Macroeconomic Outlook 2025
By 1 Finance Research team
29 January 2025
20 min read
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2024 was a year dominated by election-related uncertainties, both in India and abroad, with nearly half the world's population participating in elections across major economies. These political transitions, combined with geopolitical tensions and monetary policy shifts, created significant market volatility.
India’s economic growth took a hit because of several domestic and external factors like high and volatile food inflation, weak consumption demand, low employment generation, and low global growth. However, several positive catalysts emerged like strong credit growth, bond market inflows from FPIs and consistent inflows from domestic investors.
As we progress through 2025, India is poised to become the world's fourth-largest economy, surpassing Japan's $4.1 trillion GDP, though significant per capita differences remain. Below are a few factors that are working in India’s favour:
- Food inflation is moderating with strong agricultural output expected.
- Rural consumption is recovering, supported by good monsoons and falling agri input costs.
- The manufacturing sector shows readiness for capex with healthy balance sheets.
- Global growth, projected at 3.3% by the IMF, offers a marginal improvement over 2024's 3.2%, despite rising protectionist pressures.
This outlook weighs these factors to present our comprehensive analysis across asset classes, focusing on key themes that will shape investment opportunities in 2025.
Here are 15 of our key views for 2025
India Poised to Enter 'Recovery' Mode
The 1Finance Macroeconomic Index (1FMI) remained stable in 2024, reflecting economic resilience despite a transitory slowdown. Robust services sector growth offset marginal manufacturing sluggishness, while cooling inflation and strong public capex coupled with increased rural demand signals a pivot toward sustainable growth.
1FMI is an index integrating multiple sub-indices derived from high-frequency indicators, offering nuanced insights into India’s economic trends, phases, and near-to-medium-term outlook.
*Success Rate is a measure of how well 1FMI has historically predicted GDP Growth
We predict that there is a 60% probability of the Indian economy transitioning from the current ‘Slowdown’ phase, which has been transitory rather than structural, into ‘the Recovery’ phase.
The probabilities stated reflect 1 Finance's proprietary framework combining quantitative and qualitative factors. Our methodology evaluates macroeconomic indicators to assess the likelihood of various scenarios, their probable outcomes and their transition into different economic phases.
2025: The Year to Diversify Across Asset Classes
The risks of remaining concentrated in select asset classes will become apparent in 2025. The biggest focus will be on governments’ fiscal policies, central banks’ monetary decisions, household consumption and resolution of geopolitical issues.
Risk Rating reflects 1 Finance's proprietary framework combining quantitative and qualitative factors to assess downside risks across asset classes. Our methodology evaluates macroeconomic indicators, valuations, and market dynamics to assign ratings from 1 (lowest risk) to 5 (highest risk).
Valuation Divergence in Indian Equities Should Reduce
The recent run-up in valuations of mid and small-cap companies was due to the stabilisation of input cost inflation to reasonable levels (post-geopolitical conflicts led to supply chain disruptions) leading to margin expansion and earnings growth. With uncertainty around foreign capital inflows, rupee stability and domestic/global growth, there are few immediate drivers of earnings growth for them and hence valuations seem high. Large caps are much better placed to benefit from the current economic scenario.
Select Sectoral Themes to Perform Better
Given the elevated starting valuations for certain sectors, the room for valuation re-rating for them is minimal. However, the key to building a robust equity portfolio will be in finding the beneficiaries of a weaker rupee, pickup in domestic consumption and government capital expenditure.
Rupee Depreciation to Continue in Near-term
The rupee, which was quite stable in 2023 and 2024, has seen significant depreciation recently due to both domestic and global factors, such as limited FX intervention by the RBI, FPI outflows due to a pickup in US inflation, and fresh US sanctions on Russia's oil.
The RBI reduced its foreign exchange reserves by nearly $70 billion from their peak of $705 billion in Sep-24. However, FX intervention is expected to be limited under the newly appointed RBI governor, unless extreme circumstances arise.
DII Inflows Unlikely to Maintain Past Momentum
DII inflows have been quite strong in a largely unidirectional Indian stock market since 2020. In 2024, DIIs provided support to market valuations, offsetting the impact of foreign capital outflow. But when markets consolidate DII flows become negative.
