Election 2016: 'Soft Trump' a replay of Reaganomics in the early 1980s

If Donald Trump means what he says, the West is dead as a meaningful concept.

The international system and liberal trading order upheld by the US since the Second World War will disintegrate in short order.

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World reacts to Trump victory

World leaders and citizens react to the announcement of a Donald Trump victory as president-elect of the United States.

The Asian balance of power will unravel. Weak countries on the Pacific rim will be left with no choice: cut off by an isolationist America, they will succumb to the orbit of an expansionist China. Japan will rearm at break-neck speed.

Russia’s Vladimir Putin will have a free hand in Eastern Europe, able to lever his (temporary) military advantage to maximum political effect. Whether Mr Trump pulls out of Nato or lets it wither on the vine, the outcome is the same. Nobody will believe in the solidarity and deterrence of Article V.

A series of walls – metaphorical and real – will obstruct the flow of global goods and capital we take for granted. It will leave emerging markets in the lurch. Interlocking supply chains will become unworkable. The World Trade Organisation will go the way of the League of Nations.

The Paris climate accord – agreed in a rare moment of world concord – will degenerate into a free-for-all. Those who champion open democracy in difficult places will no longer be able to draw on American moral leadership and diplomatic pressure. They will find themselves apologising, or in prison.

It is impossible for markets to price such a strategic earthquake, which explains the wild gyrations we have seen since the election shock. All models break down.

The judgement call we have to make is whether he actually means the outlandish things he said, and whether White House duties will compel him to retreat even if he did.

It is my working premise that Donald Trump is not a new Mussolini and that he will ultimately trim his excesses. It is my working premise that Donald Trump is not a new Mussolini and that he will ultimately trim his excesses.  Photo: AP

Washington’s permanent government and the “K” street lobbyists of corporate America have a way of co-opting US leaders. It is my working premise that Mr Trump is not a new Mussolini and that he will ultimately trim his excesses. Call it a “soft Trump” if you like.

If so, an entirely different economic picture takes shape. His manifesto amounts to massive fiscal stimulus, with tax cuts across the board, a $US1 trillion ($1.3 trillion) blitz on infrastructure, and an imperial navy of 350 combat ships.

'Soft Trump' would be a replay of Reaganomics in the early 1980s. ‘Soft Trump’ would be a replay of Reaganomics in the early 1980s. Photo: AP

It is a replay of Reaganomics in the early 1980s, a form of turbo-charged Keynesian reflation, and damn the deficit. It promises a pro-cyclical economic boom so long as Mr Trump quietly drops his threat of 35 per cent tariffs against Mexico and 45 per cent against China.

Mr Trump will enjoy Republican control over the House and Senate, averting the paralysing gridlock and obstructionism that awaited Hillary Clinton. There will be friction but House Republicans will hardly resist his plan to cut corporation tax from 35 per cent to 15 per cent, or to cut income tax from 39.6 per cent to 33 per cent for the rich, to 25 per cent for middle earners, to 12 per cent for those below $US54,000, and to zero for those under $US29,000.

The judgement call we have to make is whether he actually means the outlandish things he said, and whether White House duties will compel him to retreat even if he did.

Nor will they block his call for a spending spree on bridges, tunnels, telecommunications, cyber security, water systems, pipelines and the electric grid, all built with “American steel” and modelled on Eisenhower’s highway expansion in the 1950s.

You might equally say it looks more like Roosevelt’s New Deal. Infrastructure spending of this kind is what Left-leaning economists such as Larry Summers and Paul Krugman have been calling for.

It starts to plug the $US3.6 trillion backlog of projects. It addresses one cause of sliding US productivity growth. It soaks up the savings glut.

The budget deficit would probably balloon by at least $US450 billion – or 2.4 per cent of gross domestic product – even after offsetting a hiring freeze for public employees. That is potent money.

Mr Trump’s tax cuts for the rich are not to everybody’s taste. Yet in broad macro-economic terms, this fiscal rebalancing is just what the doctor ordered. It becomes easier for the US to escape the “Wicksellian” trap of a negative natural rate of interest, and therefore to escape quantitative easing.

Fiscal expansion allows the Federal Reserve to raise interest rates faster, ceteris paribus. Vice-chairman Stanley Fischer has even put a figure on it, suggesting that every 1 per cent of GDP in fiscal loosening implies rate rises of 50 basis points.

Trumpanomics shifts the structure of global credit, and exchange rates. It was the same regime of “loose fiscal/tight money” that catapulted the dollar sky high in the early 1980s.

You would not know this from the instant reaction after the vote. Traders slashed expectations of a rate rise in December. They sold the dollar. Headlines warned of a dollar crash. This is nonsense on stilts.

The greater risk is that a double shock of rising rates and a rising dollar will set off turmoil in shadow dollar finance, the $US10 trillion nexus of debt trading outside the US. The global system is more intricately tied to dollar liquidity today than at any time since the pre-War Gold Standard.

Dangers abound for everybody but the fallout from a “hard Trump” will not be most intense in the US, whatever some may suppose in Europe and Asia. The lesson of the 1930s is that those countries running a current account surplus suffer most once protectionism takes hold. The deficit countries get off lightly.

Yes, the US would be damaged by trade wars but the damage would be worse for those mercantilist states that feed off the open US market without fully reciprocating. Mr Trump’s team names Germany, alleging it exploits the euro to hold down its exchange rate and lock in a surplus of 8.5 per cent of GDP.

Mr Trump has threatened to name China a “currency manipulator” from day one, triggering sanctions. This would be traumatic, given the symbiotic nature of corporate “Chimerica”. But it must also be disturbing for those Chinese leaders who thought they could rely on a stealth devaluation as a buffer next year, when the latest mini-boom rolls over.

A tit-for-tat trade war between the US and China would not be symmetric. The disguised weakness of the Chinese position would become painfully obvious, and might bring forward the day of reckoning for China’s corporate debtors.

However, unfair, a “hard Trump” may cause more havoc in Asia, Europe, Latin America, and the Middle East than in the US itself.

This is not to say that Mr Trump will act on his threats. He is a demagogue but not ultimately a fool. The calculated trade is to bet on optimism. Buy the dip, with tight political stops.

The Daily Telegraph, London

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