The World with Higher Interest Rates

As inflation rates surge to multi-decade highs, central banks have started what we expect to be the most aggressive cycle of interest rate increases since the early 1980s.

Increasingly hawkish noises from monetary officials have sent shockwaves through global markets as investor concerns grow that efforts to rein in inflation will end in recession. They have good reason to worry: historical evidence shows how tightening cycles have often ended in economic downturns when inflation needs squeezing out of the system.

But could this time be different? In this special series of research, Capital Economics will be exploring what higher interest rates are likely to mean for economic and market outcomes, showing how regional and country-level economies will fare, and where risks and opportunities lie in asset markets.

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Can the world cope with higher interest rates?
Examines the macro and market risks around aggressive monetary tightening.

How high will interest rates go?
Although the equilibrium level of real rates is likely still to be very low, there are exceptions.

What to expect from QT
Central banks will coordinate shrinking their balance sheets with rate hikes, all with an eye on the impact on financial conditions.

Can EMs weather Fed tightening?
Conditions have changed since the crises of the 1980s/1990s but pockets of vulnerability still exist. 

Property the weak link as interest rates rise
Rates wouldn’t have to rise much more than we expect to trigger widespread falls in prices.

We expect the dollar to stay strong as the Fed tightens
Policy divergence and a gloomy economic outlook will likely see the dollar grind higher.


Related macro and market research:

Video: Macro and market risk in a world of higher interest rates
Our macro and market economists discuss how tightening will shape macro and market outcomes.

Video: More pain for financial markets?
Our new forecasts for bond, equities and currencies in light of ever-more hawkish signals from major central banks.

US Housing: Surge in mortgage rates makes house price falls likely
+6% mortgage rate will lead to a 5% fall by mid-2023.

Global Markets: New forecasts for US Treasuries & the S&P 500
More upside for yields and downside for equities as policy tightens more and the earnings outlook dims.

Global Markets: Treasuries and US equities less likely to bottom out together
Even more aggressive Fed tightening raises the risk of a worse US economic outcome and corporate earnings.

Global Economics: House price fall looms
We think the consensus is wrong to think house price inflation will merely slow. These are the markets we think are most vulnerable to falling prices.

Australia: How far can interest rates rise?
In overestimating the sensitivity of household finances to higher rates, most analysts are underestimating how much the RBA will need to hike.

Canada: House prices to slump by 20%
The Bank of Canada’s hawkishness, a widening of mortgage spreads, and news that at least one lender is restricting new loan applications suggest the outlook for house prices is worse than we previously feared.

Euro-zone: Rising interest costs add to pressure on EZ households
We estimate that euro-zone households’ debt interest payments will quadruple as a share of income over the next couple of years.

Euro-zone: Historical experience highlights recession risk
Surging energy prices and ECB tightening point to downturns this year and further out.

Euro-zone: ECB to raise rates, and without a new backstop
June’s ECB meeting set the stage for the central bank to raise rates at its next meeting for the first time since 2011.

Euro-zone: ECB tightening unlikely to cause house price crash
While tighter ECB policy could cause house prices to fall, we think a housing crash will be avoided in the euro-zone.

India: Policymakers will turn to financial repression
Intolerant of rising yields, here’s how the authorities are likely to intervene in the bond market.

Japan: What would tighter monetary policy mean?
Our base case is no BOJ tightening. If there was, here’s what it would mean for households, corporates, JGBs and the yen.

UK: 3% is the magic number for interest rates
Explaining out non-consensus call for UK rates to peak at 3% next year.

UK: What the Chancellor gives, the BoE will have to take away
Our UK rate call in light of confirmation of fresh fiscal support.

UK: Can the economy handle interest rates of 3%?
By the time rates peak, GDP will be around 2% lower than pre-lift-off. We don’t think this means recession, but the risk is very real.




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