machinery, instruments, and vehicles). Other blocks like ASEAN made more progress in raising their global export share (see exhibit 21). Vietnam, in particular, made substantial gains in both mid-to-low tech and high-tech sector exports. If supply chains are rejigged again during the second Trump administration, India may have a chance to grow. If the sectors where Vietnam made most progress during the first Trump administration is a reflection of where global opportunities from supply rejigging lie, note that India is already a player in these sectors. India’s exports in sectors like electronics, apparel, furniture, and footwear are 15-40% of Vietnam’s exports (see exhibit 22). This shows that India’s footprint is large enough to show capability, but with room to grow. After all, wage competitiveness is still on India’s side (see exhibit 23). But what does India need to do right this time around? Overcoming obstacles: US tariffs and China’s excess capacity There are two obstacles for India to overcome before it can increase goods manufacturing and exports –the potential US tariffs under the second Trump Presidency and China’s excess capacity. Let’s address both: US tariffs. India stands out because of its trade surplus with the US (see exhibit 24). Back of the envelope estimates show that reciprocal tariffs could shave off growth by 0.3ppt (although there are many uncertainties around the details). And then there are plans to impose a 25% tariff on pharma and iron and steel products, which could hurt exports further. But these threats could also become a catalyst for India to change a few things that kept it from becoming a larger manufacturing nation. In fact, it is already changing course on several fronts, becoming more ‘open for business’. Lowering import tariffs: Some key tariffs were reduced recently. In the February budget, import tariffs were cut for items like high-end motorcycles, smartphone components, solar cells, and chemicals. Recent news articles show that the government plans to cut tariffs for several other goods such as automobiles, agricultural products, chemicals, pharmaceuticals, and medical devices. Opening up to regional FDI: The economic survey of July 2024, which is an important policy document, made a case for India to become more open to regional FDI, in particular from China. However, this has not culminated in higher FDI inflows yet. Fast tracking bilateral trade deals: India plans to sign a bilateral trade agreement with the US by late 2025. Reports suggest that it plans to buy more oil and defence equipment from the US and increase cooperation in nuclear energy. All of these will likely reduce India’s trade surplus with the US. It has also shown signs of wanting to fast track its trade agreement discussions with other regions such as the EU. Making the INR more flexible: The currency’s 4% depreciation against the dollar over the last few months, and likely flexibility going forward,could help make exports competitive, and give manufacturers the confidence to set up and export from India. As supply chains become rejigged once again, as they did during the first Trump Presidency, and the world looks for new countries to manufacture from, India may have an opportunity to grow its manufacturing sector and exports. China’s excess capacity: Another concern would be the challenge of growing exports at a time of excess capacity in China. Here, we find that while China may have overcapacity in some sectors like electronics, electrical appliances, and automobiles, the same may not be true for other sectors, like furniture, apparel, and chemical products (see exhibit 25). In fact, ASEAN has shown that growing export share despite Chinese overcapacity is possible. Its trade balance is better than pre-pandemic levels for several consumer manufactured goods. Therefore, we believe there are opportunities to grow, despite excess capacity in some pockets. Why manufacturing should learn from services India’s services have done a better job in climbing the value chain than manufacturing (see exhibit 26 and 27). From a focus on call centres in the 1990s, to software solutions in the early 2000s, it is now a seller of complex professional services. In the case of manufacturing, India may have tried to jump directly to high-tech without first going through low and mid-tech. This is not to lower the importance of high-tech manufacturing. It is more to say that lessons from low and mid-tech manufacturing can make India an even better high-tech manufacturer. All said, we do not want to underestimate the challenges of navigating a world with rising protectionism and excess capacity. But we believe that if India remains focussed on being ‘open for business’, it could benefit from supply chain rejigging in response to tariffs on key exporters. https://www.hsbc.com.my/wealth/insights/market-outlook/india-economics/slashing-tariffs-seeking-fdi/

2025-03-24 08:05

