Is 2025 the year of monetary normalization?

On 1 January 2020, not a single economist would have bet a euro cent that three and a half years later interest rates would stand at 4.5% in Europe and 5.5% in the US. Nor would they have predicted that the reason would be inflation levels not seen since the 1980s. Since the start of this decade, monetary policy has been on a relentless roller coaster. After nearly nine years of virtually static rates in Europe, the shaker has been violently stirred. But will 2025 bring monetary normalization? And is the situation the same in every region?

The United States began a series of rate hikes in March 2022 that ended in the summer of 2023, when rates were anchored at 5.5%. The main reason for the increase was to combat runaway inflation, which exceeded 9% at times. High interest rates gradually helped bring inflation down, and the Federal Reserve waited until September 2024 to approve the first cut. Two more cuts followed, bringing rates down to 4.25%.

This year has started off chaotic and volatile. The return of Donald Trump to the US presidency and his tariff announcements have shaken the market so much that at the beginning of the year, one or no cuts were expected. Now (and this changes almost weekly), consensus expects the year to end with rates between 3.25% and 3.75%. This would mean two to four rate cuts approved over the next six Federal Reserve meetings this year. Inflation, which remains in the 2% to 3% range, and economic growth, weakened by the trade conflict, will have the final say.

The recent history of monetary policy at the European Central Bank (ECB) mirrors that of the United States. That is, runaway inflation pushed the institution to raise interest rates from 0% to 4.5% in just over a year. They remained at that level from 2023 until the summer of 2024, when the ECB beat the Fed to the punch by cutting rates.

Since then, Europe has acted more swiftly, reducing rates up to six times to bring them down to 2.4%. Now, some of the leading investment firms in the Old Continent, such as Amundi, DWS, and Rothschild & Co, predict the year will end with a terminal rate of 2%, or even 1.75%. If confirmed, this would mark the first time in three years that rates move from a ‘restrictive’ zone to a ‘neutral’ one.

Japan’s monetary policy over the past decade has been remarkably loose. In fact, interest rates had remained below 0.3% since 2008 and even experienced periods of negative rates. Neither the pandemic nor moves by the Fed or ECB altered its course. Japan stayed steady until inflation began to rise due to widespread wage increases in the country.

In fact, the first rate hike was applied in March 2024, the second in July, and the third just this January. These three increases have brought rates up to 0.5%, their highest level since 2008. However, these hikes don’t seem to stop here. According to Trading Economics, the consensus expects rates to reach 1% by 2026.

The Swiss National Bank’s moves resemble those of the Fed and the ECB more than Japan’s. Interest rates were at -0.25% in June 2022 and rose to 1.75% a year later. However, it wasn’t until 2024 that rates began to fall, and after five cuts, the current rate stands at 0.25%.

What can we expect in the coming months? According to Swiss Banking, rates are forecast to be at around 0% or even back into negative territory by the end of this year.

In Latin America, the trend in interest rates, with exceptions such as Argentina, led countries to maintain or reduce rates during 2024. While Chile and Brazil have been cutting rates, Mexico and Argentina increased theirs, and others, like Colombia, kept them steady.

For 2025, the IMF projects growth of 2.5% for Latin America, with inflation gradually falling from the highs reached after the pandemic. In Mexico’s case, rates are expected to be at 7.75% by the end of this year and 7% in 2026, down from 11.25% in 2023. For Brazil, interest rates are forecast to rise, although some cuts towards the end of the year are not ruled out if the country’s slowdown becomes clear.

Emerging markets also show some disparities. In China, after several rate cuts, the People’s Bank of China has kept rates steady. However, this could change by the end of the year, as the central bank has hinted at the possibility of further cuts. For now, stability will remain the norm.

Elsewhere, India began raising rates in 2022, bringing them up to 6.5%, where they stayed until January 2025, when the first cut was made. Since then, several more cuts have followed, with rates currently at 6%. The expectation is that by 2026 the rate will be around 5%.

In short, Japan currently stands out as the major exception among large markets, moving towards an interest rate of 1%. Meanwhile, the rest of the markets are heading towards a more flexible and normalized monetary policy, which could accelerate depending on the impact of the trade war.