Credit Conditions

Trade tensions are threatening what has been a favorable credit conditions environment for most borrowers. The April 2 tariff announcements by the U.S.—and the subsequent escalation in the trade conflict between the U.S. and China—went far beyond what financial markets had imagined and exceeded our previous assumptions. If the paused U.S. tariffs are ultimately implemented in full, the economic fallout would be broad and deep.

Market volatility and increasing investor risk aversion pose the most imminent risks to credit in this environment. Borrowers are having to pay up for financing and, worse, some lower-rated borrowers could be shut out of the capital markets

President Trump's 90-day pause of most tariffs didn't remove the uncertainty around what could ultimately occur. Unresolved trade tensions as the partial pause approaches its end could have a visible impact on credit quality.

Trade complications. Asia-Pacific's credit landscape is set for more volatility and slower growth in 2025, amid uncertain trade and foreign policies by the incoming U.S. administration. That said, more tariffs against Chinese exports are likely. Our base case factors in a rise in the effective U.S. tariff rate on Chinese imports to 25% from 14% from the second quarter of 2025, and retaliation by China in kind. China's GDP growth could slow to 4.1% in 2025 and to 3.8% in 2026, amid limited stimulus to bolster consumption.

Growth at a crossroads. Countries with a large trade surplus with the U.S. (Vietnam, Thailand, Malaysia, and India) could be vulnerable to universal tariffs. To cope, Chinese producers may cut prices to stay competitive, while increasing exports to outside the U.S. The global trade slowdown could curb growth and squeeze Asia-Pacific currencies and exporters' revenues. We expect the region's growth to slip to 4.2% in 2025 and 4.1% in 2026, even as domestic consumption in emerging Asia remains supportive.

Financing hurdles. Geopolitical tensions complicate the credit landscape. More volatility could reverberate across capital markets, energy prices, and supply chains. Should tariffs prompt a resurgence in U.S. inflation, the Fed's monetary easing may slow. In response, Asia-Pacific central banks could keep rates high to limit outflows. A strong U.S. dollar, narrower offshore funding access, and costlier interest may strain credit further.

U.S. protectionism will test credit conditions in emerging markets (EMs). Our baseline assumptions include moderate new tariffs primarily on Chinese imports. Despite potential impacts on China's economy, we anticipate that EMs' credit conditions will remain resilient, bolstered by declining interest rates, and sustained--albeit slower--economic growth.

The balance of risks has clearly worsened for EMs. Higher than expected tariffs on China and/or a generalized levy on U.S. imports could have ripple effects on global demand, inflation, interest rates, and currencies. These factors will likely slow EMs' economic growth, resuming inflationary pressures and worsening financing conditions, which will likely lead to a growing number of downgrades and defaults.

In our baseline, EM rated issuers should benefit from ongoing monetary easing, supportive financing conditions and economic activity, despite the expected slowdown. This should reflect in stable rating activity.

Our forward-looking credit cycle indicators (CCIs) continue to signal a potential credit recovery in 2025.

The divergence across sectors persists. Recovering earnings and improving market conditions keep momentum positive for corporates, while household credit in most markets is still riding a correction and house prices are soft .

Credit recovery prospects could also differ across geographies as they navigate macroeconomic and geopolitical uncertainties.