This report does not constitute a rating action.
(Editor's Note: In this series of articles, we answer the pressing Questions That Matter on the uncertainties that will shape 2025—collected through our interactions with investors and other market participants. The series is aligned with the key themes we're watching in the coming year and is part of our Global Credit Outlook 2025.)
Financial markets in 2024 remained remarkably resilient to multiple sources of material geopolitical uncertainty. More volatility may be in store for 2025 in the face of what could be the resolution or escalation of some of the uncertainties.
How This Will Shape 2025
After half of the world's population voted in 2024, the coming year is shaping up to be a year of policy uncertainty. Forthcoming decisions by new governments could heighten market volatility. Former President Donald Trump's successful bid to return to the White House means geopolitical, trade, and fiscal policy choices are all in play and are likely to be the most impactful election outcomes for the global agenda. The 2025 election calendar appears lighter, with less than 15% of the global population going to the polls next year (see chart).
Protectionist policy agendas have taken greater prominence as advanced economies strive to protect key domestic industries. Trade conflicts and tariffs between key blocks (notably the U.S., EU, and China) could affect growth and the prices of imported goods. Trade flows could also be exposed to geopolitical threats, as is the case in the Red Sea. More restrictive measures on immigration could affect labor supply, and therefore stoke inflation.
Military conflicts are expected to continue to dominate regional and global agendas. The Russia-Ukraine war continues. Although a ceasefire between Israel and Hezbollah came into force at the end of November, the peace may remain fragile, and the Israel-Hamas war continues. The positions taken by the incoming U.S. administration could influence the direction of efforts to end active fighting in those conflicts.
Fiscal flexibility for many governments remains constrained against the backdrop of rising debt levels. We expect heightened security concerns to result in increased defense spending. More expansive fiscal policies could be pursued in an attempt to address the electorate's concerns regarding cost of living, infrastructure, and growth, but it could also maintain inflation at higher-than-expected levels.
Markets remained remarkably sanguine given the geopolitical risks faced in 2024. Despite the risks and still elevated interest rates, we witnessed significant credit resilience in 2024. Upgrades outpaced downgrades over the course of the year across all regions, while issuance was strong over the entire rating spectrum. Significant capital inflows, combined with attractive yields pushed credit spreads to their tightest levels in 17 years. Borrowers made material progress in refinancing upcoming corporate debt with maturities, which will now peak in 2028 in the U.S. and 2026 in Europe. That said, it is unclear if the economic backdrop in 2025 will prove as supportive of markets.
What We Think And Why
Short-term global financial risks seem manageable. The past five years have been characterized by several shocks, notably including the COVID-19 pandemic, U.S.-China trade tensions, Brexit, and armed conflicts. The global policy rate easing cycle is now in full swing although macro developments in the three major economies (U.S., Eurozone, and China) remain on different paths. S&P Global still expects a soft-landing for global economies as central banks pursue their 2% inflation targets.
Disappointing rate trajectories and external shocks could upend market sentiment. Expectations of material rate cuts supported debt pricing and availability in 2024. Yet, new protectionist measures and higher government spending could underpin higher inflation in some areas, which could curtail the pace of reductions in central bank rates. Our expectation that U.S. policy rates will fall to 3%-3.25% by the end of 2025 is also exposed to geopolitical risk factors and market volatility, particularly if external shocks materialize.
Weaker issuers are most exposed to changing market conditions. Speculative grade corporate issuers (and particularly those with inadequately hedged floating-rate debt) will likely be most affected by market shocks that drive up borrowing costs or limit access to funding. Past financial and geopolitical market disruption has resulted in wider speculative-grade spreads in secondary markets. Some emerging market borrowers could prove particularly sensitive to higher Fed rates and a stronger dollar. Energy and commodity prices could also feel the effects of geopolitical uncertainties, though oil prices will also depend on production developments, including in the U.S.
Government policies are likely to be more difficult to predict. Uncertainty and potential polarization resulting from looming changes to fiscal, trade, energy transition, and immigration policies could affect economic performance, credit quality, and social stability. Financial markets' initial response to a Trump presidency has been positive, yet the transition to a new administration brings greater policy uncertainty.
What Could Change
Regional conflict resolutions could be preceded by a surge in tensions and heightened geopolitical uncertainty. Credit markets remained relatively stable (and focused on the pace and scale of central bank rate cuts) even when geopolitical tensions rose in 2024. For example, the largest month-over-month change in high-yield credit spreads in 2024 was 20 basis points (bps), well below the 371 bps jump in March 2020 during the onset of the COVID-19 pandemic (see chart). That could change if a significant escalation in perceived geopolitical risks prompts a flight to safety and tighter credit conditions. Potential catalysts for that shift in sentiment are numerous. The Israel-Hamas war remains unresolved. The reported deployment of North Korean troops by Russia could link conflicts in Europe to tensions in Asia. And rising threat levels in the South China Sea could disrupt supply chains globally and spark investment outflows from the region.
Tariffs could affect markets, though regional nuances and other policies will determine the extent of their impact. The potential for disruption was demonstrated by President-elect Trump's recent announcement of a 25% tariff on Mexican and Canadian goods and an additional 10% tariff on China, which sparked a flight to safety that sent the U.S. dollar and gold prices higher and European equities lower. Myriad possible scenarios, including retaliatory actions, complicate the market's ability to price the risk; however increased short-term inflation is likely in the U.S. (where we now expect fewer rate cuts in 2025), while we recently reduced our 2026 GDP growth projection for China, down 0.7 percentage points to 3.8%. Forecasting the effect of tariffs is complicated, as their impact on the market will depend on various domestic policies. While time will tell what proposals are adopted, market volatility should be expected.
Related Research
- After Trump's Win, What's Next For The U.S. Economy?, Nov. 7, 2024.
- Floating-Rate Debt Is Still A Cause For Concern Despite Rate Reductions, Oct. 17, 2024
- Widening Middle East Conflict Poses Risks For Regional Sovereign Ratings, Oct. 9, 2024
- Evolving Political Priorities Could Affect Energy Transition, Aug. 8, 2024
- What Will Recent European Election Results Mean For Sovereign Debt And Ratings?, July 18, 2024
- The Next European Commission's Policy Choices: A Credit Perspective, July 17, 2024
| Primary Credit Analysts: | Nicole Serino, New York + 1 (212) 438 1396; nicole.serino@spglobal.com |
| Christian Esters, CFA, Frankfurt + 49 693 399 9262; christian.esters@spglobal.com |
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