Posted by Shyam MoondraDuring the 2016 presidential campaign, President Donald J. Trump emphasized tax cuts and deregulation as a means to spur economic growth and he successfully achieved that. Since those policies were enacted, the GDP growth has gone up to as high as 4%, unemployment has gone down to the lowest levels in the last 50 years, and manufacturing base is growing again. These positive economic results also led the financial markets to set all-time records.
During the 2016 campaign Trump also talked about doing something about the U.S. trade deficit with our international trading partners that has been steadily growing since the 1990s and currently stands at around $800 billion. China, Mexico, Japan, Germany, and Canada are the largest beneficiaries of trade deficit with the U.S. This enormous wealth transfer has decimated the U.S. manufacturing base with neighborhoods in many of our industrial hubs becoming no-man’s land, especially in Michigan, Ohio, Pennsylvania, New York, and Illinois. Trump aggressively used tariffs as a tool, based on national security concerns, to renegotiate trade deals with many countries. He successfully concluded revisions to NAFTA and struck a new trade agreement with Canada and Mexico (USMCA) which will stop the hemorrhage of manufacturing jobs to Mexico and Canada and also open up those markets for the American agricultural products and poultry. Trump also successfully renegotiated a new trade deal with South Korea. New trade deals with Japan and the U.K (in post-Brexit era) are almost done.
Negotiating new trade deals with China and EU have proven to be more difficult than expected. These negotiations were also exasperated by the Federal Reserve Board that increased interest rates in rapid successions last year even though inflation was within their target range (FED kept rates near zero percent during the Obama presidency but they increased the rates to 2.5% during the Trump presidency); higher interest rates strengthened the USD which made U.S. trade negotiations even more difficult. In the case of EU, Trump is holding the card because if he imposes tariffs on EU automobiles, it would devastate the EU economy. At some not too distant point, the EU would have to reduce tariffs on American imports and also open up their markets for American agricultural and energy products. China, the biggest beneficiary of trade deficit with the U.S., has proven to be a tough negotiator. We have seen a few rounds of tariffs and retaliatory tariffs that have rattled the financial markets in both countries. In Trump’s calculations, since China is benefiting from the huge trade surplus with the U.S., they have more to lose from a trade war. The trade war with China has forced American companies to explore alternative non-Chinese supply-chain arrangements involving other low-cost countries such as Vietnam, Malaysia, Indonesia, Thailand, and India (some jobs are even returning to the U.S.). However, the trade war has created uncertainty and it has dampened capital investments by multinational companies, especially in China. These trends have slowed down global economic growth and they have rattled the financial markets around the world. Surprisingly, the U.S. economy has proven to be more resilient to the negative forces unleashed by the trade war and it continues to do relatively well albeit at a slower growth rate than before.
The stock market in the U.S. has not yet discounted the long-term implications of a new trade world order which will greatly benefit the U.S. in terms of higher growth rate, continuing decline in unemployment rate, and increasing wages as many high-paying manufacturing jobs return to the U.S. If and when Trump announces new trade deals with China, Japan, the U.K., and EU, we will see increased economic activity in the U.S. with reduced wealth transfer to other countries. Since inflation is muted, the Federal Reserve Board will likely reduce interest rates in the U.S. to complement growth-oriented fiscal policies that might include a new massive infrastructure spending plan. Recently, ECB announced a new QE program which will also give a new impetus to global growth. These positive trends will propel the U.S. stock market to new highs. In the near-term, we will see a much stronger U.S. economy with S&P 500 Index hitting a new record high of 3,400 as early as next year. In the long-term, as the new trade deals set in, S&P 500 Index could even hit 4,000 by 2022. Trump’s fiscal and trade policies are indeed transformative and these policies will produce good results for years to come.
