Since President Trump’s inauguration in January, a flurry of executive orders and a continual stream of tariff threats, announcements, and reversals have caused global policy uncertainty to spike to its highest-ever level (Chart 1).
Chart 1. Global policy uncertainty has surpassed the pandemic peak
What is clear, with trade tensions already shaping up to be the most significant in 2025, is that following the Trump administration’s trade review on April 2, EMs will face higher tariffs.
Tariffs appearing unavoidable …
We believe the US average-weighted tariff rate will increase from 3% at the start of Trump’s term to 9% (Chart 2).
Chart 2. We expect a sharp increase in US tariffs, with risks they go substantially higher still
This is three percentage points higher than we expected before he took office, illustrating that we now believe tariffs will be used more widely and more of them will become permanent.
… But deals can be struck
Since these estimates indicate the endpoint, they account for substitution effects, as US consumers purchase fewer tariffed goods and deals are struck; hence, tariffs are likely to rise more sharply than shown here before stabilizing at these levels.
Most, if not all, EMs will soon face reciprocal tariffs, likely to be introduced on or shortly after the trade review on April 2. The exact format of these remains unclear. However, even if the US seeks to equalize tariffs, we still do not expect it to lower its tariffs in cases where its rates are higher. Sectoral or other tariffs would be stacked on top.
Given wide-ranging differences in export composition and sectoral tariff rates, this threatens to introduce a wide variation in the reciprocal tariff shock faced across EMs (Chart 3).
Chart 3. The reciprocal and VAT tariff threat varies significantly across markets
In many cases, EMs will be able to lower their tariff rates on imports from the US to avoid higher reciprocal tariffs. Tariffs are often designed to protect domestic producers from competition from other EMs, not US firms. Any concern that US-specific carve-outs violate the World Trade Organization’s most-favored nation’s rules is likely to be brushed aside.
That said, countries will generally not be willing to open up all their sectors to competition from the US, suggesting some proportion of reciprocal tariffs will become permanent. India, for instance, is highly unlikely to lower tariff barriers for its agricultural sector due to political sensitivities.
An additional wild card for EMs
Additional tariffs, which could be imposed due to US judgments on non-tariff barriers, such as subsidies and the treatment of value-added tax (VAT) rebates for exporters, are an additional wild card for EMs. These countries, particularly China, could be judged to be unfairly supporting domestic firms while limiting access by the US.
US complaints about VAT rebates have traditionally been aimed at the EU, but we cannot rule out this being used to justify sharply higher tariffs across EMs. For most countries, this would raise tariffs up by more than reciprocal tariffs while offering little scope for an easy rollback.
Meanwhile, we continue to expect a variety of product-specific tariffs. In addition to the announced 25% tariff on all US imports of steel and aluminum from March, we believe US tariffs of up to 25% on autos, pharmaceuticals, and semiconductors are likely, even if carve-outs and trade deals should allow tariffs to settle at a lower level, particularly between the US and its allies.
Finally, we continue to believe that US-China tariffs will increase by at least 10%. The 20% tariff already in place is likely to remain permanent, partly because China may struggle to implement initiatives to assuage the administration’s concerns about fentanyl.
Moreover, it is almost certain that the upcoming April 2 review will conclude that China’s trade surplus is the result of unfair competition across several dimensions, including subsidies, currency manipulation, and non-tariff barriers.
A trade deal is not impossible – and Trump recently implied a visit by President Xi is likely – but the credibility of any purchase agreement or a grand bargain is expected to be colored by the failure of the Phase One deal.
Vulnerabilities and opportunities often go hand-in-hand
The good news is that EM growth – after moderating through much of 2024 – appears decent heading into the April 2 tariff shock. Purchasing Managers' Index (PMI) suggests activity picked up in the last two months of 2024, with services remaining at a high level in January and February this year, while manufacturing continued its steady gains (Chart 4).
Chart 4. PMIs signal that EM growth is robust
However, the protectionist shift by the US and disruptions to the global trade system will undoubtedly impact growth across EMs. In the immediate future, investment plans will be delayed until the trade landscape becomes clearer, and this uncertainty could spill over into hiring and saving decisions. There is also some risk that the recent improvement in manufacturing is due to attempts to front-run tariffs.
