The world’s major growth engines are about to run in reverse. Risks have tipped decidedly to the downside in the US and China, which have collectively accounted for a little more than 40% of cumulative growth in world GDP since 2010. With no new engines to fill the void and cost pressures mounting in a shocking trade war, a global stagflation could well be at hand.
There is no dark secret about what happened. The policies and uncertainties of Trump 2.0 have hit a sluggish world economy with a transformational exogenous shock. Long the anchor of the rules-based western order, the United States has turned protectionist, posing profound risks to an already fragile global trade cycle. At the same time, the central role of the US at the heart of post-World War II geostrategic stability has been shattered. America First not only has driven a powerful wedge between the US and Europe, but it also divides North America. Cohesion has given way to an increasingly hostile fragmentation in what could well be an ominous race to the bottom.
Most baseline forecasts indicate that the world economy was not operating from a position of great strength prior to the onset of this shock. I have long relied on the World Economic Outlook of the International Monetary Fund as the best approximation of a global consensus prognosis. The IMF’s latest forecast — 3.2% average growth in world GDP over the next five years (2025-29) — is 0.5 percentage point below the recent 3.7% historical growth trend (2000-19). While this protracted period of subpar global growth does not point to imminent danger of global recession — normally associated with anything less than 2.5% world GDP growth — it does warn of downside risks. In such a sluggish growth climate, the world would lack the normal cushion of resilience that enables it to withstand the blow of a serious shock. Trump 2.0 is a very serious shock.
Typically, shocks have a temporary impact on economic activity. The recent Covid-19 pandemic is a classic case in point — a devastating lockdown followed by reopening. Just as the world economy went into freefall in the depths of the lockdown, the post-lockdown reopening set the process of recovery in motion. Same story with oil price spikes, natural disasters, labor strikes, and other temporary disruptions — what goes down, invariably normalizes, sparking economic recovery.
Not so with the perma-shock of Trump 2.0. It’s not just on-again, off-again tariffs, which are bad enough. Nor a DOGE brigade aimed at dismantling the US Federal government. It’s more of a lasting breakdown in trust, driven by an America First that abrogates constitutional pillars such as the separation of powers and the rule of law, turns on its allies, re-aligns with adversaries, and even goes so far as to contemplate territorial expansion. This draws the national identity of the United States into sharp question, challenging the foundational norms of American Exceptionalism.
Never again — or at least not for the foreseeable future — will the United States be able to put the trust genie back into the metaphorical bottle. It won’t matter if Donald Trump wakes up one day and says he didn’t mean it, or that he has changed his mind. The shock effects of his actions will outlast his presidency, casting a long post-Trump shadow over the trust that has underpinned the central role of the United States as the leader of the Free World. Having once crossed America’s sacred Rubicon of moral authority, who’s to say it can’t happen again and again?
This breakdown in trust has important implications for the global economic prognosis. In the US, it affects business decision making, especially the costly long-term commitments underpinning hiring and capital spending. Businesses need to scale their future operations relative to confident expectations of future growth trajectories; that is now an increasingly iffy proposition. At the same time, that calculus bears critically on asset values and consumer confidence, both of which have been shaken by shifting expectations of an increasingly uncertain future. Uncertainty, the enemy of decision making, freezes the most dynamic segments of the real economy,
For China, State-directed policy guidance might temper the initial blow of a Trump policy shock. But the external pressures of tariff escalation will undermine its export-led growth model. This is all the more problematic given China’s lingering weakness in internal demand. Especially worrisome is China’s long deficient social safety net, welfare protection that is essential to promote a decisive consumer-led relancing. The 30-point consumer action plan announced on March 17 is encouraging in that it draws attention to the seemingly chronic plight of the Chinese consumer. However, it is discouraging in that it only offers modest support to an inadequate social safety net.
This outcome is likely to put both the US and China under significant downward pressure. Nor will this void left by the world’s most powerful growth engines be filled in by another economy. Some day, I argued several months ago, India might be in a position to take up the global growth baton. But with its relatively small portion in the global economy — an 8% PPP-based share of world GDP compared with the 34% collectively going to China and the US — India is hardly able to provide the immediate ballast that an increasingly growth starved world will shortly need.
The same is true of Europe. While the EU’s 14% share of world GDP is nearly double that of India, Europe remains saddled with anemic growth, compounded by mounting trade pressures associated with an escalating global tariff war. The apparent breakdown of the bedrock European-US alliance will not only have outsize security implications for European defense spending, but it will also have expectational effects on business and consumer decision making that are quite comparable to those bearing down on the US.
What does all this mean for global economic prospects in the years immediately ahead? While there may be some front-loading of growth momentum in the early part of this year — underscored by accelerated shipments of Chinese exports ahead of tariff hikes — I suspect the downside risks will build over the course of 2025 and cumulate into 2026 and the years beyond. In terms of the world economic outlook, that suggests a fractional haircut to the IMF’s current baseline of 3.3% growth for 2025 to around 3.0%; for 2026, the shortfall should mount, possibly taking world GDP growth down to around 2.5% — fully 0.8 percentage point below the current baseline. That would leave an increasingly fragile world economy with literally no margin of error, smack on the threshold of outright global recession.
Unlike standard disinflationary shortfalls of economic growth, this one is likely to be stagflationary. To the extent that the tariff war is aimed at friendshoring and heightened supply-chain security, the supply side of the global economy is likely to come under significant stress. Nearly five years ago, in the depths of the Covid-19 shock, I warned that the onset of stagflation was only “a broken supply chain away.” Subsequent experience and research have borne that out, confirming that the supply-chain disruptions of Covid and its immediate aftermath imparted significant upward pressure on pricing.
This analogy applies even more so in a global trade conflict. The higher costs associated with the coming “reciprocal” multilateral escalation of tariffs will only add to these pressures. A new layer of adjustment costs is being imposed on a once globalized world. Reshoring to higher-cost local producers not only takes considerable time but it also erodes long standing powerful efficiencies of production, assembly, and delivery that have underpinned the powerful worldwide disinflation of the past three decades. In the face of a likely shortfall of economic growth, these added cost and price pressures are likely to tip the scales toward global stagflation.
In the end, I must concede there is an important impressionistic aspect to this tale. I started with a standard macro analysis of the global economy — in this case, with emphasis on the fundamental factors driving the US and Chinese economies as the world’s major growth engines. I then adjusted that view to allow for an extraordinary combination of US executive-branch intervention and adverse expectational responses that can be dubbed the perma-shock of Trump 2.0.
In effect, I am modeling this shock as the functional equivalent of a full-blown crisis that has very real and lasting impacts on the expectations shaping business and consumer decision making. There is also an important global dimension to this crisis operating through cross-border trade and capital flows. And, perhaps most importantly, I view this as a geostrategic crisis reflecting a seismic reversal of America’s global leadership role. You may disagree with some of these impressions but if my assessment of this shock is anywhere close, the global economic forecast seems almost trivial for a world that has been turned inside out.