That said, a weaker dollar and limited spillover from rising yields in developed market (DM) bonds should give emerging market central banks room to support their economies.

US policy uncertainty ripples across emerging markets

The threat of spiraling global tariff rates has abated in recent weeks, lowering the probability of a recession and, in turn, reducing risks to EMs.

But since President Donald Trump announced global reciprocal tariffs on April 2, the outlook for international trade has been highly uncertain. Trump has doubled down at times, raising tariff rates on China to 145% as part of a retaliatory escalation, but has since backtracked.

While on the one hand, the size and breadth of the tariff announcements have surprised markets, on the other, markets have tamed the Trump administration’s actions. So-called bond “vigilantes” have threatened a damaging rise in yields in response to the most aggressive tariff threats.

Indeed, with the US reciprocal tariffs currently facing legal challenges, markets are more optimistic.

However, given the policy uncertainty, markets have shifted away from the exceptionalism narrative that dominated at the turn of the year. This has led to a softer dollar, offering some relief to EM assets and global financing conditions.

The Art of the Deal may demand too much

US tariff rates are around 10 percentage points higher since Trump’s second term began, and uncertainty hangs over global decision makers, given the potential for further tariff changes and still ongoing (or yet to start) trade negotiations.

We estimate the average weighted tariff rate currently stands at 12%, close to where we expect it will eventually settle.

Despite legal challenges to his reciprocal tariffs, there are several avenues through which Trump could lever tariffs, and we expect this to remain a key feature of his presidency.

Indeed, bipartisan support for a "tough on China" approach suggests tariffs on Chinese imports could rise back to 40% or more. The difficulty of securing a trade deal with the US, and existing legislation (Sections 232, 301), which provides an easy route for the US to raise tariffs on China, still points to decoupling being a long-lasting headwind to Chinese growth.

Other EMs will seek to benefit from the decoupling, but in the near term, they will face hurdles in meeting US demands to secure trade deals and avoid higher tariffs of their own.

US demands include reducing bilateral trade deficits, addressing perceived currency manipulation, minimizing China’s footprint within supply chains, and avoiding becoming a re-exporting partner for Chinese goods. There are also challenges around non-tariff barriers and various sector-specific complaints.

EMs are unlikely to satisfy all the demands of the Trump administration, and it remains unclear what the true aims of the US are.

India appears best placed to secure any early agreement, but even this now looks likely to involve an interim deal to avoid the reimposition of a 26% reciprocal tariff.

India has indicated its willingness to lower its tariff rates to 0% on manufactured goods from the US and agree to purchases of agricultural produce, military hardware, and/or hydrocarbons.

However, US demands for broader agricultural access and non-tariff barriers for US tech and e-commerce firms will slow progress.

For India, the benefits could include increased investment in its manufacturing sector, as well as enhanced competition, which supports productivity gains and lowers consumer prices. Like other EMs, India’s comparative advantage should also allow it to compete with domestic manufacturers in labor-intensive production.

However, reflective of the challenges faced by other EMs, Indian policymakers face domestic pressures not to yield to US demands. Lobbying from industry, farmers, and protectionist elements within the government challenges the idea that trade uncertainty will be eased soon.

Exposure to global trade is now a vulnerability

The most immediate growth implications for EMs have been through trade; a front-running of tariffs has led to sharp spikes in exports to the US, benefiting some EMs, such as India, Taiwan, and Thailand.

However, this boost to EM growth will prove fleeting, given that US inventories have already built up.

Further volatility and heterogeneity in US tariff setting are likely to persist, making it challenging to assess underlying economic momentum. However, the direction of travel (i.e., slower global growth and a less supportive external environment) is less uncertain.

Even economies with low direct trade exposure to the US, or even to China, but with high trade openness, are likely to experience some drag from their respective export sectors.

This is the case, for example, of Central and Eastern European (CEE) economies, which are heavily reliant on external demand, whereas, as a region, LatAm (excluding Mexico) stands out as being less exposed (Charts 1 and 2).

Chinese exporters seek alternative markets

Additional trade headwinds stem from China’s response to US trade pressure.