What cautions us about DII flows is that since 2020 a lot of young domestic investors, with little experience in volatile times, have entered the stock market.
Government's Infrastructure Push Drives Recovery
The government's capex focus on infrastructure, particularly roads, railways, and urban development, has created employment and boosted rural incomes. This, combined with moderating inflation, has driven consumption recovery back to pre-COVID levels, especially in rural areas.
Banking Sector Health Supports Growth Momentum
Public and private sector bank NPAs have dropped to historic lows, creating a strong base for India's growth. This improved asset quality, along with expected rate cuts and government spending on infrastructure in 2025, positions banks to fund the next phase of private sector expansion. Companies with low debt levels are well-positioned to take advantage of this banking sector's strength as consumer demand recovers.
Manufacturing Sector Ready for Capex Cycle
Manufacturing companies' debt-to-equity ratios have reached multi-decade lows, while capacity utilisation has remained above 70% since the end of 2021, creating significant headroom for expansion. This balance sheet strength, combined with PLI schemes across 14 sectors and expected rate cuts in 2025, positions the sector well for growth. Large manufacturers are particularly well-placed to benefit from the government's ₹1.97 lakh crore PLI outlay and rising domestic consumption.
Agriculture Recovery to Drive Rural Growth
Above-normal monsoon rainfall at 106% of LPA in 2024 has significantly improved reservoir levels across regions. This has created a strong foundation for Rabi crops in 2025.
Early Rabi sowing data indicate robust sowing for the third year in a row. These sowing trends and early predictions of above-normal rainfall in 2025 should deliver 4%+ agricultural growth. This increased production should help moderate food inflation.
Rural consumption is showing signs of revival, supported by good agricultural performance and moderating input costs. Rural inflation has been sequentially coming down from an average of 6.9% (2022) to 5.8% (2023) and then to 5.4% (2024). In 2025, it is anticipated that improved agricultural incomes and further cooling of rural inflation will increase demand in rural areas.
US Market Rally Faces Multiple Stress Tests
The US equity market enters 2025 with mixed signals. While consumer spending remains resilient, supported by a tight labour market and strong household balance sheets, structural challenges loom large. The S&P 500's current P/E ratio at 30.6x, ranking way above the last 20-year median P/E ratio of 21.9x, suggests limited room for further valuation expansion.
The proposed federal spending reductions, even if modest compared to the targeted $2 trillion cuts, could help improve fiscal health. However, this comes amid concerns about sticky inflation and potential trade tariffs that could trigger inflationary pressures. The Fed's likely shallower rate cut cycle than market expectations adds another layer of uncertainty.
The combination of high fiscal deficit, historic levels of public debt, and elevated equity valuations creates a challenging environment for US equities in 2025. While pro-growth measures including potential tax cuts could boost corporate earnings, the market appears to have already priced in an optimistic scenario.
The proposed federal spending reductions, even if modest compared to the targeted $2 trillion cuts, could help improve fiscal health. However, this comes amid concerns about sticky inflation and potential trade tariffs that could trigger inflationary pressures. The Fed's likely shallower rate cut cycle than market expectations adds another layer of uncertainty.
The combination of high fiscal deficit, historic levels of public debt, and elevated equity valuations creates a challenging environment for US equities in 2025. While pro-growth measures including potential tax cuts could boost corporate earnings, the market appears to have already priced in an optimistic scenario.
China's Growth Revival Hinges on Policy Support
China's equity market presents a compelling opportunity in 2025, driven by aggressive policy measures to combat deflation and revive growth. The comprehensive stimulus package, including monetary easing and fiscal expansion reaching 4% of GDP, aims to stabilise the economy. Chinese equities trading at significant discounts to global peers offer attractive entry points for long-term investors.
The government's strong policy support for new growth sectors, including semiconductors, EVs, AI, and advanced manufacturing, demonstrates a clear shift towards high-value industries. This transition, backed by moderately loose monetary policy, positions China's technology and manufacturing sectors for potential outperformance.
However, structural challenges persist. GDP growth is expected to moderate to 4.0-4.5% in 2025 due to potential US tariff implementation. The property sector continues to struggle, with new home sales and completions down by more than 50% from 2021 peaks. Ageing demographics and weak consumer confidence present additional headwinds that could limit the pace of economic recovery.
