The extraordinary global response to the pandemic has set the stage for a strong economic recovery. Vaccines were developed, tested, and made available faster than many anticipated. By our estimates, shown in the chart below, about 75% of the world's population will have received at least one vaccine dose by the end of 2021, putting herd immunity in the largest economies within reach.¹ The reaction of governments and central banks has also been impressive, as many moved swiftly to provide unprecedented levels of fiscal and monetary support.

At the same time, the chart shows that vaccination rates have differed significantly by country and region. So have outcomes from policymakers' efforts to blunt COVID-19's economic impact. Both factors are likely to contribute to the recovery’s continued unevenness for the rest of this year and beyond.

Our full-year GDP growth forecasts still reflect how far we’ve had to climb back to approach pre-pandemic growth. In the United States, for example, where positive health care developments and strong fiscal support are driving growth, we’ve raised our full-year forecast to at least 7%. Vaccination programs accelerated after a somewhat slow start, paving the way for the reopening of segments of the economy that depend heavily on face-to-face interaction. Government programs, including enhanced unemployment benefits and stimulus checks delivered directly to lower-income earners, have supported consumer spending.

For the euro area, our forecast for 2021 growth of around 5% is unchanged. A halting start to vaccination rollouts and repeated lockdowns tipped the bloc back into recession early this year, but supportive policy, an easing of travel restrictions, and consumption that remains 10% below its pre-pandemic trend could underpin a strong bounce-back.

For China, we have lowered our 2021 forecast to around 8.5%. The country has largely contained the pandemic and was the first to return to its pre-COVID GDP level, but consumption is taking time to normalize amid slow vaccination rollouts and sporadic virus outbreaks.

Domestic consumption may continue to lag even as vaccinations ramp up, but exports have boosted China's economy.

For emerging markets, we have raised our forecast for 2021 to above 6%. A resurgence of the virus, particularly in emerging Asia, weighed on growth in the first half of this year, but growth should accelerate as vaccination efforts advance.

Various factors are fanning concerns about higher inflation, including the stronger-than-expected rebound in global growth, extraordinary and unprecedented monetary and fiscal stimulus, and a jump in demand for goods and services as economies reopen and supply gradually comes back online. Although we expect the effects to be largely transitory, our outlook is for a modest but eventually persistent increase in inflation.

Improving economies and somewhat higher inflation are, in turn, spurring questions about monetary policy. Some central banks have already begun slowing the pace of asset purchases put in place at the start of the pandemic, and others are contemplating doing so. Such moves constitute a gradual removal of accommodative monetary policy. We nevertheless expect that initial increases in central bank short-term rates won’t occur broadly before 2023.

U.S. inflation risks are higher than those in other countries given some supply-and-demand imbalances. Diminished supply of goods, including new and used cars, and of labor, amid demand rebounds in some sectors, might take time to unwind. Our baseline scenario, shown in the chart below, is that core inflation (which excludes volatile food and energy prices) will persist above the Federal Reserve’s 2% target in the second half of 2021 before moderating in 2022.

There is a risk, however, that significantly more fiscal spending on the order of $2 trillion to $3 trillion—our “go big” scenario in the chart below—could lead inflation to significantly overshoot the Fed's target later this year and into 2022. Such a development could affect inflation psychology, in which higher expected inflation can lead to higher actual inflation.

With its 2020 adoption of “average inflation targeting,” which makes 2% a longer-term goal rather than an upper limit, the Fed may be more comfortable letting inflation run reasonably above 2% for some time. We foresee accommodative policy persisting for the rest of 2021, though plans for reducing the pace of asset purchases are likely to be disclosed in the second half. We currently don’t foresee conditions meeting the Fed’s rate-hike criteria of price stability and maximum sustainable employment until the second half of 2023.

Headline inflation, as shown in the chart below, is likely to follow similar paths in the euro area and the United Kingdom. Euro-area energy prices are likely to push headline inflation above 2% in the second half of 2021, but underlying price pressures remain subdued. We foresee core inflation rising to a range of 1% to 1.5% by year-end, slightly higher than our view when 2021 began. The European Central Bank is likely to keep interest rates on hold at least through 2022, even as the economy improves, though it will probably slow its pace of asset purchases in the near term.

We continue to foresee core inflation in China of around 1.5% for 2021, well below the People's Bank of China's 3% target. Although producer prices have climbed, we expect pass-through effects to remain limited, especially amid modest consumer demand. We expect monetary policy to continue to normalize, but only gradually as economic growth remains uneven.

Inflation in emerging markets has been higher than expected. A disinflationary trend in parts of Asia has disappeared, and inflation in other regions has largely risen above its pre-pandemic pace as higher borrowing costs in developed markets spill over. Inflation dynamics and rising U.S. interest rates have constrained central banks' accommodative bias even as economic growth remains below potential. Recent rate hikes in Brazil, Russia, and Turkey amid rising inflation demonstrate the challenge.

Starting valuations matter. Global stocks this year have continued to rally from pandemic lows, and that will make further gains harder to come by. In fact, our 10-year annualized return forecasts for some developed markets are nearly 2 percentage points lower than they were at the end of 2020.

The news is better for bond investors. Because we expect bond portfolios of all types and maturities to earn returns close to their current yield levels, the recent increase in market interest rates has led us to raise our 10-year annualized return forecasts by a half to a full percentage point for a number of markets.

Our forecasts, in local currencies, are derived from a May 31, 2021, running of the Vanguard Capital Markets Model®. The figures are based on a 1-point range around the 50th percentile of the distribution of return outcomes for equities and a 0.5-point range around the 50th percentile for bonds.

U.S. stocks: 2.4% to 4.4%; Ex-U.S. stocks: 5.2% to 7.2%.

U.S. bonds: 1.4% to 2.4%; Ex-U.S. bonds: 1.3% to 2.3% when hedged in U.S. dollars.

Euro-area stocks: 2.9% to 4.9%; Ex-euro-area stocks: 1.6% to 3.6%.

Euro-area bonds: –0.5% to 0.5%; Ex-euro-area bonds: –0.5% to 0.5% when hedged in euros.

Chinese stocks: 5.1% to 7.1%; Ex-China stocks: 3.6% to 5.6%.

Chinese bonds: 2.8% to 3.8%.

Even with our upward revisions, returns from bonds in most markets are likely to be modest. We nonetheless still see their primary role in a portfolio as providing diversification from riskier assets rather than generating returns.

Keep in mind that return forecasts change in response to evolving assessments of economic and market conditions, but that doesn't mean investment plans should change. In fact, long-term investors often have the best chance of investment success by staying the course if their investment plan is diversified across asset classes, sectors, and regions and is in line with their investment goals and tolerance for risk.