China’s policymakers may have touted stronger domestic consumption as a policy focus at this year’s “two sessions”, but the overall stance remains firmly reliant on investment.

Certainly, the authorities’ policy pivot since September has yet to yield any significant boost to imports and therefore positive spillovers to other EMs (Chart 3).

Moreover, continued falls in China’s export prices are indicative of firms using pricing power to re-home their goods as access to the US market shrinks. Indeed, this will enable China’s exporters to remain competitive in other markets.

In the long run, EM reshoring beneficiaries will emerge from the decoupling of US-China trade, given that we remain skeptical about the US's ability to onshore significant amounts of manufacturing.

However, the more immediate impact will be that China’s exporters will increasingly seek to challenge incumbents in emerging markets, creating disinflationary pressures on goods prices.

Disinflationary trends should continue

Inflation has continued to moderate across most markets, and a combination of lower global growth, a weaker dollar, softer energy prices, and the potential for Chinese competition to drive down goods prices should help bring inflation rates lower, offsetting any potentially inflationary aspects from supply chain disruptions or reshoring trends for potential long-run beneficiaries.

However, suppose the tariff shock is set to be smaller, as both we and the market expect it to be. In that case, the disinflationary impact on underlying inflation will also be more moderate.

For some countries, such as Türkiye and Colombia, which are less exposed to global trade, the onus remains on domestic policy settings to prove disinflationary. While in Mexico and parts of CEE, external disinflationary pressures can play a larger role.

Nevertheless, a lingering stickiness remains in services inflation (Chart 4), partly due to still-tight labor markets in countries such as Brazil and Hungary.

As such, we maintain our call for cautious easing by EM central banks. Further monetary easing is most likely in economies highly exposed to trade, such as Thailand, Malaysia, Taiwan, and South Korea, as well as in those where inflation has moderated, such as the Philippines.

Moreover, the lack of FX-depreciation to offset higher US tariffs risks proving a terms-of-trade shock for many EMs, creating further downward pressures on growth and inflation.

In this sense, lower policy rates may help policymakers to weaken currencies to regain some of their export competitiveness. The challenge will be managing market expectations around such a policy.

Outside of Asia, we expect a more cautious approach, given less exposure to global trade and less sticky inflation dynamics. Core inflation remains elevated in Brazil, Colombia, and Hungary.

While we do not expect policymakers to reverse their policy easing like Brazil, delays to further cuts or maintaining rates above neutral are likely if employment and activity data continue to hold up (Chart 5).

Still, where signs of weakening growth are evident, such as in Mexico, we expect central banks to look through lingering inflationary pressures and take the lead in providing policy support to their economies.

Markets may be increasingly sensitive to fiscal slippage

A key factor in our continued call for monetary easing is the fact that markets have become increasingly sensitive to fiscal slippage.

DM long-end bond yields rose sharply in May, in part due to worsening sentiment around fiscal paths, but EM bonds have been notably resilient (Chart 6).

Source: Aberdeen, Haver, June 2025.

This likely reflects the fact that a degree of fiscal slippage from some EMs has already been priced in, as well as the year-to-date appreciation of EM currencies against the US dollar. Indeed, this has boosted returns for foreign investors in local currency bonds.

Supportively, many EMs have announced fiscal consolidation for the year, providing another tailwind for bonds (Chart 7). However, we believe growing risks that governments may fall short of their budgetary targets as growth disappoints.

Markets regularly give the cold shoulder to fiscal slippage in EMs; in the year to date, Colombia, Indonesia, Brazil, and Romania have been notable examples of where markets have reacted negatively to perceived fiscal ill-discipline, leading to bond prices falling and currencies weakening.

Fiscal fundamentals have deteriorated across most EMs since the pandemic, with public debt ratios and fiscal deficits increasing. Despite plans for fiscal consolidation, deficits in many EMs will remain larger than pre-pandemic averages (Chart 8).

Important information

Projections are offered as opinion and are not reflective of potential performance. Projections are not guaranteed and actual events or results may differ materially.

Foreign securities are more volatile, harder to price and less liquid than U.S. securities. They are subject to different accounting and regulatory standards, and political and economic risks. These risks are enhanced in emerging markets countries.

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