Key takeaways The BoE kept rates on hold in March, with a small hawkish surprise in the MPC vote split; GBP-USD largely steady. When growth concerns become more dominant, markets are likely to price in more BoE cuts, thereby weighing on the GBP. The GBP also tends to underperform in periods of high uncertainty. ‘Uncertainty’ is the unsurprising catchphrase among major G10 policymakers at their March meetings, despite the difference in their policy rates (Chart 1). The most recent monetary policy announcement came from the Bank of England (BoE) on 20 March, which also stressed increased uncertainties in the statement. Like the Federal Reserve, the BoE also kept rates steady, as widely expected. (Please read FX Viewpoint Flash: “Fed held rates steady again, trade policy key for USD” for more details.) GBP-USD held relatively steady, despite a small hawkish surprise that only one monetary policy committee (MPC) member, Swati Dhingra, dissenting in favour of a 25bp cut, after two voted for a 50bp cut in February. Source: Bloomberg, HSBC Source: Bloomberg, HSBC The BoE’s slow and steady pace of easing has led to a relatively stable interest rate outlook versus the US. Indeed, larger moves in US rate expectations have driven yield differential and GBP-USD over the past year (Chart 2), as markets are more concerned by the potential impact of tariff policy on the US economy. Over the near term, the risks of US tariffs on Europe from April and an announcement from US President Trump on reciprocal tariffs, among others, would probably pose downside risks to the GBP, as the currency tends to underperform in periods of high uncertainty. As US tariffs rise, weakness in the European and global economy would spill over to the UK economy, which has been struggling. UK survey data in recent months has shown softer labour demand, which is likely to weigh on wage growth and new hiring, pushing unemployment higher over the coming months. It also looks like fiscal policy will tighten, but it is not known when or by how much. Our economists’ base case is that growth and employment concerns will come to dominate over inflation worries. As such, when markets start to price in more BoE cuts, the GBP is likely to face downside risks. https://www.hsbc.com.my/wealth/insights/fx-insights/fx-viewpoint/gbp-usd-holding-the-line-for-now/

2025-03-24 07:04

Key takeaways The noise level in the markets remains very high. A dramatic rise in policy uncertainty is creating a more volatile environment, which could persist. Chinese policymakers have unveiled a new 30-point plan to boost domestic consumption as part of efforts to fire-up the country’s economy. After an impressive two-year rally driven by strong inflows and high growth expectations, Indian stocks have lagged their global peers in 2025 – with MSCI India down 7%. Chart of the week – Central banks in ‘wait–and–see’ mode Uncertainty was very much the broad theme of last week’s central bank policy meetings, with an increasingly complex macro reality clouding the outlook. As expected, the Fed kept rates on hold, maintaining ‘wait-and-see’ mode in the face of heightened policy uncertainty. Fed Chair Jerome Powell signalled no hurry to cut rates as the central bank seeks to balance competing considerations of upward inflation pressure, downside growth risks, and fragile sentiment. The Fed revised down its 2025 GDP growth forecasts to 1.7% from 2.1% and nudged up its inflation expectations – an uneasy mix that raises the spectre of stagflation. The inescapable message was that uncertainty is “remarkably high”, with the so-called ‘dot plot’, which tracks the year-end rate projections of Fed officials, more scattered now than it was three months ago. For other central banks, there was modest divergence but few surprises. Banco do Brasil’s ongoing efforts to tackle resurgent inflation saw it hike rates by 1%. By contrast, Swiss policymakers responded to persistently low inflation with a 0.25% cut. Others, including China, the UK, and Sweden, all followed the Fed’s cautious stance. On balance, we think global central banks remain on course to cut rates this year as cooling labour markets allow inflation considerations to give way to shoring up growth that is being damaged by uncertainty. Barring a major shock, this would be a decent backdrop for global risk assets to perform and laggard markets to continue to catch up. Market Spotlight Sustainable thinking Ten years ago, the United Nations agreed a set of Sustainable Development Goals (SDGs) aimed at promoting a fairer, healthier, and more sustainable future. Since then, asset allocators have used them to measure sustainability outcomes in portfolios. But there have been challenges, particularly because there is no one-size-fits-all way of measuring companies against broad and often overlapping goals. Part of the challenge with SDGs is that they were designed with sovereigns, rather than corporates, in mind and many of them are qualitative. That can make them difficult to measure and apply to investment portfolios, especially at scale. The ambiguity raises the risk of greenwashing and missing out on investment opportunities. The quant solution is to move away from viewing SDGs primarily as reporting metrics aiming to measure every company against every SDG and instead break them into granular investment themes that are easier to link to specific company activities. That way, it’s possible to be more precise about how firms’ impact on those individual themes within SDGs, and do it – with the help of AI – at scale. The result is a more robust, quantitative process for thematic portfolios, that offers a competitive edge in rapidly changing markets. The value of investments and any income from them can go down as well as up and investors may not get back the amount originally invested. Past performance does not predict future returns. The level of yield is not guaranteed and may rise or fall in the future. For informational purposes only and should not be construed as a recommendation to invest in the