Our outlook suggests that policy responses will vary across regions, with Europe generally supportive, while the U.S. and Japan present a more mixed picture.

In Europe, the ECB appears to still be on the path of easing monetary policy, with a dovish tilt. Given the uncertainty surrounding trade policy and its impact on growth and inflation, the ECB insists it will remain data dependent, a sensible move given the continually shifting trade tensions. We expect two to three more rate cuts this year of 25 basis points (bps) each.

The fiscal policy side leans much more supportive for growth. Half of the EU Recovery Fund is still planned to be spent over the next two years, focusing on infrastructure. There have been changes to fiscal rules that allow defense spending outside the 3% deficit limit, freeing up some capacity to spend on investment. The fiscal support should see the largest impact in Germany and other less indebted economies, but even those struggling with spending levels, such France and Italy, are still expected to see some benefit.

On monetary policy expectations in the U.S., we only expect one more rate cut this year. The Fed seems to be in no hurry to make significant policy adjustments. Its position is complicated by the current environment, with uncertain policy, higher tariffs and government spending cuts likely to drag on the U.S. economy. The latest tax and spending bill looks like it may worsen the U.S. deficit outlook. The Fed might be hard pressed to continue cutting rates while government policies might hinder the reduction of inflation. If tensions arise between inflation and employment goals, the Fed has stated it will concentrate on whichever issue is furthest in terms of result and timeline. Given the latest numbers and current Fed forecasts, it seems the focus will be more on inflation than unemployment.

In our view, the Bank of Japan (BoJ) is expected to consider rate hikes and continuing policy normalization. However, given the direction of inflation and the need to balance the disruption from uncertain trade tensions, it will hold off on moving higher too quickly. We see only one more rate hike this year, especially if a stronger Japanese yen (JPY) from higher rates and a flight to safety puts even more pressure on the economy. Fiscal policy is expected to be supportive; given that the ruling coalition lacks a majority in the Lower House, cooperation from opposition parties has become essential for governance, putting it in a position to increase spending to deal with rising public dissatisfaction.

Across Asia, central banks may have more space for rate cuts and supportive measures, given their currencies face alleviated appreciation pressure due to a weaker U.S. dollar (USD) and higher U.S. yields resulting from an erratic policy rollout.

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