Gerald Holtham explores the economic implications of President-elect Trump’s victory.
A torrent of commentary and speculation is pouring over our heads about the meaning of Trump’s election and what it will entail for the US and the world. The political uncertainties are enormous and so much of the crystal ball is very cloudy but a few things on the economic front seem a bit clearer. They have an unfortunate implication for little old Wales.
We know one reason that Trump won is that there has been astonishing stagnation in real wages in the US for years, indeed decades. GDP growth has happened but has resulted in higher profits and large gains at the top of the income scale leaving many behind. Top end wages are up over 40 per cent since 1979, middling wages up only 6 per cent while low wages are down 5 per cent when inflation is taken into account. For years family incomes were raised only because more women went to work but that tendency hit its limit around the turn of the century. So people whose parents enjoyed rising incomes through their lives and who became used to the idea of inevitable progress have become disgruntled as their incomes stagnated and the idea faded into a dream.
They wanted a change and Trump told them that their problems were owing to a political elite who did not care about them. In fact most democratic politicians in the US are probably well-meaning as they are here, if rather credulous and in thrall to business interests. It’s not, in many cases, that they didn’t care, it’s that they didn’t know what to do. The forces of technology and globalisation seemed irresistible. But Trump says he can solve the problem of working class income stagnation so he got the votes.
What is his solution? He has suggested trade protectionism to reduce import growth and re-onshore jobs; he has proposed various forms of immigration restriction (some more plausible than others) and expulsion of illegal immigrants, reducing labour supply and so pushing up wages. He has also promised growth at 5 per cent, a $600 billion infrastructure building programme and a reconstruction of inner cities, to create more jobs. The latter proposals he shared with Bernie Sanders who wanted to do the same. But Sanders proposed to raise taxes on the rich to finance it. Trump by contrast wants to cut taxes on the rich and others to promote business.
A big spending programme and tax cuts together will cause a blow out in the US government budget deficit and a temporary boom. A conservative Republican Congress is supposed to resist that but on past form they won’t. Remember the last president to create a huge deficit in times of peace without a recession to blame was Ronald Reagan, a secular saint to Republicans. He did it back in the 1980s with tax cuts and blow-out spending on the military, leaving his successor, the first Bush, to pick up the pieces. Congress did not seriously resist. Imagine a Congressman opposing the man who won the Presidency for his party by refusing to accept a new road or bridge for his constituency.
Trump is bound to create an enormous deficit because he has to do something. Business interests will resist his instinct to go back on trade agreements fearing retaliation abroad (and China holds a lot of US bonds). Practical difficulties will stop him building a wall along the Rio Grande, let alone getting the Mexicans to pay for it. And he doesn’t need to. He will add to the existing fence and say the Mexicans have promised to keep net flows zero or negative and he’ll build the wall only if they don’t. Then he needn’t do anything beyond a few high-profile expulsions of illegal immigrants. If Trump does stem the flow of other immigrants and imports it will not be to the extent promised. So he has to deliver on the tax cuts and spending. It is the line of least resistance.
Any success in reducing immigrants and imports will add to the inflationary effects of running a large deficit. Nonetheless, the deficit policy could well work for some while. Reagan was popular and so were the Nazis who got Germany out of the great slump with a spending programme – rearmament and building autobahns. The longer- run effects on growth and inflation will most probably be much less pretty but they might not arrive in time to lose the Republicans the next Presidential election. Interest rates will be rising steeply in the US as inflation expectations and the supply of government bonds to finance deficit spending both climb. The dollar is more likely to soar than to collapse and those higher interest rates will spread around the world. Eventually yields will climb steeply as inflation takes off.
Now all this economic stuff may be by-the-way if Trump’s policies precipitate a huge crisis in foreign policy. But he isn’t really interested in the rest of the world, is probably too shrewd to get into foreign wars and is content to “put America first”. The Chinese may provoke him with their territorial claims over the South China sea but more likely not. Trump’s reputation for being thin-skinned and erratic may dissuade them from pushing too hard. Being thought to be a bit crazy is a help when you actually want a quiet life. Similarly he may well accept that Russia has a sphere of influence over its former satellites, at least those not in the EU or Nato, and leave Putin to it. Assad and Israel will both be given tacit leave to continue on their present course. As he says “we’ll get along with anyone prepared to get along with us”. Will he pick a fight with Iran, as he promised? Where’s the profit in that? The outcome may be ugly in some parts of the world but there is little more reason to fear a global conflagration than usual.
My prediction, therefore is 10 year US bond yields now around 2 per cent and already up half a per cent from their low point, will be at 3 1/2 per cent in a couple of years and will surely top 5 per cent before the Federal Reserve, reacting to rising inflation, inverts the yield curve and induces the next recession. Believers in natural justice will hope that Trump is still in office when that happens. But he may well not be if he quits after one term. He has a good record of skipping away from bankruptcies.
Among the many implications all this has for Cymru fach is that the Welsh government is in the process of missing the boat. For years historically low interest rates meant opportunity has been knocking for the Welsh government: to raise private finance to invest in our infrastructure while the cost was so low. Now the knocking sound is fading as interest rates begin their rise. It will very soon be replaced by the sound of retreating footsteps as opportunity heads for the back gate.