Key takeaways:
- We expect a growth slowdown across much of the world, driven by the turmoil in the Middle East, with certain emerging market nations as the main exceptions
- Against a backdrop of geopolitical turmoil, unusual government intervention and spiralling public accounts, equity prices have remained high and seem disconnected from reality
We anticipate that the ramifications of war, pressure from ballooning public debt, increasing incursions by governments into the economic realm, as well as gaping wealth disparity will characterise the second half of 2026.
Our central scenario is that the United States (US) will experience a small-scale recession, as tariffs, limits on immigration and supply chain disruptions arising from the conflict in Iran combine to raise prices and squeeze the US consumer. Although buoyed by fiscal spending, the Eurozone, UK and Japanese economies are apt to suffer inflationary consequences from the war, dampening their growth potential. In China, growth will likely stay pinned below 5% as government incentives fail to counter tepid consumer spending and a slowing property market. Even besides the headwinds in this environment for oil-exporting nations, emerging markets offer a glimmer of hope, as they may be boosted by a weaker US dollar and artificial intelligence (AI) spending.
Meanwhile, despite turbulence on the geopolitical stage, markets remain strangely sanguine, with the S&P 500 cresting higher than before the Middle East conflict started. How long can this last?
In this midyear edition, we reflect on how far the themes we identified at the beginning of 2026 – fiscal pressure, the rise of the ‘visible hand’, wealth and income inequality and AI transformation – have advanced, as well as considering the consequences of a vital development, the conflict in Iran.
Calculating the consequences of war
Geopolitics, they say, doesn’t matter to markets until it is all that matters. We appear to still be in the first phase; with investors looking through the current crisis in the Middle East, anticipating a swift end.
However, real risks face both the economy and markets, including the potential for stagflation. It is not just oil; other economically important commodities are impacted by today’s geopolitical strife, including helium – which is critical to the semiconductor manufacturing process – and key ingredients in fertiliser, including ammonia, sulfur and urea.
Percentage of each commodity passing through the Strait of Hormuz
Source: Council on Foreign Relations, 13 March 2026; Congressional Research Service, 11 March 2026.
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As central banks have made clear, the duration of the conflict, as well as the severity of damage to the infrastructure, will likely dictate how long prices remain elevated. Yet it seems the negative impacts are not fully priced – or really priced at all – into stocks. Consider that:
- US stocks are at higher levels than when the fighting began. Wall Street analysts continued to upwardly revise their target stock price estimates even after the conflict started, such that at the end of March, the S&P 500 was around 6500 while the recent analysts’ bottom-up target price for the S&P 500 rose to a whopping 8,349.361
- There has been a large disconnect between paper-oil prices (traded futures on exchanges) and physical-oil (spot) prices. Like stocks, paper oil prices are looking through this conflict, while spot prices are elevated. However, the latter more accurately reflect the difficult reality that very few ships have passed through the Strait of Hormuz since the onset of hostilities
These disjunctures appear unsustainable, especially the longer the conflict lasts. And even if it ends soon, it will likely take months for supply chains to normalise; the rule of thumb is that for every one day of supply-chain disruption, it typically takes three days to return to normal. A reckoning for stocks may be coming soon; Fitch Ratings issued a warning in late April that aggregate earnings before interest, taxes, depreciation, and amortisation (EBITDA) margins for many sectors will not expand as much as previously expected, due to price pressures related to the war. Typically, the industries whose earnings are most negatively impacted are those with the greatest direct exposure to oil prices – as well as indirect exposure to weaker demand if consumer discretionary spending softens, including airlines, autos, homebuilding, and building materials. It is plausible that we will start to see downward earnings revisions in these industries soon.
Fiscal firefighting
In our 2026 outlook, we warned that developed countries are facing increasing fiscal pressure. Widening budget deficits are adding to large debt levels – and putting upward pressure on the costs to service that government debt.
