My colleague Maritza Cabezas has put out a more extensive note on the outcome of the US elections. Given the unexpected outcome and the unconventional nature of the Trump campaign, I would like share my initial thoughts. One key ingredient has to be that there are significant checks and balances in the system which should prevent very extreme policies.161109-US-elections.pdf (52 KB)
Areas of concern
Going by what Trump has said during the campaign I would highlight some areas of concern.
1. Trade policy. Trump was elected on a protectionist agenda. The Republican party is traditionally a free-trade supporter and it remains to be seen what Trump can do. In any event, protectionism will be bad for global growth and in particular for emerging economies. But it will take time for the new President to pursue that agenda.
2. Fed independence. Trump has said he will try to get rid of Janet Yellen and try to make the Fed less independent. In reality, it will be difficult for him to sack Yellen, although she is unlikely to be reappointed when her term end in 2018. It remains to be seen if Fed independence is reduced. This would shake confidence in financial markets, but it is a longer-term worry.
3. Climate. Trump is not a supporter of the view that climate change is caused by humans. He may blow up the Paris Climate Agreement. The economic impact in the short term and the impact on financial markets is modest.
4. Immigration. Trump said he will limit immigration and he can do that relatively easily. The impact will be moderate.
5. Populism. Another populist victory may provide support for populist political movements elsewhere. This may have an impact on elections in Europe in the remainder of this year and next year.
6. The experience with full Congressional control by Republicans and a Republican President suggests that there will be significant infighting in the party as the Democratic enemy play only a marginal role.
Areas of comfort
1. The US economy is in pretty good condition. Growth is modest, but persistent, the labour market and the housing market are strong, business confidence is OK, consumer confidence is high, corporate earnings have been under pressure, but appear to be improving etc.
2. Of all the things Trump has said he would do, the most likely to be implemented is a fiscal stimulus through tax cuts and infrastructure spending. While Republicans in Congress will want to limit the rise in the budget deficit, I am assuming Trump will find a way to push through this stimulus, also because tax cuts are always favoured by Republican. A comparison with the Reagan administration can be made. I think this will be good for growth in the medium term. It will worsen the public finances, but that is something people will worry about later.
3. As said above, the checks and balances in the system will prevent outrageous policies.
What to watch?
1. The change in tone from the President-elect
2. Who does he appoint to his government and circle of advisors
Overall conclusion on economy and policy
Trump as President creates a lot of uncertainty and that is bad for markets and for confidence. But when the dust settles, the economic positives are likely to outweigh the negatives in the medium term.
On financial markets we expect…
a. …monetary policy to be not significantly affected. Deteriorating public finances and perhaps somewhat higher inflation following protectionist measures, for choice, may lead to modestly tighter monetary policy than otherwise would have been the case.
b. …equities to be volatile and weak in the short term, but recovering in the medium term;
c. …bond yield to be pulled in opposite directions. Safe-haven flows may push yields lower. Deteriorating public finances and possibly higher inflation resulting from protectionist measures will be pushing them higher.
d. …Currencies of emerging economies will suffer from the protectionist agenda. Against the euro, the US dollar will weaken somewhat in our view due to uncertainty and the fact that the dollar is currently somewhat overvalued. Any weakness is likely to be small, however, as the combination of loose fiscal policy and perhaps somewhat tighter monetary policy will provide some support to the greenback.