Soft Landing in Sight—Will Central Banks Sit Tight?

Hello everyone and welcome to market weekend review the week ending July 25th 2025. My name is Be Chen Lynn. I'm a senior investment strategist and head of Canadian strategy here at Russell Investments. On this week's edition of Market Week Review, we'll be discussing three major topics. First, the European Central Bank. They left their key policy rate unchanged. Second, the latest developments on the trade situation. We're getting pretty close to that August 1st deadline. And finally, we'll wrap up with the preview of the decisions by the Federal Reserve and the Bank of Canada taking place next week. So, let's get started. The European Central Bank decided to leave their interest rate unchanged at 2% at this week's meeting. Now, this is in contrast to the previous month's meeting where they cut interest rates by 25 basis points. It's important to note that from our perspective at Russell Investments with interest rates at roughly 2% in Europe, we believe that European monetary policy is now in a neutral setting. In other words, we believe that interest rates in Europe are now at a level that neither helps nor hurts economic activity. This means in theory that it's going to take a higher bar for future rate cuts to occur. Now, of course, the European Central Bank is going to continue to be data dependent. So, if we do see a further slowdown in economic activity later in this year, then we could potentially see a resumption of rate cuts by the European Central Bank. Next, I want to shift gears a little bit and talk about things going on in the US. We're getting pretty close to the August 1st deadline, which is the deadline that the administration has set in terms of when trade deals have to be reached or otherwise other trading partners might face some larger tariffs. Now, the good news that we got this week was we saw additional trade deals being struck with both Japan as well as the Philippines. So the breaching of these trade deals helps to at least at the margin reduce some of the ongoing macroeconomic and policy uncertainty even though we continue to emphasize that there's still a lot of remaining macroeconomic and policy uncertainty out there. Now in terms of the tariff rate it was a little bit of a setback. The rate on Japan was 15%. The rate on the Philippines was closer to 20%. Both these rates are higher than the tariff rate that these two countries faced during the 90-day pause on tariffs. From our perspective at Russell Investments, we continue to believe that ultimately the final magnitude of the tariffs on the different trading partners will determine the extent of the impact onto the US economy both from a growth rate perspective as well as from a price shar perspective. We believe that if tariffs continue to be relatively measured, then the US economy should most likely be able to achieve a soft landing outcome. However, we continue to believe that the risk of a potential economic slowdown is still somewhat above average. In terms of the August 1st deadline, even though that is only a week away, we would emphasize that we think it's quite likely that we might see an additional extension of the trade deadline to allow for more deals to take place. And it's also possible that we might see additional deals get announced in the days to come before that August 1st deadline. Finally, I wanted to end with a preview of the Federal Reserve and the Bank of Canada decisions that will be taking place next week. We expect both central banks to leave their key policy rate unchanged, but for different reasons. For the Federal Reserve, we expect them to leave their key policy rate unchanged because by and large, the US economy appears to be quite resilient. The labor markets are quite robust with initial jobless claims once again still relatively muted. Consumer spending has been pretty healthy in the US. And when we look at corporate profits, Q2 earnings are generally tracking pretty nicely at this point in time. So the Federal Reserve is not in a rush to cut rates, but over time, we expect that they will continue to normalize interest rates and take interest rates down gradually towards a more neutral stance. For the Bank of Canada, it's a bit of a different story because the labor markets in Canada have been quite weak with the unemployment rate roughly 2 percentage points above the 2023 low. However, recently Canada has experienced a little bit of a setback in terms of the inflation fight. And so, we expect that balancing these different factors out, the Bank of Canada will opt to leave interest rates unchanged. But the longer they remain on pause, the higher the risk that the Bank of Canada will ultimately have to catch down with an outsized rate cut at some point in the future in order to stabilize the economy. Ultimately, we continue to believe that government bonds both in the US and Canada are important diversifying instruments to have in a portfolio. That's all from us. Tune in next time for Market Vac. Hi, I'm Sophie Antel, head of portfolio and business consulting at Russell Investments. If you liked what you just saw and heard, consider subscribing to our YouTube channel or check us out on LinkedIn. Thanks for tuning in.