The story of the Trump administration so far is US dollar weakness. Policymaking has been chaotic but when you talk with people in markets they highlight three fears:
- Below-trend US growth
- Higher US inflation
- Declining productivity/dynamism
These are classic characteristics of an underperforming economy but it’s also a 180-degree turn from what markets were expecting at the close of the US election. Trump 1.0 talked a lot about tariffs but ultimately focused on growth and boosting equity prices. Now, it’s looking more like that was a product of his first cabinet rather than his core instincts.
So what are the things driving the fears:
1) Tariffs
This one is obvious but there are more and more conversations about the unintended consequences of these policies. In covid we learned that supply chains are far more-fragile than thought and there is a worry that something could break and lead to an inflation shock beyond what the simple math would indicate.
2) Growth
There is a Trump ‘growth agenda’ around lower taxes and deregulation that helped to get him elected, particularly with mainstream conservatives but it’s been overshadowed so far. In addition, I’m not sure how much low-hanging fruit is really there as the core part of the tax cut is just an extension of what’s already in place. But beyond those things, the tariff and policymaking uncertainty is a big potential headwind for growth, particularly if the Fed will have to keep interest rates higher.
The main fear is that there is an administration in place that thinks it can re-write the rules of economics. We’ve seen protectionism fail many times before and this will be no different.
So far we’ve only seen drastic declines in consumer and business sentiment but the market is holding its breath for that to hit the real economy.
3) Deficits
There is some good news in the ‘Trump agenda’ but there is also the problem of how to pay for it. The US is running deficits at an eye-watering 7% of GDP and it’s coming at a time of 4% unemployment. The bond market is balking right now and I think at least a portion of that was last week’s indications from Congressional leadership that they’re aiming to pass a budget with all the goodies that Trump promised in his campaign. The fiscal hawks just aren’t there and the US could be on a path to deficits at 10% of GDP which will lead to an inevitable reckoning that will cripple growth later or lead to political turmoil.
4) The rules and norms
The US dollar is at the centre of the global system and it’s held together by things like NATO, the WTO, the WHO, the UN and a strong belief in the US rule of law. These things are all being eroded or destroyed at an alarming pace and in a way that won’t be easily reconstructed. It’s tough to even conceptualize what is at stake here but some murmurs from Beijing just today hinted at a US vulnerability: Intellectual property. What are US companies worth in a world that no longer respects it?
5) Immigration
It’s not clear how much of Trump’s crackdown on illegal immigration was theatrics and how much was genuine. Moreover, it’s not clear how much any of it will continue but illegal immigrants in the US are a key constituent keeping inflation down in farming and hospitality. Trump last week floated a plan where some could leave and come back legally but — again — there is no clear plan here and you wonder if Trump doesn’t continue to play to his worst instincts.
6) Fed policy
This is a tail risk but earlier this month, a US judge allowed Trump to move forward with the firings of two top officials at the Federal Trade Commission. If it’s allowed to stand, it would pave the way for him to fire Federal Reserve officials, including Jerome Powell. It’s a fight that’s headed to the Supreme Court but the FX implications are obvious. If the US central bank loses independence, it will be stacked by loyalists who keep rates low, undermining the value of the dollar.
