Quarterly country and sector risk update, term premia and investment promises as trade war currency

Country risk ratings saw modest improvement this quarter, with four emerging markets – Armenia, Ecuador, Montenegro and Uzbekistan – upgraded on the back of stronger GDP growth, greater political stability and healthier fiscal positions. Overall, 56% of our country risk ratings are ‘low’ or ‘medium’ (+5pps more compared to the pre-pandemic period). Sector risk ratings also improved slightly in net terms for the first time since early 2024, reflecting cautious optimism despite persistent global headwinds such as soft demand, high financing costs and trade uncertainty. However, the pharmaceuticals sector stands out with downgrades in the US and India to medium risk, driven by the 100% tariff on branded drugs imports to the US, effective from 1 October, as well as President Trump’s new order to reduce drug prices in the US. In the chemicals sector, the UK and Uruguay joined the cluster of 15 already rated at sensitive risk as demand for basic chemicals remains subdued. We also downgraded metals in Canada, retail in Switzerland and automotive in France from medium to sensitive risk. Overall, there are still fewer low-risk sectors (9%) than before the pandemic (15% in Q4 2019).

Rising 30y yields have become a sustained trend in the bond markets of developed economies, primarily driven by higher risk premia (term premium) rather than changes in expected terminal policy rates. Recent developments in the US, France and Japan have added to this momentum. Since the start of President Trump’s second mandate, the term premium has become a gauge of institutional and fiscal credibility. The ongoing government shutdown in the US may have a limited impact on the trajectory of public finances, but it comes at the cost of institutional credibility. Meanwhile, Japan’s term premium has been rising due to fiscal concerns and higher inflation risk following the elections, , but it should stabilize in the absence of any new political shocks. France and Italy are following contrasting fiscal and political trajectories: Italy’s improving fiscal situation is driving convergence in long-term term premiums with France, which is facing rising fiscal risks amid enduring political uncertainty.

Investment pledges are increasingly being used as a bargaining chip in the current trade war, with lower tariffs offered in exchange for substantial investment commitments and other concessions. After a marked slowdown in FDI in the US (USD160bn in 2024, 40% below the last decade’s average), recent trade deals promise a total of USD5.6trn, with more than 85% concentrated in the next four years, including USD600bn from the EU and USD1trn from Japan. If these are fully realized, FDI in the US could reach an unprecedented USD1.5trn annually in 2026–2028, equivalent to 6% of US GDP. USD1trn in annual inflows could boost US GDP growth by +0.5pp to +2pp annually, raise inflation by up to +0.8pp and create up to 15mn jobs over the investment period. But only 9% of the EU’s pledge is currently backed by firms, revealing a significant discrepancy from actual commitments. Moreover, diverting capital abroad could result in long-term costs for the economies involved, with EU GDP growth potentially being reduced by up to -0.3pp annually, in addition to losses related to tariffs, which challenges the credibility of these pledges. Indeed, markets remain sceptical, viewing them more as political signals rather than concrete commitments.