The government's strong policy support for new growth sectors, including semiconductors, EVs, AI, and advanced manufacturing, demonstrates a clear shift towards high-value industries. This transition, backed by moderately loose monetary policy, positions China's technology and manufacturing sectors for potential outperformance.
However, structural challenges persist. GDP growth is expected to moderate to 4.0-4.5% in 2025 due to potential US tariff implementation. The property sector continues to struggle, with new home sales and completions down by more than 50% from 2021 peaks. Ageing demographics and weak consumer confidence present additional headwinds that could limit the pace of economic recovery.
India Short-Term Bonds to Lead Rate Cut Rally
FPI inflow into Indian bonds has been significantly influenced by the country's inclusion in the JP Morgan Bond Index, which started in Jun-24 and will end in Mar-25. FPI inflows, among other things, have caused bond yields across maturities to decline by 50 basis points since the inclusion announcement in Sep-23. The yield curve has remained relatively flat over this time.
Meanwhile, the differential between India and US 10-year bond yields has fallen to a multi-decade low of 2.1%, which after adjusting for the rupee's depreciation rate versus the dollar makes long-term US bonds more appealing to foreign investors.
With longer-term yields under pressure and a gradual and shallow rate cut cycle beginning in 2025 with a total repo rate decrease of 50-75 basis points, short-term bonds (with maturities of less than three years) are expected to experience a higher fall in yields than long-term bonds. This could cause a steepening of the yield curve.
Gold Set to Benefit from Rate Cut Cycle
In the last five rate cut cycles covering the last 20 years, anytime the repo rate was cut in response to an economic slowdown rather than a significant financial crisis, Gold outperformed the Nifty 50 in the subsequent one-year period. This demonstrates gold’s potential to offset risks, especially during phases of monetary policy transitions.
Further, according to the World Gold Council, central banks worldwide have been adding approximately 400 metric tonnes (MT) of gold annually to their reserves since 2009. Over the past five years, China (316 MT), India (235 MT), and Japan (81 MT) have added the most gold to their reserves among the major economies.
Rising Incomes and Rate Cuts to Drive Residential Prices
Despite high mortgage rates, residential unit sales in the top cities have been brisk. This is indicative of the lack of rate sensitiveness of buyers of high-end, luxury units. Sales volumes in 2025 are likely to be lower than 2024 levels, but demand should remain robust, helping deliver significant price appreciation.
The increased demand resulted in fewer months of inventory available through most of the top cities, although inventory levels still remain high for certain cities.
Your Financial Plan for 2025
As we enter a period of significant economic transitions - from rate cuts to shifting global trade conditions - your financial decisions require careful consideration. A Qualified Financial Advisor can provide a comprehensive assessment of your financial situation:
- Evaluating loan refinancing opportunities as interest rates shift
- Protecting your purchasing power when the dynamics of inflation change
- Balancing exposure between large caps and mid/small caps given the valuation divergence
- Optimising fixed income allocation ahea0d of expected rate cuts
- Evaluating international diversification opportunities amid changing trade dynamics
- Assessing gold allocation as a hedge against market volatility
Disclaimer
This Blog is for informational purposes only and does not constitute investment advice or recommendations. Forward-looking statements are subject to risks and uncertainties, and outcomes may vary. The Company and its officials do not guarantee the accuracy, completeness, or reliability of the information provided. Recipients should conduct their own due diligence and consult advisors before making investment decisions. The Company and its officials disclaim liability for any actions taken based on this information. This Blog, in whole or in part, may not be reproduced, distributed, or transmitted in any form or by any means without the prior written consent of the Company
Disclaimer
This Blog is for informational purposes only and does not constitute investment advice or recommendations. Forward-looking statements are subject to risks and uncertainties, and outcomes may vary. The Company and its officials do not guarantee the accuracy, completeness, or reliability of the information provided. Recipients should conduct their own due diligence and consult advisors before making investment decisions. The Company and its officials disclaim liability for any actions taken based on this information. This Blog, in whole or in part, may not be reproduced, distributed, or transmitted in any form or by any means without the prior written consent of the Company