specific country, product, strategy, sector, or security Any views expressed were held at the time of preparation and are subject to change without notice. Any forecast, projection or target where provided is indicative only and is not guaranteed in any way. Source: HSBC Asset Management. Macrobond, Bloomberg. Data as at 7.30am UK time 21 March 2025. Lens on… The new uncertainty trade The noise level in markets remains very high. A dramatic rise in policy uncertainty is creating a more volatile environment, which could persist. What’s new is that volatility is back in the stock market. After the 2021-22 inflation burst, volatility in 2023 and 2024 was mostly contained to short-term interest rates and bond markets, with technical factors also keeping the VIX index supressed. This year, elevated policy uncertainty, the AI wobble, and investors’ reduced faith in US exceptionalism are all creating a rockier journey in US stocks. The US market has gone from hero to zero. China, broad emerging markets, the eurozone, and even the FTSEs are all outperforming. Uncertainty is not great for macro trends either. Both consumers and businesses move into wait-and-see mode, which can stall economic activity. For now, we don’t think the system is in imminent recession danger. Instead, the situation is one of growth cooling down. But even without a more adverse scenario materialising, uncertainty has a price. Investors should prepare for more surprises as we head toward Q2. Only one thing is for sure: the uncertainty trade is back. China’s consumer boost Chinese policymakers have unveiled a new 30-point plan to boost domestic consumption as part of efforts to fire-up the country’s economy. It follows recent National People’s Congress meetings, where domestic demand stimulus was billed as the government’s top priority. The plan reiterates previous announcements designed to raise wages, cut financial burdens, and encourage spending. It includes measures to stabilise the stock market – a driving force of consumer confidence – and develop more bond products suitable for individual investors. As well as promoting traditional consumer sectors like cars and property, the plan also encourages high-growth areas of consumer spend, such as ‘silver tourism’, and AI-powered technologies like autonomous driving, smart wearables, ultra-high-definition video, robotics, and 3D printing. For now, China looks to be in ‘wait and see’ mode amid elevated global economic and trade policy uncertainty. But the policy shift toward consumption is positive. And while there is no magic bullet to drive a quick or strong turnaround in consumer spending, the perceived policy put may continue to support investor sentiment, propagating a virtuous cycle between consumption and the stock market. India stocks – on sale? After an impressive two-year rally driven by strong inflows and high growth expectations, Indian stocks have lagged their global peers in 2025 – with MSCI India down 7%. After recent falls, India’s price/book valuation relative to the rest of the world (excluding the Covid sell-off) has slipped to a 20-year low. But why? Recent weakness has been driven by a mix of foreign investment outflows, lacklustre Q3-FY25 profits news, and trade policy uncertainty. That’s despite the stimulative effects of an RBI rate cut, measures to boost system liquidity, and positive signals from February’s Union Budget. In addition, India’s relatively closed economy could make it less sensitive to trade tariffs than some of its Asian neighbours. Against that backdrop, its stocks are still expected to deliver mid-teens earnings growth in each of the next two years. Near-term performance could be driven by favourable base effects, a pick-up in government capex, and strong rural growth. Longer-term, India’s structural growth story remains intact, underpinned by favourable demographics, rising incomes, supply chain diversification, and government reforms – making recent market weakness a potential buying opportunity. Past performance does not predict future returns. For informational purposes only and should not be construed as a recommendation to invest in the specific country, product, strategy, sector, or security Any views expressed were held at the time of preparation and are subject to change without notice. Any forecast, projection or target where provided is indicative only and is not guaranteed in any way. Source: HSBC Asset Management. Macrobond, Bloomberg, Datastream, MOVE: BofA ICE. Data as at 7.30am UK time 21 March 2025. Key Events and Data Releases Last week The week ahead Source: HSBC Asset Management. Data as at 7.30am UK time 21 March 2025. For informational purposes only and should not be construed as a recommendation to invest in the specific country, product, strategy, sector or security. Any views expressed were held at the time of preparation and are subject to change without notice. Market review Risk markets rebounded as investors digested the latest Federal Reserve FOMC meeting and Chair Powell’s post-meeting remarks, while the US dollar index remained range-bound. Core government bonds saw a broad-based rally. The FOMC downgraded its growth projection, upgraded its near-term inflation forecast and maintained its projection for further gradual easing. US equities mostly rose, led by the Russell 2000. The Euro Stoxx 50 posted decent gains. Japan’s Nikkei 225 moved higher, driven by Financials, as the latest data and the BoJ officials’ comments reinforced market expectations of further gradual BoJ policy normalisation. In emerging markets, India’s Sensex rose strongly, and South Korea’s Kospi performed well, while Chinese equities drifted lower. In commodities, oil prices advanced, with geopolitical developments remaining in focus, and both copper and gold rose. https://www.hsbc.com.my/wealth/insights/asset-class-views/investment-weekly/central-banks-in-wait-and-see-mode/