In recent years, borrowing costs have risen significantly as long-dated bonds of countries with larger debt loads have proven less attractive to investors. There has been significant political friction in Korea and France over fiscal budgets. The UK, Japan and the US have also been in the spotlight in the past year on concerns about fiscal sustainability; that ‘negative halo effect’ can easily spread to other countries facing similar challenges.
Nearly two decades ago, Reinhart and Rogoff argued in Growth in a Time of Debt that the greater the government debt, the more downward pressure is typically exerted on a country’s economic growth. However, this ignores the critical role played by interest rates which, together with the actual amount of debt, dictate the costs of servicing that debt and ultimately the level of negative impact on economic growth.
The US national debt now exceeds 100% of gross domestic product (GDP), nearing the record set in the wake of World War II. As of 31 March, the country’s public debt was US$31.265 trillion, while GDP over the preceding year was US$31.216 trillion, which puts the ratio at 100.2%. The US is at a point where interest on its debt could become a key driver of future deficits; this is unfortunately the ‘black magic’ of compounding. The federal budget deficit has already exceeded US$2 trillion this fiscal year, adding to the enormous total government debt load, with interest payments likely to be more than US$1 trillion this year. Interest costs are projected to rise to US$2.1 trillion by 2036, when publicly held debt is expected to reach 120% of GDP, according to the Congressional Budget Office.
As economies near a breaking point where bond investors are inclined not to tolerate such a lack of fiscal discipline, policymakers will be compelled to make drastic budgetary decisions. This surfaces difficult choices – government spending cuts, tax increases, or both – which could in turn translate into greater political disruption and the rise of extremism.
It is also important to note that high debt levels remove flexibility and make it far more difficult to respond to a crisis. If there are shocks to developed countries’ economies, they will have difficulty responding adequately (from a fiscal stimulus standpoint) because they may be unable to borrow more and would face real difficulty taking on any more debt.
Long-dated government bond yields
Source: Bloomberg, as of 8 April 2026.
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The ‘Visible Hand’ reveals itself
Traditionally the province of emerging-markets countries, industrial policy has been on the rise in more developed economies in recent years. This has largely been in response to increased pandemic-related supply chain disruptions, climate-change risks and national-security concerns, as well as the general trend away from free trade and towards protectionism. For example, the US passed the Creating Helpful Incentives to Produce Semiconductors (CHIPS) Act to reduce its reliance on semiconductors produced by other countries. China’s industrial policy focuses on achieving self-reliance in supply and value chains, as well as leadership in specific advanced technologies. And the EU’s Industrial Accelerator Act (IAA) is intended to strengthen European manufacturing capabilities and therefore European economic security by localising supply chains and simplifying the launch of industrial projects.
Canada recently announced it is launching an US$18 billion sovereign wealth fund (SWF) – the Canada Strong Fund. This fund is unlike more traditional SWFs such as Norway’s, which is treated as an endowment fund for the country and is prohibited from investing in Norwegian assets to diversify away from domestic risks. Canada’s SWF appears to have been created to help Canada’s economy decouple from the US’s in the face of recent headwinds. The fund is intended to direct money towards large public infrastructure projects and will “invest alongside the private sector in nation-building projects”, making it more akin to an activist investor, although one that is trying to influence the Canadian economy. As deglobalisation progresses, more countries are likely to create policies intended to protect, support and direct their own economies.
In other words, we are seeing the emergence of a ‘visible hand’ from various developed countries, promoting industrial policies. Such policies and increased government involvement in the private sector have become more prevalent within these economies in recent years, rendering capital markets less free.
