Monthly Update – May 2025

Summary: Trade war vs. monetary tailwind

• Global liquidity provision has been rising significantly for some time, despite ongoing uncertainties and severe turbulence in equity, government bond, and US dollar markets.
• Liquidity, as a key support factor for markets, should at least cushion against further potential sharp setbacks.
• Nonetheless, there remains a medium-term risk of structural imbalance in the US. For the time being, we maintain a moderately cautious positioning.

Overall economic situation

Various concurrent economic indicators – such as nowcasting models for the US and Europe, the Weekly Economic Index (US), and the CrossBorderCapital Daily AI-Based World GDP Index – signal an economic cooling and very pessimistic consumer sentiment, but not yet a recession. Continued strong global liquidity and recovering equity markets are key supports for global economic growth. Moreover, general uncertainty regarding US trade policy is easing, and there is a possibility of de-escalation in the war in Ukraine.

Recent developments: Markets force Trump to rethink

• President Trump’s “Make America Wealthy Again” initiative – supported by his capable Treasury Secretary Scott Bessent, is, despite all the criticism, in part understandable and justified. However, the stated goals of lower interest rates, a weaker dollar, higher economic growth, and massive foreign investments cannot all be achieved simultaneously. Trump's aggressive rhetoric does not change this but rather exacerbates the difficulty of achieving these divergent targets – a fact the financial markets have recently made clear by moving in the opposite direction of what Trump and Bessent intended.
• US economic growth is cooling due to these measures, while long-term government bond yields remain under upward pressure. Additionally, US citizens face the threat of real wealth loss, as ultra-cheap goods from China are no longer available or have become more expensive.
• It appears the Trump administration is slowly becoming aware of this and is adjusting its stance. Coupled with increasing financial market liquidity, this may lead to a calming of markets.

Overview & outlook: Empty shelves at Walmart looming

• A serious consequence of the trade war is a declining supply of goods, particularly affecting lower- and middle-income households in the US. Lower taxes, falling yields, or higher wages in manufacturing – all nominal variables – cannot offset this. Freight volumes are reportedly dropping sharply, and by mid-May thousands of companies will need to replenish their inventories.
• While this drop is not yet fully felt by the public, companies like Walmart and Target are already warning of empty shelves and higher prices. The result: US consumers will be economically worse off. The administration's goals are therefore largely unachievable.
• It is thus no surprise that Trump and Bessent are already backtracking on several points (tariff exceptions for China, no dismissal of Fed Chair Powell). Markets responded immediately: rising stock prices, falling Treasury yields, and a stabilising US dollar.
• Whether a US recession is on the horizon remains unclear. Domestic employment could temporarily increase, potentially avoiding the worst-case scenario. A softer tone from Washington has also helped ease tensions. However, substantial economic damage has already been done, and many indicators point to a strong and rapid economic slowdown.
• From this perspective, the Fed should act swiftly to cut interest rates and stabilise the situation. The economic cooling should temporarily limit inflation risks associated with rate cuts.

Chart: Global liquidity is rising significantly

Positioning: Temporarily increasing risk exposure

• The activist emergency policies of the Trump administration are driving fundamental shifts in trade flows, interest rates, and equity markets. Many of these shifts, however, are being driven by long-term trends (rising debt, trade deficits, declining relative importance vs. China). Their necessity has been apparent for some time and is merely being accelerated by Trump’s actions.
• As a result, the US dollar is likely to weaken over the long term, gradually losing its status as the dominant reserve currency. The US can also expect higher inflation and government bond yields, along with a general decline in living standards due to deglobalisation.
• In the short term, however, no abrupt disruptions are expected. Strong global liquidity is supporting both the economy and equity/credit markets. Even in the event of a recession, central banks would likely counteract it with additional liquidity injections. Thus, a continued recovery in equity and credit markets appears likely in the near term. US government bond yields are expected to fluctuate within a moderate range.
• However, medium-to-long-term developments are not sustainable. While global liquidity is increasing, it is not keeping pace with the rise in global debt (sovereign and corporate). This may lead to refinancing stress in the second half of the year – resulting in widening credit spreads, falling equity markets, and rising government bond yields beyond just the US. Persistent price pressures are also limiting the potential for monetary easing.

On the radar: China systematically violates WTO rules

Amid the loud and hostile rhetoric in the US-China trade war, important facts that are relevant to financial markets often get drowned out.

Much of the US criticism of China's trade practices is justified. For years, China has systematically violated WTO rules – particularly regarding intellectual property and concealed subsidies.

A fair, mutual regulatory framework would benefit not only the US but the global trading system and financial markets. A ban on state subsidies is a core principle of effective global economic policy – for both the US and China.

Even China itself would benefit, as support could shift from low-margin export sectors to domestic consumption. A healthy Chinese economy, in turn, benefits the rest of the world.

Longer term, disciplining China's trade practices would be positive for the global economy. However, the short-term effect may be a temporary loss of prosperity in the US. A reduced Chinese trade surplus may also force the Chinese central bank to sell US Treasuries, pushing up US yields. The implications for equities remain uncertain, but the Fed would likely intervene if major turmoil occurred.

Markets should watch for warning signs such as widening SOFR–Fed Funds spreads and rising long-term Treasury yields.

Chart: China’s export power continues to grow unchecked