2025-03-24 07:04

Key takeaways As expected, the Federal Reserve kept rates unchanged at 4.25%-4.50%, making it the second consecutive pause. The FOMC’s latest summary of economic projections (SEP) showed slower GDP growth and higher core inflation vs. projections from December 2024. Mr. Powell acknowledged the increased uncertainty over the economic outlook amid policy changes, but reiterated the wait-and-see approach, apart from slowing the quantitative tightening process, which can be seen as a mild easing step. For US equity investors, the widespread use of tariffs and the potential for accelerating inflation continues to dampen the outlook for corporate profits and economic growth in 2025. Amid uncertainties, we expect US equities to remain volatile in the near term and continue to diversify into the Forgotten 493 stocks in the US and into international markets. We see tactical opportunities in credit as the Fed policy easing should resume soon and continue to expect three rate cuts this year (June, September and December). What happened? As expected, the Federal Reserve kept the federal funds target range unchanged at 4.25%-4.50%. The FOMC continues to balance dual risks of higher short-term inflation due to tariffs on the one hand and the rising tail risk of recession (not our core case) due to the recent weakening of economic data on the other hand. The latest summary of economic projections (SEP) showed slower GDP growth and higher core inflation compared to the previous set of projections made in December 2024. The projection for the unemployment rate at the end of this year was raised modestly from the prior forecast. The inflation outlook was lifted, perhaps taking into account the potential implications of tariffs. However, inflation is still expected to reach the Fed’s 2% target by year-end 2027. Median of the FOMC economic projections, March 2025 Source: Federal Reserve, HSBC Global Private Banking and Wealth as at 19 March 2025. Forecasts are subject to change. In an attempt to mitigate damage caused by the Federal government passing the debt ceiling, effective 1 April 2025, the monthly redemption cap on Treasury securities will be reduced from USD25 billion to USD5 billion, while the cap on agency debt and mortgage-backed securities remains unchanged at USD35 billion. This adjustment signals a more gradual approach to balance sheet normalisation. The potential downside risks to growth and upside risks to inflation, in part from tariffs and trade policy uncertainty, create a complication for the monetary policy outlook. The dot plot, which provides insights into the Committee's expectations for the Federal funds rate, shows that the median projection for 2025 is 3.875%, implying two 0.25% rate cuts by year-end, i.e. a total reduction of 0.50% from the current midpoint of 4.375% (within the 4.25%-4.50% range). We continue to forecast 0.75% of rate cuts in 2025, followed by no change in policy rates in 2026. Will the most aggressive Fed tightening ever result in aggressive easing as well? Source: Bloomberg, HSBC Global Private Banking and Wealth as at 19 March 2025. Forecasts are subject to change. Powell described tariff-driven inflation as potentially transitory and highlighted that short-term inflation expectations have risen due to tariffs, but long-term expectations remain “well-anchored” near the 2% target, suggesting confidence in the Fed's ability to manage inflation over the long run. He explained that central bankers often view tariff effects as one-time price level increases rather than ongoing inflation, unless they trigger broader changes in consumer behaviour or retaliation cycles. He noted that the Fed has revised its 2025 core PCE inflation forecast upward to 2.8% from 2.5%, reflecting these pressures, but stressed the need for more data to assess whether these effects will persist or fade over time. He also estimated a roughly 1-in-4 chance of a recession over the next year, noting that while some forecasters have raised recession probabilities, they remain at moderate levels. Investment implications For fixed income investors, while the disinflation process is occurring more slowly than previously forecast, it seems that the Fed is content with inflation heading toward 2%. As a result, the Fed policy easing should resume soon, which means any backup in market rates is an opportunity. We maintain our preference for an active approach in fixed income. For US equity investors, the widespread use of tariffs and the potential for accelerating inflation continues to dampen the outlook for corporate profits and economic growth in 2025. The FactSet consensus earnings growth estimate for the S&P 500 has been revised from 15% to 11.5%. This sizable downward revision should incorporate a mild slowdown in economic growth and tighter corporate margins if tariffs are enacted and companies choose to absorb part of the increased price levels. Until the tariff policy decisions are finalised, US equities may remain volatile and the outlook for corporate profits is uncertain. It is also important to note that despite the near-term risks, the 2026 forecast for S&P 500 corporate earnings shows a sharp acceleration to 14.2%. Valuations are now much more reasonable, and market sentiment is fairly weak, suggesting that perhaps the worst of this repricing of US equities may be behind us soon. We believe diversification is key and continue to diversify into the Forgotten 493 stocks in the US and across sectors and markets, including China, Singapore, Japan and India. Multi-asset portfolios with an active approach are best placed in this environment to manage ongoing uncertainties. https://www.hsbc.com.my/wealth/insights/market-outlook/special-coverage/the-fed-stays-patient-recognising-increased-economic-uncertainty/