Trade shock may not fall evenly across EMs
Mexico has borne the brunt of Trump’s trade-related ire among EMs (outside of China) so far in 2025. This was widely anticipated, with Mexico ranking near the top of our Trade Vulnerability Index (Chart 5) in part due to its large trade surplus with the US, a point of contention for Trump alongside issues tied to border security.
Chart 5. Mexico and Emerging Asia stand out as most vulnerable to a trade war
However, the magnitude of tariffs and the scale of uncertainty generated by on-again, off-again actions so early in 2025 has exceeded prior expectations.
A blanket 25% tariff on all Mexican and Canadian goods from February announced by the Trump administration was delayed for a month. Tariffs applied in March were then moderated three days later to include only goods deemed non-compliant with the United States-Mexico-Canada Agreement (USMCA) – potentially impacting around half of Mexican exports to the US – until April 2, to let US firms better prepare, according to Washington.
Mexican authorities have claimed that they can make most goods (perhaps 90%) compliant with the USMCA. However, the timeframe for this action is unclear, while the efficacy of broader concessions in reducing trade tensions also remains in question.
Meanwhile, many countries in Asia are also highly vulnerable due to their large trade surpluses, strong links to Chinese supply chains, and high reliance on US import demand.
On the other hand, LatAm commodity exporters and Turkey rank low in our Trade Vulnerability Index (Chart 6).
Chart 6. Sectoral tariffs suggest a similar pattern of vulnerability, but carve-outs will matter
Indeed, Brazil has already been a winner of China’s soy demand as the latter diverts its imports away from the US. Our analysis of exposure to potential sectoral tariffs also supports the low vulnerability of these markets.
As noted, Mexico’s strong integration into the US autos supply chain resulted in the sector receiving carve-outs from tariffs to reduce the impact on US consumers. However, markets such as Malaysia, Vietnam, Thailand, and Taiwan are vulnerable unless exceptions are made for semiconductors.
More broadly, judging potential vulnerabilities continues to be challenging given the potential for sudden flare-ups over non-trade issues such as migration or military dependency.
Colombia has already faced the threat of tariffs due to a dispute over US deportations. The US also expelled the South African ambassador and froze aid to the country over a dispute about the Expropriation Act.
Reshoring is still more likely than onshoring
Despite these vulnerabilities, the likelihood that tariff increases on China will be more extreme and the potential for deals to be struck to roll back tariffs on EMs, point to some continuation of the reshoring trend.
As we have noted previously, the most vulnerable countries are also likely to be reshoring beneficiaries in the long run, given their already strong trade ties with the US, favorable business environments, and the depth of their existing manufacturing supply chains (Chart 7).
Chart 7. The most vulnerable EMs also tend to be the most likely winners
The large and erratic tariff increases on Mexico and Canada do suggest a risk that the Trump administration is willing to endure economic pain to promote the onshoring of manufacturing back into the US. If this is a true ideological commitment, it would imply that reshoring may not be as much of the long-run tailwind for EMs as we expect.
EM easing cycle to cautiously continue
Amid the uncertainty around trade policy, we expect the Fed to remain on hold in the near term, waiting for more clarity on inflation and growth. We forecast the Fed to cut once in September, which could mean extended pauses for some FX-sensitive central banks, such as Bank Indonesia, while more limited policy rate differentials may also factor into continued caution across many other EMs (Chart 8).
Chart 8. The Fed remains in no hurry to cut rates, adding to EM caution
The persistence of core inflationary pressures alone will hold back some EMs with ample rate differentials vis-à-vis the US. Underlying inflationary pressures appear acute in Brazil, Colombia, Hungary, Poland, and Mexico.
That said, in the cases of Colombia and Mexico, still elevated ex-post real policy rates suggest the central banks will continue to cut, albeit gradually. Outside these highlighted countries, inflation has generally returned to target, allowing central banks to increasingly shift their focus to the growth outlook.
As such, with growth risks skewed to the downside due to global trade uncertainty and the upcoming April 2 tariff shock, we see the potential for EMs to deliver more cuts in the medium- to long-term than markets are anticipating.
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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