Our investment and economic outlook, March 2025

In addition to Germany’s fiscal package, which includes an exemption from the nation’s rule against spending more than 1% of GDP on defense, increases in defense spending across Europe and the prospect of a ceasefire in Ukraine lead us to increase our forecasts for euro area economic growth, inflation, and the ECB policy rate.

Financing for the plan may significantly increase the supply of government-backed debt, as discussed in an analysis by Roger Hallam, Vanguard global head of rates, and Shaan Raithatha, Vanguard senior European economist. The plan unlocks “billions of euros in spending that could help kick-start Germany’s flagging economy, which has been contracting for more than two years,” the pair write.

We have updated our forecasts for the performance of major asset classes, based on the December 31, 2024, running of the Vanguard Capital Markets Model®. Detailed projections, including annualized return and volatility estimates covering both 10- and 30-year horizons, are available in interactive charts and tables.

The views below are those of the global economics and markets team of Vanguard Investment Strategy Group as of March 20, 2025.

Uncertainty around tariffs, immigration, and other policy is likely to weigh on the economy in 2025. Real-time signals point to a material slowing of growth in the first quarter. In its March 18 GDP Now estimate, the Federal Reserve Bank of Atlanta anticipated a first-quarter economic contraction.

Increased policy uncertainty has prompted us to downgrade our 2025 U.S. growth forecast and to raise our inflation forecast. We now expect:

• Full-year 2025 economic growth of 1.7%, down from 2.1%.

• The core rate of inflation, which excludes food and energy prices due to their volatility, to register about 2.7% this year, up from our previous forecast of 2.5%, based on the Fed’s preferred inflation measure, the Personal Consumption Expenditures price index.

• A considerably softer labor market report for March than we’ve become accustomed to. The report will reflect recently announced government layoffs, and we expect little employment growth in private-sector industries that are sensitive to government spending. Tariff uncertainty likely has curbed hiring in construction and manufacturing.

• The Federal Reserve to cut its target for short-term interest rates twice in the second half of the year, to a range of 3.75%–4% at year-end. The current target is 4.25%–4.5%.
  
  

Trade and tariff uncertainties have prompted us to revise our forecasts for Canadian economic growth, unemployment, core inflation, and the policy rate set by the Bank of Canada.

We now expect:

• Full-year 2025 economic growth of 1.3%, down from 1.8%.

• The Bank of Canada to trim its policy interest rate by year-end to 2.25%. We previously forecast a terminal rate of 2.5%. The central bank’s target is currently 2.75%.

• Full-year core inflation of 2.4%, up from 2.2%, reflecting our expectation for a relatively modest tariff regime.

• The unemployment rate to rise from 6.6% to 7% by year-end due to trade-related uncertainty.
   

A major infrastructure and defense program announced by Germany’s new government is set to increase the nation’s fiscal spending, leading us to upgrade our euro area growth and inflation forecasts and our European Central Bank (ECB) policy rate view.

We now expect:

• Economic growth in 2025 of 1%, up from our previous forecast of 0.5%, and a 1.6% expansion in output next year, up from our previous forecast of 0.8%. Significant tariffs on U.S. imports of European Union goods for an extended period could largely offset the gains from expansionary fiscal policy in 2025 and 2026.

• The headline and core rates of inflation to end 2025 below 2%, though we have lifted our estimate of core inflation for 2026 by 0.2 percentage point to 2.1%.

• One final interest rate cut by the European Central Bank, which would bring its deposit facility rate to 2.25%. We previously forecast a terminal rate of 1.75%.
   

The economy of the United Kingdom recently has been characterized by sluggish growth and moderating but elevated price and wage pressures. On March 20, the central bank’s policymakers maintained their 4.5% target interest rate, noting a gradual approach to further monetary policy adjustments.

We expect:

• Economic growth this year of 0.7%, down from our previous forecast of 1.4%, reflecting base effects from late 2024 and deteriorating forward-looking data.

• The headline rate of inflation to rise toward 3.5% in the near term due to higher energy prices but to fall to about 2.5% by year-end. The core inflation rate is likely to fall to about 2.7% by year-end.

• The unemployment rate to end the year around 4.7%, up from 4.4% for the November-through-January period, reflecting recent signs of labor market softening.

• The Bank of England to reduce its policy interest rate from 4.5% to 3.75% by year-end.
   

Recent economic conditions in Japan have been marked by a strengthening wage-price spiral and a gradual recovery in private consumption, which is expected to continue in 2025.

We further expect:

• Economic growth in 2025 of 1.2%, supported by upward momentum in wages. The impact of global economic uncertainty, such as potential U.S. tariff hikes, is expected to be limited, with positive spillover from policy stimulus in China.

• Steady wage growth and structural labor shortages to keep the “core core” rate of inflation, which excludes fresh food and energy, robust at about 2% this year.

• The country’s structural labor shortage, which has been partially alleviated by increased labor force participation from women, older people, and foreign workers, to continue exerting upward pressure on wages.

• The Bank of Japan to gradually raise its current 0.5% policy rate to 1.0% by year-end.
   

China's economy has appeared robust in the first quarter of 2025, but underlying headwinds suggest slower growth for the rest of the year.

We expect:

• Full-year economic growth of about 4.5%, a bit less than the growth target of “about 5%” set for the third consecutive year by the National People’s Congress. An April Politburo meeting will be a key indicator of whether policy shifts to boost consumption.

• A core rate of inflation of about 1.5% in 2025. Supply-centric policies have reinforced a negative feedback loop between weak demand and low prices.

• The unemployment rate—5.4% in January–February—to finish 2025 around 5%.

• Monetary policy adjustments aimed at boosting growth—specifically, a 0.3 percentage point cut to the seven-day reverse repurchase rate and 0.5 percentage point of cuts to banks' reserve requirement ratios.  
   

Australia's economy has shown resilience, avoiding recession despite aggressive monetary tightening by the central bank.

We expect:

• A gradual recovery in 2025, with full-year economic growth of about 2%, supported by rising real household incomes, a rebounding housing market, and rate-cut expectations.  

• A tight labor market, government energy and rent subsidies, and external uncertainties to preclude sharp disinflation this year. In January, headline inflation remained steady at 2.5% year over year. Trimmed mean inflation, which excludes extreme items, rose to 2.8% year over year.

• The unemployment rate to rise to about 4.6% this year—it stood at 4.1% in February—as financial conditions tighten amid still-restrictive interest rates.

• The Reserve Bank of Australia to proceed cautiously with further rate cuts due to sticky services inflation. We forecast the cash rate target will end 2025 at 3.5%.  
  
  

Recent economic conditions in emerging markets have been mixed. Mexico's economy contracted by 0.6% in the fourth quarter of 2024, and inflation remains a concern, while Brazil has seen a significant rise in inflation, leading the central bank to raise its policy interest rate to 14.25% to combat rising prices.

In Mexico, we expect:

• That economic growth could slow below our 1.25%–1.75% baseline for 2025 if significant tariffs are implemented and sustained.

• The core rate of inflation to fall to 3.25%–3.5% in 2025, above the midpoint of Banxico’s 2%–4% target range. It registered 3.65% year over year In February.

• The easing cycle at the Bank of Mexico (Banxico) to continue, with its policy rate ending 2025 in a range of 8%–8.25%. It is 9.5% today.

• Our economic and markets hub
• What Germany’s fiscal shakeup means for markets (article, issued March 2025)
• What investors can control amid changing conditions (video, issued March 2025)
• Not all market volatility is created equal (article, issued March 2025)
• Think differently about global diversification (article, issued January 2025)