2025-03-21 07:04

Key takeaways The March FOMC was marked by little or no change, with policy rates and the ‘dots’ left unaltered. While the FOMC’s projections were changed in a pessimist direction, Fed Chair Powell’s tone was one of reassurance. The USD wobbles and will probably rest more on how US trade policy evolves over the near term. For a second straight meeting, the Federal Open Market Committee (FOMC) voted to keep the federal funds target range at 4.25-4.50%, as widely expected. In its policy statement, the Federal Reserve (Fed) noted that uncertainty around the economic outlook “has increased”. Fed Chair Jerome Powell said, the central bank was “not going to be in any hurry to move” in the press conference when answering a question about the potential for a pivot back towards rate cuts as soon as the next policy meeting in May. The updated FOMC’s economic projections showed slower GDP growth but higher inflation, hinting at stagflationary risks (see the table below for details). The median interest rate projections (known as “median dots”) remained unchanged from those laid out at the December meeting. It suggests two further 25bp cuts in 2025, compared to markets which also see a 60% chance of an additional third cut (Bloomberg, 19 March 2025). Our economists still expect 75bp of rate cuts in 2025, followed by no change in policy rates in 2026. Source: Federal Reserve Uncertainty was a recurring theme in the press conference, waiting for clarity on how trade, immigration, fiscal, and regulatory policies actually evolve. But for the most part, Fed Chair Powell’s tone was one of reassurance. He downplayed suggestions that the US was heading for recession, noting that the hard data on activity remains solid. He also did not sound especially exercised about the upward revisions to inflation and near-term inflation expectations, instead stressing that longer-term inflation expectations remained anchored. While the economic projections may have changed, the tone around the policy path has not. With policy rates and ‘median dots’ left unaltered, the 18-19 March FOMC meeting was sufficiently neutral not to challenge the prevailing USD bearish mood in the market, especially with US yields falling. But it was not enough to prompt a sustained USD decline either. The key for the USD now is likely to rest more on how US trade policy evolves, rather than monetary policy. Our central case is that the USD will recover some lost ground over the long run, as US tariffs rise, the Fed does not cut more than what is already priced, and the rest of the world begins to look less exceptional again. https://www.hsbc.com.my/wealth/insights/fx-insights/fx-viewpoint/fed-held-rates-steady-again-trade-policy-key-for-usd/

2025-03-18 12:02

Key takeaways China’s National People’s Congress (NPC) announced a c5% GDP growth target and steady policy support. Policy is shifting to supporting consumption and rolling out structural reforms to urbanise the migrant population. New laws to build a business-friendly environment should boost confidence and facilitate innovation. China data review (January-February 2025) Retail sales rose by 4% y-o-y in January-February on the back of the recent expansion in consumer durable goods trade-in programs. Consumer durable goods trade-ins were front-loaded in January with a quota of RMB81bn, which was expanded to include consumer electronics (phones, tablets, and smart watches). By category, communications appliances (+26%) and household appliances (+10.9%) were the stand outs. Despite the improvement in consumption figures, there are warning signs that the key drivers for consumption growth (income and wealth) are facing pressure, with the unemployment rate rising to 5.4%, the highest level since 1Q23. Meanwhile, the property market remained under pressure as property investment declined 10% y-o-y in January-February, residential floor sales fell 3.4%, and new floor starts were down 29% y-o-y. Industrial production sustained elevated growth rates, up 5.9% y-o-y in January- February, due to robust export growth and equipment trade-in programs. However, there may be some pressure on manufacturing to come with the impact of tariffs and a drag from global demand is likely to pick up. Meanwhile, policy moves to adjust industrial capacity in some sectors such as steel may also be accelerated, which could lead to a near-term hit for production, although this should help lead to better adjustment in prices and in turn profitability. Headline CPI contracted 0.7% y-o-y in February given distortions from the earlier (January) start to the Chinese New Year (CNY) holiday this year and a plunge in food prices. Indeed, the National Bureau of Statistics noted that excluding the earlier CNY, CPI