In recent months, the US government took this a step further, becoming directly involved in the private sector – targeting investments in specific companies and industries. The US appears to be adopting elements of a more directed economic model, with some highly unusual behaviour vis-à-vis corporations:
- A US$10 billion “arrangement fee” charged to the purchasers of TikTok to be paid to the US Treasury; it represents 70% of the company’s valuation
- US regulatory actions that shut down fully permitted energy projects and voided federal assistance such as loans or grants, making the underlying investment worthless
- Payment required from Nvidia to the US government of 25% of its sales revenue from China for advanced AI chips in return for permission to sell those chips to China (such sale had previously been banned for “national security” reasons)
- The White House taking control of federal grants and loans and using them to gain equity in private companies
- A US executive order discouraging large institutional investors from buying single-family homes (legislation is now moving through Congress to ban such ownership)
- The White House directing Fannie Mae and Freddie Mac to buy US$200 billion in mortgage bonds to lower mortgage rates
- A US executive order restricting defence contractors from conducting stock buybacks and dividend payouts (unless they meet certain standards)
- The White House strongly encouraging US oil companies to invest in Venezuela following US intervention there despite their reluctance to do so
- The White House advocating for a 10% cap on credit card interest rates for the coming year
We expect this trend to continue and accelerate. We could see more protectionist threats and policies, such as export controls on critical materials, technologies and computer chips, as well as subsidies and targeted investments to support areas such as technological innovation. This trend could weigh on economies and help further the march towards deglobalisation. This government overreach is also prone to make US assets (and the assets of other countries with similar policies) less attractive to investors. An example of such a discount can be found in the market reaction to the election ouster of Hungarian Prime Minister Viktor Orban. His loss resulted in a drop in government bond yields, nearly converging on Poland’s – an economy considered more of a ‘free market’ in recent years.
The P-shaped economy: a wealth inequality crisis
Much attention has been given to what is called the ‘K’ shaped economy – which reflects a large income inequality gap – in the US. However, the much greater problem is wealth inequality, with a small percentage of households owning the majority of assets. This is more accurately described as the ‘P-shaped’ economy, with the top 10% owning most of the wealth in the US. It has not always been this way.
A study by the Rand Corporation found that since 1975, approximately US$80 trillion has been redistributed from the bottom 90% of households to the top 1%. In fact, between 1989 and 2022, the top 1% gained 101 times more wealth than the median household. Currently, the top 1% of households own 37.1% of the assets – the highest share recorded since the Federal Reserve began tracking the data in 1989. That is the result of a variety of factors, including asset inflation helped by extremely accommodative monetary policy for many years, as well as tax laws that are more favourable to the wealthy. It is worth noting that the economist Thomas Piketty has posited that wealth inequality inherently widens over time in capitalist societies because the rate of return on capital consistently exceeds economic growth, such that wealth rises faster than income increases. However, countries can implement policies that either amplify or weaken that trend.
Not only do lower income and middle-income households have fewer assets, but their debt has grown more over time. For example, total debt from the bottom 50% of households rose from US$1.04 trillion in the first quarter of 1990 to US$6.07 trillion in the fourth quarter of 2025; at the same time, total assets rose from US$1.73 trillion in the first quarter of 1990 to US$10.38 trillion in the fourth quarter of 2025. By contrast, debt accruing to the top 1% of households climbed from US$0.14 trillion in the first quarter of 1990 to US$1.1 trillion in the fourth quarter of 2025, while total assets went from US$4.92 trillion in the first quarter of 1990 to US$56.93 trillion in the fourth quarter of 2025.2 Servicing that debt has gotten more expensive as rates have risen in recent years, making it harder for lower income households to find money for savings or investment, stunting asset ownership. The recent change in US student loan policy only exacerbates the debt pressure on US consumers.
US household net wealth
Source: Federal Reserve, 26 March 2026. Data through 31 December 2025.
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Asset inequality is a far bigger problem than income inequality, because it makes the bottom 90% of households more vulnerable to downturns. For example, 43% of Americans say that they do not have enough in savings to pay for a US$1,000 emergency expense.3 For those who have an emergency fund, the median balance is US$5,000, which is a material drop from the median balance last year.4 This is not just a problem for lower income households; a whopping 44% of households earning US$100,000 to US$149,999 a year have less than US$1,000 in savings. And asset inequality can contribute to income inequality because many assets are income-producing, enhancing the level of income accruing to the wealthiest households.
