Is Trump going to follow through?

Take a moment to remember the impact of this superpower

The influence of the US is clear in economies around the globe. It has been instrumental in furthering the cause of free trade and markets. This has not found universal appeal and is increasingly open to question. But, it has nonetheless driven development in many economies, including sub-Saharan Africa.

The North Atlantic Treaty Organisation (NATO) was signed on US soil in 1949. For decades Western Europe has been comforted by the protection offered by the US nuclear shield.

And, under President Obama the US has increasingly come to recognise stresses on the environment are a real threat to the natural resources required to sustain the economy on which the “promise” of better living standards rests.

US disengagement: what will fill the void?

Scaling back US participation in trade liberalisation is one thing. Withdrawing from NATO, throwing up immigration barriers and/or scaling back support for global environmental initiatives are collectively much bigger. A Trump presidency may seek to do some or all of these. If the US disengages from the world it is not entirely clear what will take its place. It would ostensibly, for some time, leave a large gap, creating space for different ideologies to compete for supremacy and the right to define how economies operate.

Time will tell whether or not the US disengages. In the interim, financial market participants are likely to be more interested in the course of the US Budget, the Federal Funds rate and the US dollar, while keeping an eye on the implications of trade liberalisation losing its momentum.

Trump economics: what is feasible?

At face value, the man’s fiscal plans do not appear to be feasible. The proposed simplification of the tax code is a good thing, but the implied sustained deterioration in the federal budget and debt level is not. To stabilise the US federal debt ratio Trump’s plan requires sustained real GDP growth of more than 3%, markedly higher than the current view of potential growth in the US. The president elect would argue his tax cut plans (supported by infrastructure spending amid expenditure cuts elsewhere) will incentivise work, savings and investment, which would lift real GDP growth and hence tax revenue. This would limit the size of the deficit and contain the increase in the debt ratio.

However, this may be more hopeful than realistic. Supply-side constraints suggest the “required” growth spurt is bound to be met by capacity constraints and sharper increases in US interest rates than currently expected. After all, the US unemployment rate is not too far from historic lows. Indeed, this risk associated with Trump’s fiscal proposals has been clearly echoed in the rise in US Treasury yields since his election.

Regulatory reform could pay dividends - in the long run

It is possible regulatory reform, which Trump appears to favour, may remove some of the binding constraints to growth. But, deregulation is a lengthy process and not easy to sell. It is worth keeping an eye on this. Trump’s proposed term limits for members of congress, restrictions on lobbying activity and federal government employment freeze (with exceptions) complement his deregulation initiative.

Reducing and simplifying regulations could pay dividends in the long run, but one doubts it is a “magic wand” that can be waved to dramatic effect in the near term.

Moreover, Trump’s anti-immigration stance and protectionist foreign trade agenda, ironically, can be expected to constrain the supply side of the economy and run counter to his fiscal plans.

The benefits of trade liberalisation are well documented

Loss of momentum in trade liberalisation has coincided with weak import growth since the global financial crisis. This is the opposite of what the world needs. The impact of trade liberalisation on jobs and real incomes is well documented. Growth, however, is a function of efficiency improvements, which are often linked with renewal, the application of new technologies and updated production processes. Older processes and their associated skills become obsolete. Restricting this drive to do things better does not appear to be a useful approach. Rather, effective social safety nets and the development of flexible skill sets that can adapt to changing demands on labour would be more useful.

There are a number of potentially influential regional and sector-focused trade liberalisation deals on the table, which could form an important building block in the quest to re-invigorate global productivity growth. But Trump’s apparent hard-line protectionist trade stance threatens to further constrain global trade liberalisation momentum.

Indeed, Global Trade Alert observes the US, itself, has implemented far more trade “discriminatory” measures since 2009 than trade “liberalising” measures. And, the US appears set to dump the Trans-Pacific Partnership once Trump begins his term of office, while the Transatlantic Trade and Investment Partnership may also end up in the firing line. Also, a review of the North American Trade Agreement (NAFTA) has been mooted, in addition to threats of imposing high import duties on imports from China.

The big question: why start a trade war with your funders?

But, again, there are binding constraints to a US push towards greater trade protectionism. The US is expected to run a current account deficit of around 2,5% of its GDP in 2016. All else equal, fiscal expansion would increase the size of the deficit, which would need to be funded by foreign capital inflows. In August 2016 China, for example, held $1,185trn US Treasury securities. Hence, China is an important source of foreign savings the US needs to fund its domestic investment. Would the US really start a trade war with one of its largest funders?

Inflation is bound to come back and this has implications for SA

The bottom line of Trump’s fiscal and trade policy proposals, even if scaled back, is that the groundwork is being laid for higher inflation – a risk that would escalate should US fiscal policy loosening become excessive.

Accordingly, central banks around the world, especially those in emerging market economies running macroeconomic imbalances, including South Africa, will pay careful attention. Should the US Federal Reserve become more aggressive than previously expected this could weigh on their currencies, while placing upward pressure on their interest rates.