actually rose 0.1% (NBS, 9 March). Meanwhile, PPI deflation saw a slight improvement to 2.2% y-o-y in February amid recovery of some demand for industrial products. Exports rose 2.3% y-o-y in January-February showing resilience despite the implementation of 10% US tariffs on 4 February. Indeed, exports continued to rise, both to the US (+2.3%) and to intermediary markets such as ASEAN (+5.7%) and Latin America (+3.2%). However, imports dropped 8.4% y-o-y in January-February, partly related to lower prices as well as supply-side adjustments in industrial sectors, e.g., iron ore imports were down 30%. NPC wrap-up: Expanding domestic demand on all fronts China’s week-long annual policy setting meetings concluded on 11 March. In addition to the key briefings on the Government Work Report and the fiscal budgets (Figure 1), there were six press conferences led by department heads throughout the week, highlighting key policy details for their respective fields. We discuss the key takeaways. Plans to boost growth Policymakers set an ambitious growth target of “around 5%” for 2025, while reiterating it would implement proactive macro policies to support growth. The Government Work Report and fiscal budgets provide overall guidance while the press conferences held throughout the week provided more details on how the government will prop up domestic demand this year. This has become more critical as the global backdrop remains highly uncertain and more tariff risks remain on the horizon. The key policy themes were centred around boosting technology and innovation, unlocking consumption in more areas (e.g. services) and accelerating support for China’s structural transition. Now, it comes down to implementation. Technology development in the spotlight Various department heads noted a range of measures to support ongoing technology innovation and adoption, which should help build on the recent momentum stemming from new Artificial Intelligence (AI) developments in China such as DeepSeek and Manus. The policy measures announced were broad and emphasised capital market and financing support such as the development of a technology board for the bond market, promotion of merger and acquisitions for more indebted technology companies, expanded relending facilities for technology transformation, and boosting education capacity. Building a business-friendly environment While DeepSeek’s success has lifted business confidence regarding China’s technology innovation, a broad-based recovery is still needed. A new law aimed at ensuring the legal protection of private enterprises – the Private Economy Promotion Law – is on a fast-track, while the construction of a unified national market is likely to accelerate, which is designed to tackle internal trade barriers and level the playing field (source: Xinhua, 9 March). Cyclical and structural policies to boost consumption Domestic demand strength is likely to rely on sustainable consumption growth. To support this, direct cyclical policies have been expanded (e.g. funding for consumer durable goods trade-in programs doubled to RMB300bn), more spending is earmarked for higher quality public services, and measures have been rolled out to boost household disposable income. Of particular importance is the upgraded ‘Hukou reform’ – c300m migrant workers and their families will be eligible for public services, including schools, healthcare, and social housing based on their residence. Other structural policies include increased support for lower income groups and social welfare such as increasing minimum basic standards for pensions (which should help 320m people), increasing fiscal subsidies for medical insurance, and the gradual rollout of free pre-school education – currently China provides nine years of free, compulsory education covering primary school and middle school years. Such policies can help to improve income levels, unlock precautionary savings, and also help to address demographic challenges. There’s also an emphasis on supporting service consumption, which only accounts for c50% of total consumption spending despite the rapid growth witnessed post-pandemic. The commerce minister said that the primary challenge in developing service consumption is the shortage of quality supply. In addition to supporting domestic players to provide diversified services, China is promoting opening-up in telecommunications, healthcare, and education industries as well as advancing the orderly opening of sectors including internet and culture. Additional policies for China’s transition Aside from expanding consumption and improving innovation, which are key aspects of supporting China’s longer-term productivity, there was also mention of adjusting capacity. While policymakers have lowered this year’s inflation target to 2%, there will be more policies to promote consumption, which should help CPI inflation. But equally important will be adjustments in supply. Policymakers have noted that they would aim to withdraw outdated and inefficient capacity, which could involve raising production standards or window guidance for firms. This should in turn help to lift prices and improve profitability for firms. Source: Government Work Report 2025, Xinhua, HSBC Source: LSEG Eikon Note: *Past performance is not an indication of future returns. Priced as of 14 March 2025. Source: LSEG Eikon https://www.hsbc.com.my/wealth/insights/market-outlook/china-in-focus/npc-wrap-up-expanding-domestic-demand-on-all-fronts/