IMF Sees Stronger Growth, But Sounds Warning on Higher Tariffs and AI Correction — Update

By Paul Hannon

The global economy is set to grow more rapidly than previously expected this year, but could falter if trade barriers rise again and geopolitical conflicts intensify, the International Monetary Fund said Monday.

In its quarterly report on the economic outlook, the IMF also warned that placing the Federal Reserve's independence in question would likely lead to a rise in U.S. inflation and the need for higher interest rates, while a decline in equity prices triggered by concerns about the profitability of new technologies could weaken growth.

The IMF raised its 2026 economic growth forecast for the U.S. to 2.4% from 2.1%, but lowered its 2027 projection to 2% from 2.1%. It said it now expects the global economy to grow by 3.3% this year, having previously seen an expansion of 3.1%.

However, that forecast was based on tariffs and other barriers to trade remaining at levels prevailing in December. President Trump on Saturday said he would impose 10% tariffs on imports from several European countries from Feb. 1 in an effort to pressure Denmark to sell Greenland to the U.S., rising to 25% in June.

"This volatility is bad for business decisions, it's bad for investment, it's bad for consumption," IMF Chief Economist Pierre-Olivier Gourinchas said. "This is something that could materially impact growth"

The Fund said that while the global economy had grown more rapidly than expected in the face of higher U.S. trade barriers, that was partly because other countries hadn't retaliated and tariff rates were lowered toward the end of the year.

A series of tit-for-tat moves prompted by Trump's latest threats could have more negative consequences, Gourinchas said.

"If we were to enter a phase in which there would be escalation, that would certainly have an even more adverse effect on the economy," he said.

The IMF estimated that a fresh rise in U.S. tariffs that prompted retaliation could lower global growth to 3% this year.

The stronger-than-anticipated performance of the global economy in the face of higher tariffs was also the result of "tailwinds" from a boom in artificial-intelligence-related investment.

The Fund warned that such heavy reliance on a single sector leaves the U.S. and global economies vulnerable to a decline in equity prices should investors lose some of their optimism about what AI can achieve.

"Reevaluation of productivity growth expectations about AI could lead to a decline in investment and trigger an abrupt financial market correction, spreading from AI-linked companies to other segments and eroding household wealth," the IMF warned.

The Fund estimates that U.S. equities might only be half as overvalued as they were during the dot-com boom that ended in 2001. However, equity market capitalization is much larger relative to the size of the economy, standing at 226% of output, compared to 132% in 2001. As a result, the impact of a similar decline in prices on household wealth and consumption would be larger.

IMF economists calculate that a "moderate" fall in equity prices could lower global growth this year to 2.9%. In that event, central banks should be prepared for a "speedy" reduction in their key interest rates, the Fund said.

But the application of new technologies could also boost global growth this year to as much as 3.6%, and by between 0.1 and 0.8 percentage points annually over the medium term "depending on the speed of adoption and improvements in AI readiness globally."

The scale of the investment boom under way in the U.S. has likely raised the rate of interest at which the Fed is neither restraining nor stimulating growth, the IMF said.

"If the tech boom continues, it may push real neutral interest rates higher--as occurred during the dot-com era-calling for a monetary policy tightening," the IMF said.

It also said that the Fed and other central banks confronting a supply shock, such as higher tariffs on imports, should cut their key rates "only with robust evidence of inflation expectations remaining anchored and inflation returning toward target."

Should the Fed take that advice, it could further strain relations with President Trump, who has repeatedly called for much lower borrowing costs. The Justice Department has launched a criminal investigation into Fed Chair Jerome Powell, which he has characterized as an attempt to pressure the central bank to cut its key rate.

The IMF said the Fed's independence "both legal and operational" is "paramount" for economic growth.

"It's really important that they remain independent," said Gourinchas. "The expectation that they will do what is needed is absolutely critical in bringing inflation down."

The economists said pressure on the central bank to lower its key rate so as to cut the cost of paying interest on the government's debts could backfire.

"If you have less credibility in keeping inflation low, there will be potentially a repricing of government securities, and therefore you would have higher financing costs for the government," Gourinchas said.

The IMF also raised its 2026 growth forecasts for China to 4.5% from 4.2%, and for India, to 6.4% from 6.2%. It said both were diverging from other developing economies in much the same way as the U.S. had marched ahead of other advanced economies.

Gourinchas said that divergence is itself a risk to sustained global growth.

"The drivers of growth have narrowed," he said.

Write to Paul Hannon at paul.hannon@wsj.com

(END) Dow Jones Newswires

January 19, 2026 05:40 ET (10:40 GMT)