Such imbalances pose serious risks to countries. The greater the wealth gap, the more politically unstable society can become. As Thomas Piketty posited: “…capitalism automatically generates arbitrary and unsustainable inequalities that radically undermine the meritocratic values on which democratic societies are based”.
AI: a phoenix or the ashes?
AI has the potential to vastly improve productivity and save costs. Incoming Federal Reserve Chair Kevin Warsh believes AI will be disinflationary because it will drive improved productivity.
Hyperscaler firms are now spending more – about 30% of revenues – on AI capital expenditure (capex). Timeframes are uncertain, but it seems likely there will be greater differentiation among hyperscaler producers, and this will depend on whether:
- they have borrowed to fund the AI buildout (which sets the bar higher);
- how successfully and quickly they can cut costs to pay for AI capex; and
- how well they are able to monetise their AI investment
There is of course great upside potential for hyperscalers, but also great risk. For example, AI capex is having a serious impact on free cash flow. Amazon is expected to report negative free cash flow in 2026. Moody's reported that hyperscalers have approximately US$662 billion in data centre lease commitments that are off-balance-sheet, and are actually larger than their total on-balance-sheet debt.
There are many potential beneficiaries of the AI buildout, some more obvious than others. For example:
- Asian emerging markets represent a large portion of the AI capex supply chain, benefiting significantly from the AI capex spending boom. The Korean stock market has ascended dramatically this year, given its critical role in semiconductor manufacturing and the AI data centre supply chain
- AI has the potential to make ‘old economy’ sectors far more productive. For example, China is focused on using AI to accelerate the manufacturing sector5
The rush towards spending on AI and adoption of AI has given way to…
- Concerns that there will be large job losses resulting in longer-term structural unemployment
- Worries that certain industries will be rendered obsolete
- Questions about whether companies are overspending and what their return on investment will be
As with other transformational technologies, the AI buildout entails investment opportunities and risks which are apt to evolve over time. We can see from reference to other industrial revolutions that the AI transformation may result in elevated structural unemployment for some period. Governments may need to focus on this real possibility and how it will be managed, especially in an age of already significant income and wealth inequality. The UK Office of Budget Responsibility has warned that AI could cause job displacement and reduce tax receipts if not implemented effectively. This suggests programmes should be put in place to support the structurally unemployed (such as universal basic income) while governments might need to alter tax policies to generate adequate revenue (i.e. taxing assets rather than income). The broad adoption of AI is also disposed to exacerbate wealth and income inequality. At least during the transition, fewer people will be employed. Meanwhile assets such as stocks could rise in value, as AI is liable to improve the profit margins of companies in a variety of different industries.
Active management and a global reach will likely prove important when seeking to invest in this transformation.
The outlook for key global economies
The conflict in the Middle East has significant ramifications for economies around the world. It is not just an energy shock: it can impact the global supply of a number of critical commodities, including helium and ammonia. Supply chain disruptions are already developing that appear on par with the COVID-19 pandemic. In fact, the World Bank’s Global Supply Chain Stress Index indicates a significant increase in stress, as does the New York Fed’s Global Supply Chain Pressure Index. Even if the conflict were to end quickly, it would take significant time for supply chains to normalise. This is likely to weigh on global growth, but some countries will be impacted more significantly than others. The Middle East war is a double negative in that it will also likely preclude at least some central banks from easing monetary policy despite weaker growth, given the inflationary impact of the conflict, and could result in some tightening.
New York Fed’s Global Supply Chain Pressure Index at its highest level since 2022
Source: Federal Reserve Bank of New York, Applied Macroeconomics and Econometrics Centre, 6 May 2026.
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The base case: A modest recession in the US as the Middle East conflict continues, exacerbating the damage to the economy from policy mistakes.
The US economy has been extremely resilient thus far, driven by AI capex and strong consumer spending from higher income households. However, the economy has come under significant pressure and that is intensifying as the Middle East conflict continues.
