Parsing Trump’s Economic Objectives and What Such Might Imply for the Dollar

November 15, 2016

The unanticipated victory of Donald Trump in the congressional coattails that secured a legislative body that is likely to broadly support his economic policy agenda represents substantial change in how key economic fundamentals are likely to evolve. Five objectives that will impact the dollar are

  1. Elimination of the trade deficit through protectionist barriers, U.S. energy independence, and the persuasion of other governments to enact policy changes that reduce their surpluses.
  2. A stimulative fiscal policy. Spending on defense and infrastructure will increase sharply, and taxes will be cut even more sharply than during the Bush43 presidency.
  3. Higher interest rates across the maturity spectrum. The yield curve is already steepening. One could argue that Fed officials, who had every reason to believe that government spending would expand only moderately at best, are now behind the curve is containing inflation expectations. It’s not inconceivable that a rate hike of more than 25 basis points will be undertaken within the next year. Besides market pressures now lifting interest rates, Trump the campaigner complained that short-term interest rates are too low. Their coming increase will not be a mere reaction to changed market forces but also the result of policy design by the incoming administration.
  4. Broad tax changes are being proposed that will benefit many people but the well-to-do by the most. Income and wealth dispersion in America is likely to extend further.
  5. Trump wants extensive deregulation. This should boost economic growth in the near term but risks a market crisis eventually as happened in October 1987 and the autumn of 2008.

Much of the above objectives point to a strengthening dollar. The mix of tightening monetary policy, stimulative fiscal policy, and deregulation that promotes entrepreneurial risk-taking are positive factors. So too is rising inflation and expected inflation, so long as Federal Reserve officials can be counted upon to respond more than in kind by normalizing interest rates to the new world order. The budget deficit will increase, but that also raises U.S. real interest rates in present circumstances. If the U.S. still had an abundance of unused resources, that wouldn’t be the case, but 2017 isn’t 2009 or even 2013.

The U.S. business cycle is already ahead of the cycle of other economies in absorbing slack. These governments and central banks aren’t quite in a position to act in tandem with the Fed without subjecting their economies to undue stress.

The equalizer for other economies would seemingly be the rising dollar, which lifts the competitiveness of their exports and import-competing goods.

However, currency movement as the great equalizer runs squarely into the single greatest objective of the new president, eliminating the U.S. trade deficit one way or another. He’s threatened to declare China a currency manipulator, a distinction not earned by appreciating one’s currency. Losers in the effort to slash U.S. net imports will be other economies and U.S. multinational corporations that operate in foreign markets to take advantage of cheaper labor and laxer working conditions. An inference of Trump’s views on trade policy is a weak currency policy, the inverse if you will of former Treasury Secretary Rubin’s mantra that a “stronger dollar is in the best interests of the United States.”

Rubin’s policy was enforced through rhetoric as much as any concrete measures taken. It helped his cause that U.S. fundamentals were improving. In the late 1990s, the U.S. enjoyed strong real economic growth powered by both an expanding work force and strong productivity gains. Inflation fell.The U.S. had attractive interest rate levels and real investment opportunities for foreign capital. Other parts of the world were not doing as well. Asia had a debt crisis, and Europe was self-absorbed preparing for a single currency and central bank policy.

It’s been just a week since the election, and nine weeks lie ahead before Trump’s inaugural. These are early days, but the dollar has already made an upward stab against a wide array of developed and developing market currencies. A notable exception involves sterling. Britain produced this year’s first of two enormous political changes, and when that happened, the currency’s initial response was to depreciation, unlike what the dollar did this week.

The election of Donald Trump will over the next year usher in a much more profound change for currency markets than the Brexit referendum. There are several reasons to expect upward pressure on the U.S. currency to continue. Sooner or later, the new administration will protest against appreciation. Therein lies the potential for market players to be whip-sawed.

Copyright 2016, Larry Greenberg. All rights reserved. No secondary distribution without express permission.




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