Forecasting the Turbulent Waves
of the Global Economy

Outlook for U.S. Long-Term Interest Rates

An upside risk scenario can also be considered. As growth and inflation increase, rates could rise. The perceived level of the “neutral rate,” which stabilizes inflation without shocking the economy, has risen. If it is widely perceived that the interest rate is more relaxed than it naturally ought to be, and inflation does not fall, there will be only one or even no more rate cuts in the US this year, with possible increases in 2025.

Even if inflation subsides, U.S. long-term rates will remain high. The past four to five years have seen numerous changes due to geopolitical factors and the COVID-19 pandemic. The G7 nations and China are increasing defense spending, eliminating the so-called “peace dividend”³that began with the end of the Cold War in the early 1990s. Additionally, spending on the green economy transition and industrial policies is increasing.

If these additional fiscal expenditures grow GDP by 1-2%, or even up to 2.5%, and if taxes are not raised to offset this, U.S. rates could rise by up to 0.7%. Moreover, both the U.S. and Chinese governments are blocking U.S. investments by Chinese companies and individuals. If such measures continue, savings trapped within China will reduce the available savings outside for a decrease fiscal deficit, leading to higher U.S. rates. A “YOLO”⁴ mentality boosting consumption along with significant increases in productivity may also contribute to higher rates. Consequently, the average real rate of the U.S. 10-Year Treasury is highly likely to increase over the next few years.

The Recent Increase in U.S. Productivity

Why has U.S. productivity increased? In general, productivity tends to rise temporarily during economic downturns. This is because, although workers are being laid off, the economy continues to operate based on existing resources, inventories, and contracts. However, productivity has sharply increased over the past four quarters even though it was not a recession period. This is highly significant, and suggests a “second stage” productivity increase.

The first stage involves changes in the labor market due to COVID-19. High unemployment rates led many workers to change jobs, and even those not laid off sought better opportunities. Job changes were common during this period, leading to active job-seeking and significant reemployment. In particular, millions of low-wage workers moved to new industries and new jobs, resulting in higher productivity. This change is temporary, and will not deliver sustained productivity increases.

The second stage involves changes brought about by AI. While many mention generative AI, this is only a small part of the productivity increase. Looking at recent corporate or investor behavior, patterns have emerged that are similar to those seen just before past productivity jumps. Companies are keeping more employees than necessary for their operations, a phenomenon economists call “labor hoarding,”⁵ due to high expectations for AI technology. Investors are also heavily investing in companies in this sector. Similar to past booms in railroads and the Internet, everyone is aware of the technology that will drive future growth, though the actors to lead it are yet to be determined.

Considering these two stages, real productivity is likely to increase substantially.

U.S. Foreign Economic Policy After the 2024 Election and Its Impact

After President Trump initially took office, the U.S. exhibited anti-globalization tendencies. However, the average American does not see this as a problem. Americans often prioritize issues of immigration, border control with Mexico, and abortion laws over concerns with China or international trade.

Being well aware of this, Washington proposes anti-free-trade measures, but these are largely symbolic. Given this situation, there will be little difference in regulations and trade policies regardless of who wins the next presidential election. The same applies to China. Domestic climate policies will differ significantly, but this will not apply internationally.

Meanwhile, many overlook the importance of exchange rates and fiscal policy. In terms of fiscal policy, a boom is expected for 2025–2026. If Trump takes office, investments will focus on fossil fuels and internal combustion engine vehicles, leading to an earlier boom, though it will be less sustainable compared to green investments.

Regarding exchange rates, the Korean won, Japanese yen, and Chinese yuan are all weak against the dollar. The U.S. government has not made strong demands for corrections of this in recent years. With The Federal Reserve⁶ tightening cycle resuming in 2025 and increased U.S. productivity, the dollar is expected to remain strong, potentially leading to a “Plaza Accord 2.0”⁷in 2026.

Implications for Korean businesses

Geopolitical changes will affect Korea’s global market access. In the future, the U.S. and the EU are likely to implement policies similar to China’s Belt and Road Initiative, but may not invest much in terms of “market access.” On the other hand, China’s treatment of developing countries is harsh. This situation could present an opportunity for Korea. Korea should seek growth opportunities through investments in middle-income countries, particularly ASEAN nations. In addition, Korea should expand its role in multilateral institutions where it currently demonstrates leadership and more seriously consider the CPTPP.

China will fluctuate between clinging to and pressuring Korea regarding imports and FDI. This will exacerbate the risk-reward trade-off of engagement in China. Thus, the key will be how much Korea can grow while successfully competing with China in markets outside of China. For example, due to trade barriers in the U.S., Korea’s electric vehicles, batteries, and semiconductors will become increasingly important. However, direct investment in the U.S. will be required for the market size of Korean products in the U.S. to actually grow.

Another megatrend is the separation of large emerging markets such as Brazil, India, Mexico, Indonesia, Poland, and Turkey from other developing countries. These emerging markets have successfully weathered difficulties including COVID-19 over the past few years. On the other hand, poorer countries in Southeast Asia, sub-Saharan Africa, and Latin America are economically and politically very weak, so the risks they will have to face in the future will be even greater. It is thus essential to think twice before making large bets in non-G20 regions such as Latin America, South Asia, and MENA countries.⁸

Finally, there are two scenarios regarding the Korean won. Except for 2022, the won has always been weak against the dollar. If this trend worsens, the exchange rate could rise to 1,600 won per dollar. On the other hand, if a Plaza Accord 2.0 is reached, the won may have to be normalized to 1,150 won per dollar. Looking ahead over the next four years, the won is expected to weaken for the first two years before facing pressure to strengthen. To prepare for this pressure, Korea should collaborate with Japan and others to ensure that currency adjustments with the U.S. are carried out, not just for Korea, but for other countries as well.