Tariffs and the impact of other government policies on key issues like immigration are also creating headwinds for the US economy. We are already seeing signs tariffs are hurting American manufacturing. As nearly half of imports are unfinished goods used by the US manufacturing sector, tariffs increase costs and lower factory output. Companies have been passing on a larger portion of tariffs to their customers, adding to the affordability crisis in the US; and because tariffs are a regressive tax on the American people, they also exacerbate wealth inequality. Tariffs may also create significant economic policy uncertainty, which could further hinder the economy, historically stifling both business investment and hiring. Current tariff policy changes frequently. This might only heighten the uncertainty.
Share of household income gap is widening
Source: US Census, 9 September 2025 (data as of 31 December 2024)
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Government spending cuts will likely create a modest headwind. The Brookings Institution’s Hutchins Center Fiscal Impact Measure forecasts that fiscal stimulus actually turns negative in the third quarter.6 The measure anticipates fiscal policy will be slightly restrictive for the remainder of 2026 and then get more restrictive in 2027 as government spending cuts more than offset the tax cuts in the One Big Beautiful Bill Act (OBBBA). Of note, the multiplier effect is also typically stronger for government spending being cut than for tax cuts made. In other words, while supply chain disruptions resemble those seen during the pandemic, there is certainly not the level of fiscal stimulus we saw then. One key factor this time around: there’s likely less capacity for such fiscal stimulus, given the government debt load and high debt servicing costs
In this environment, consumers are also starting to feel the pain. Many are facing a worsening affordability crisis, driving overall consumer sentiment to historic lows. While higher income earners have thus far powered consumer spending, that could be curtailed if layoffs start to hit white-collar jobs or the stock market sells off.
AI capex has exceeded expectations thus far this year, but there are factors that could depress spending, including: inability to borrow in order to pay for spending, AI data-centre supply-chain disruptions and ‘not in my backyard’ (‘NIMBY’) movements challenging the building of AI data centres (for electricity costs, noise pollution, etc.). If this capital flow were to slow, it could depress stock prices, with harmful outcomes for those on higher incomes, likely depressing consumer spending.
Notably, there is the risk of a stagflationary environment, which could result in monetary tightening. Indeed, the US is unlikely to see any monetary policy easing over the next 12 months despite the new Fed chair, given concerns about elevated inflation. Recall that before the Middle East conflict began, inflation was already elevated well above the Fed’s target.
US equities face a challenging environment given stretched valuations and the potential for downward earnings revisions in coming months. US Treasuries also face headwinds, as investors start to question their ‘safe haven’ status.
University of Michigan Consumer Sentiment has hit all-time lows
Source: University of Michigan Survey of Consumers, 8 May 2026.
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The base case: Modestly lower growth (approximately 4.5 – 4.7% per annum).
Despite tariffs, property-sector woes and supply-chain diversification away from the country, the Chinese economy proved resilient in early 2026. Manufacturing was an important driver of economic growth. However, the war in the Middle East and a rise in commodity prices will exert downward pressure on growth, especially as a production–heavy and net oil importer, although China is working rapidly to reduce its reliance on oil.
China consumer confidence over the longer term remains low
Source: Organisation for Economic Cooperation and Development, 5 May 2026.
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Chinese policymakers are providing material stimulus in several different areas. Of note are targeted policies aimed at spurring on more domestic consumption. While consumer sentiment is on a modest upswing, it is well below pre-pandemic levels. Chinese policymakers are also encouraging greater investment in stocks, which could improve the ‘wealth effect’ of many Chinese households, which have been negatively impacted by their heavy exposure to the property sector. Still, none of this is likely to be easy to achieve quickly and may not yield much in the way of positive results in the near term.
As with the US, the Chinese economy is likely to benefit from increased AI capex, playing to its advantages in computing innovation. The Chinese approach is less costly, but still remarkably impactful, Recent studies found that the US has vastly outspent China in private AI investments but the performance gap between the best AI models in each country has narrowed considerably.7 That’s because China has been focused on architecture innovations and efficiency. Patent applications have surged in recent years.
