Macroeconomic overview for March 2025

Eugeniu Kireu, CFA

Apr 17, 2025

In March, uncertainty regarding US economic policy and its impact on markets remained high, and risk asset markets continued their correction.

The global high-quality bond index rose by 0.62%, while the global high-yield bond index, on the contrary, lost 0.42%. Emerging market bonds fell by 0.36%. US high-quality bonds remained almost unchanged in price, adding 0.04%, while high-yield bonds fell by 1.0%. The developed countries' stock index decreased by 4.4%. The S&P 500 index lost 5.6% of its value, and the seven largest companies in the index fell by 10.2%. Emerging market stocks rose by 0.67%, and Chinese stocks (MSCI China index) added 2.0%. The expected volatility of the S&P 500 index for the next month rose to 22.3 amid falling stock markets and increasing uncertainty.

Macroeconomic statistics have become noticeably less significant for investors' decisions. Economic uncertainty in the US has significantly changed investor behavior, which is not surprising. As they say, you can't drive a car by only looking in the rearview mirror. Similarly, decisions should not be made relying solely on lagging macroeconomic statistics. At the same time, when market circumstances change so quickly, there is a fairly high probability of irrational investor behavior. Often, price fluctuations are caused not by changing fundamental economic expectations but simply by the brute force of cash flows either leaving an asset class or, conversely, rushing into an asset. This often leads to sharp and unexpected price fluctuations. Attempting to explain their dynamics from a fundamental point of view can lead to gross errors. Of course, this does not stop analysts, let alone commentators, from trying to find such explanations. Loud headlines only increase uncertainty and the sporadic nature of asset price fluctuations in the markets.

To build rational expectations, it is most useful to rely on two key factors: the fundamental economic picture and the overall asset pricing in the market. This formula is not new — we rely on it in every report, which has always helped navigate periods of volatility much more successfully than market benchmarks.

The introduction of tariffs against US trading partners can have many different goals, among which the following stand out:

1. increase budget revenue and improve the income and expenditure balance;
2. bring back critically important high value-added production to the US;
3. improve mutual trade conditions with countries that are not geopolitical rivals;
4. economically weaken China by reducing its role in trade relations and relocating some production capacities to other countries.

Increasing budget revenue through tariffs could help solve the problem of its huge deficit, which any administration, whether Republican or Democratic, will have to address. An alternative to tariffs could be higher taxes on the middle class and wealthy individuals, but European practice shows the ineffectiveness of such measures for achieving a balanced budget. Besides, one should not underestimate the negative consequences for the overall competitiveness of the economy and the incentives for entrepreneurs and specialists to take risks associated with innovation.

Using tariffs as a tool to address the aforementioned problems can also harm the competitiveness of the economy. In general, there is a fairly strong consensus among experts that tariffs will not lead to an acceleration of US GDP growth or an improvement in the 'quality' of this growth. In the context of game theory, the situation can be described as a shift from Pareto equilibrium (if it was ever achieved) to Nash equilibrium. In other words, trade policy may lead to a general decrease in the welfare of all countries combined, but the position of the US may improve relative to others (if not in absolute, then at least in relative terms).

In this context, the US has clearly less inclination to increase its global role and support economic growth through overall global prosperity. On the contrary, growing geopolitical competition and increasingly limited flexibility in fiscal and monetary policy make the policy of redistributing profit margins arising from trade relations more attractive. In these circumstances, a decline in the dollar's exchange rate is unlikely to align with the economic interests of the United States in the near future. The US currently has neither the task nor the opportunity to become the new 'factory of the world,' and the focus on exporting high value-added goods and/or goods with low demand sensitivity to price will remain. Thus, countries exporting goods to the US have significantly more incentives to protect their competitiveness through the devaluation of their own currency. For America, this would mean cheaper imports, increased budget revenues from tariffs, and sustained demand for dollar debt, counterbalancing a significantly smaller loss of competitiveness of its exports.

One should also not forget about the current administration's desire to reduce taxes for companies and households. Some estimates indicate that these measures will lead to the need for borrowing to increase by 5–7 trillion dollars over the next ten years, and the positive effect from economic growth and tax revenue will amount to only 13% of this sum. Such estimates are based on assumptions that are very difficult to verify or predict, but tax cuts will clearly require finding additional budget revenues (tariffs) and reducing current expenses, most of which relate to such important categories as social benefits, defense, and interest on debt servicing.

It is difficult to accurately assess whether the benefits of changing trade policy will outweigh the potential costs. The Trump administration clearly considers the net effect positive for the US. Much will also depend on how the US trade, fiscal, and monetary policy stabilizes. Currently, the uncertainty is too high to seriously judge the long-term consequences. At the same time, one should not succumb to general panic and catastrophic scenarios, understanding that economic policy is only good when it achieves its goals, and it may well change if the overall economic and political goals of the current administration are not achieved.

Markets reacted sharply both to the announcement of April tariffs and their temporary suspension. Despite the correction in US stocks, their price remains quite high, especially considering the current yield of US Treasury bonds. The risk premium is currently –0.43%. This is, of course, higher than the –1.9% level observed in the second half of last year, but it still indicates investors' willingness to sacrifice long-term expected returns for short-term speculation.

Moreover, due to the monetary and fiscal stimuli of recent years, reinforced by optimism around AI technologies and the effect of rising investment costs, earnings per share for S&P 500 companies are now 22% above the level corresponding to the average growth rate of 6%, which remained stable throughout the post-World War II period. Typically, during recessions, earnings per share fell below this level, and the risk of repeating such dynamics is now increasing. Additionally, in the event of a recession caused by protectionist trade policy, the Fed will be limited in its ability to lower rates due to increased inflation. In such a case, a decline in optimism and a return of risk premiums to the historical average level are likely.

In one of the latest articles published on our website, I calculated a hypothetical level of the S&P 500 index if earnings per share fell to the level of the long-term growth trend, the Fed rate dropped to 2.5%, and the risk premium for equity investments was at least 2%. The result was disappointing — only 3850 points, which is 37% below last year's highs. At the same time, such assumptions do not seem extraordinary if a recession in the US does occur and inflation remains elevated. In other words, the stock market has become more attractive for investments than a few months ago, but its degree of overvaluation was so high that to call it long-term attractive, a correction comparable to crisis periods may be required.

Bond markets have certainly become more attractive, both in terms of risk-free investments and corporate bonds. Further correction of the latter will largely depend on the economic consequences of current and future economic policy, which cannot be predicted with sufficient certainty. Treasury bonds currently appear oversold, especially in the context of the current administration's goals, falling oil prices, and positive inflation statistics (consumer prices decreased by 0.1 p.p. in March). It is highly likely that the negative price dynamics of long-term bonds are related to the reduction of arbitrage positions by hedge funds and the overall decrease in leverage among actively managed strategies. This gives us reason to believe that the drawdown following the rise in early April is quite technical and temporary in nature and does not indicate a fundamental decline in demand for the dollar and US Treasury bonds.