Charts of the Week: No Free Lunch

US growth surprises Chart 1 below illustrates how the 2-year Treasury yield, a key gauge of market expectations for Fed policy, has closely tracked economic surprises in recent months. When data exceed expectations, yields have generally risen, whereas weaker-than-expected reports have coincided with declines. More recently, US economic data has increasingly underwhelmed, pushing the surprise index into negative territory and to its lowest level since last September. This downward shift in yields has occurred despite a notable rise in inflation expectations across several surveys, highlighting a growing disconnect between inflation concerns and broader growth momentum.

Shifting US trade dependencies Latest US data also reveal a persistent and widening trade deficit in goods. This stands in contrast, moreover, to a relatively stable and steadily improving surplus in services trade. Over the past three decades, the US has become increasingly reliant on services exports, while continuing to import large volumes of manufactured goods. The chart potentially suggests that protectionist measures have done little – so far - to reverse the downward trajectory of the goods trade balance. Meanwhile, the strength in services trade suggests that traditional trade policy tools, such as tariffs on physical goods, could be increasingly disconnected from the realities of a modern economy. As digital trade and knowledge-based services grow in prominence, the effectiveness of tariffs in addressing trade imbalances becomes increasingly questionable.

Uncertainty and the dollar Chart 3 below suggests that economic policy uncertainty has jumped sharply higher in recent weeks, and at the global level, to near-record highs. Historically, periods of heightened uncertainty—driven by factors such as trade tensions, monetary policy shifts, and geopolitical instability—have been accompanied by an appreciation in the dollar as investors seek safe-haven assets. The recent surge in uncertainty certainly highlights how concerns over US trade policy and broader macroeconomic risks are creating tensions and serves as a reminder that this can create feedback loops where heightened risk perceptions reinforce currency movements, amplifying global economic and financial instability.

The end of the peace dividend? Recent days have seen several European governments either commit to – or publicly opine on – lifting their defence expenditure. Prior to these developments there had been a long-term decline in military spending as a share of GDP across the likes of the UK, France, and Germany, a trend that began in the post-Cold War period (chart 4). While all three countries significantly reduced military expenditures during the 1990s and early 2000s, the pace of decline has been most pronounced in Germany, which has historically maintained a more restrained defence posture. However, in recent years, military spending has begun to tick upward, reflecting renewed geopolitical tensions, particularly in light of Russia’s invasion of Ukraine. The increase in defence budgets suggests a shift in priorities, with European nations facing pressure to contribute more to their own security amid broader concerns about NATO’s long-term cohesion.

Country risks This next chart deploys the Dun and Bradstreet indicators that are now stored on Haver’s platform to rank country risk based on a range of economic and political factors. Mexico appears to face the highest overall risk at present among the countries listed, likely due to its heavy exposure to US trade policies and domestic political concerns. Meanwhile, Canada and the US have some of the lowest risk ratings, suggesting relative economic stability. However, while these lower scores indicate resilience, they bear watching closely in the coming months for the growing risks tied to trade protectionism and shifting geopolitical alliances.

Canada’s economy Chart 6 below shows a steady increase in Canada’s supply risk rating over the past two years and potentially points to growing challenges for businesses operating in the manufacturing sector. Rising trade frictions, supply chain disruptions, and geopolitical risks have all contributed to an environment where Canadian businesses face greater uncertainty and operational hurdles. While Canada has traditionally been viewed as a stable and reliable trade partner, the evolving landscape—particularly in the wake of shifting US trade policies—has introduced new complexities. The chart potentially underscores how trade uncertainty might translate into real economic consequences, with businesses needing to adapt to a more volatile and unpredictable global trade environment.