Patent applications in China have far outpaced other major countries
Source: World Intellectual Property Organization, March 2025.
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Chinese equities have lower valuations; technology stocks in particular look attractive relative to their US counterparts. Still, there continues to be some reluctance on the part of foreign investors to purchase Chinese assets amidst the evolution of the regulatory environment in China. That is likely to abate over time given policymakers’ recent attempts to be more investor-friendly.
The base case: Continued low growth.
The economic shock of the US’s incursion into the Middle East was strongly felt in Europe. The green shoots of regional growth witnessed earlier in the year appear choked, with weaker purchasing managers’ indices (PMI) readings after the start of the Iran war. While the Eurozone has also been negatively impacted by the conflict in the Middle East, it has some important drivers of growth, which should prove to be countervailing forces: fiscal stimulus in the form of defence- and infrastructure-related spending, as well as regulatory reform.
Eurozone countries have committed to increase defence and defence-related spending in areas such as infrastructure to 5% of GDP by 2035.8 The European Union (EU) is supporting this surge in defence spending through the Security Action for Europe (SAFE) programme, a €150 billion initiative to provide low-cost financing for member states through long-duration loans. A requirement of the scheme is that the equipment purchased must be made in Europe, with no more than 35% of component costs originating from outside the EU, EEA (European Economic Area), EFTA states (Iceland, Liechtenstein, and Norway) or Ukraine. This spending is already underway and will accelerate in the coming months. This is a substantial amount of fiscal stimulus that has the potential to be impactful to the European economy. It is worth noting that not all fiscal stimulus is created equal – some forms of stimulus, such as income tax cuts for high income households, have low multiplier effects while other forms of stimulus, such as income tax cuts for lower income households, have higher multiplier effects. Defence, and especially infrastructure spending, tends to have a relatively higher multiplier effect (especially in recessionary periods). An important recent development was the ouster of Russian President Putin’s ally Viktor Orbán as leader of Hungary; this clears the way for significant aid to flow to Ukraine, which should be a net positive for Europe. In addition, it will likely clear the way for a more united European Union.
The European Union has also embarked on a package of regulatory reforms – the Simplification Revolution9 – intended to make it easier to do business in Europe. The EU’s goal is to simplify its rules, seeking to enhance competitiveness and attract greater investment. The European Commission has made a commitment to reduce administrative burdens by 25% for all businesses and 35% for small and medium-sized enterprises (SMEs).
And the European Central Bank (ECB) has more flexibility than the Fed to face the challenges of this economic environment. Unlike the US, eurozone inflation had returned to its target level before the start of the war. ECB president Christine Lagarde was quick to remind markets that the central bank is well-positioned to robustly deal with the surprise given solid growth and inflation around its target. Its ‘three x two’ framework – inflation at 2%, inflation expectations at 2%, and a deposit rate of 2% – is seen as relatively neutral, with room to either raise or cut interest rates.
European equities have been negatively impacted by the Middle East conflict, causing performance to weaken relative to the US. However, their valuations and dividend yields are likely to once again become attractive to investors given the potential for positive surprise from fiscal stimulus.
The base case: Continued modest growth.
Japan has also been negatively impacted by the conflict in the Middle East. Japan is an oil-importing country, and imports most of its oil through the Strait of Hormuz. However, it has some important drivers of growth, including fiscal stimulus and corporate governance reforms, which could prove to be potent offsetting forces.
There is significant fiscal stimulus underway which should be positive for the Japanese economy. Prime Minister Takaichi had a ¥21.3 trillion (US$135 billion) spending package approved in November 2025, which includes subsidies for electricity and gas bills, direct cash payments to households, income tax threshold increases and potential gasoline tax reductions, and strategic investments in semiconductors, AI, and shipbuilding. And Takaichi’s decisive win in Japan’s February election, giving her a supermajority in the lower house, suggests a likelihood of even more fiscal stimulus going forward. This is likely to involve defence spending, an area of focus for Takaichi as she attempts to re-make Japan’s military.
Another important driver of growth is corporate governance reforms. Prime Minister Takaichi’s administration is accelerating her corporate-governance-reform agenda; her priorities include boosting capital efficiency, reducing excessive cash hoarding, and promoting strategic investment in AI and defense. Takaichi aims to give a boost to companies’ shareholder returns. We are already seeing a positive impact from these reforms, with robust mergers and acquisitions activity in the first quarter of 2026.
One potential headwind for Japan is its high level of debt. The bond market has shown signs that it is worried about the country’s fiscal sustainability, driving up bond yields on the long end of the curve. Another potential headwind is tightening by the Bank of Japan (BoJ). While we expect the BoJ to continue tightening, we believe it will be modest. We don’t believe it will have a significant negative impact on the economy.
Investors’ confidence in Japanese equities has improved due to the nation’s political stability, pro-growth fiscal policy and corporate reforms, strengthening investors’ confidence and signalling renewed potential for sustained economic growth. As a result, foreign flows into Japanese assets have increased.
The base case: Slightly lower growth, possible mild recession.
The UK has seen an environment of persistently low and slow growth. This is unlikely to change. Stagflation and even a recession are possibilities, given the global political situation and the sensitivity to energy markets of this increasingly energy-importing economy.
The UK labour market, which Chancellor Rachel Reeves’s 2025 Autumn Budget tested with its increase to employers’ national insurance contriutions, is once again facing turbulence as employers grapple with higher costs. We expect unemployment to steadily tick upwards towards the end of the year, as employees face a drop in real wages.
The 30-year gilt yield has risen significantly, driven up by fiscal sustainability concerns and political instability. Debt-servicing costs, driven partly by inflation, are now an increasingly large line item in the UK budget, which should weigh down growth. It also gives the government far less fiscal legroom than they might have liked to meet welfare spending commitments made over the last two years; it also reduces the ability to boost investments in healthcare and education.
We no longer expect to see monetary-policy easing from the Bank of England in 2026, given the Middle East conflict and higher energy prices.
After a strong start to the year, UK equities saw performance relative to the US weaken as the effects of the Iran hostilities dampened sentiment. However, investors still appear to find strong relative value and reliable income in the FTSE 100 versus growthier US equivalents.
The base case: A modest rise in growth.
Emerging markets (EM) may receive a boost from a weakening US dollar in the second half of 2026. This could spur more capital inflows into the space. We find the most attractive area for growth within EM is Asia, which has been and is likely to continue to be a substantial beneficiary of the AI capex buildout. Oil-exporting EM countries, primarily in Latin America, should benefit from higher energy prices.
Also, EM economies have become more fiscally prudent, giving them more flexibility to respond to crises and making their debt more attractive. EM equities offer attractive valuations and high dividend yields. Many companies in the EM space have matured, with improved corporate governance, and still have compelling growth potential.
Government debt as percentage of GDP suggests more fiscally prudent EMs
Source: IMF; data as of 31 December 2024. Data for 2025-2030 are projections.
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1. Source: Factset Earnings Insight, 27 March 2026.
2. Source: the Federal Reserve, 26 March 2026.
3. Source: Bankrate 2026 Annual Emergency Savings Report.
4. Source: US News and World Report, February 2026.
5. See here: China's manufacturing sector revs up with AI-empowered innovation | english.scio.gov.cn; China to unveil plans to integrate AI with manufacturing .
6. https://www.brookings.edu/articles/hutchins-center-fiscal-impact-measur…
7. https://hai.stanford.edu/ai-index/2026-ai-index-report
8. https://www.nato.int/en/about-us/official-texts-and-resources/official-…
9. https://www.consilium.europa.eu/en/press/press-releases/2026/02/24/coun…
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