Monday, 16 September 2019

The US in shock, the rest in awe

Donald Trump, the next president of the United States, addresses his supporters in New York

How will Trump’s victory impact US politics?
The Republican Party is in serious doubt, with several viable ways in which the transformation could play out. A Donald Trump victory makes this issue easier to call: existing Republican leaders will have little choice but to warm up to President Trump. Career Republican leaders who have taken a principled stance against Trump will become political non-entities. As the Republican Party seeks to accommodate the aspirations of hardened Trump supporters, younger Republican leaders may be groomed to reach out to Trump’s constituency and shift the Party’s policy stance to the middle-ground between traditional Republicans values, and where Trump stands.

This will be a new Republican Party. The Democratic Party will not be spared from change. The Clintons, and the old guard in the Party, are likely to drop out of the political scene, as many will blame them for allowing someone with Trump’s temperament to win the Presidency. Given the energy generated by Bernie Sanders (‘Feel the Bern’), the Party is likely to lean leftward, and specifically target the working class that has shifted towards Trump. Democrat’s traditional support for multiculturalism means they will seek to attract working class Americans while trying to cure them of xenophobic and anti-immigrant sentiments.

This may be a tough ask, but it is the only way to address the divisiveness that has crept into American society. We also feel the Democratic Party could become more socially conservative on issues such as family values, “made in America”, patriotism and greater respect for veterans and the Armed forces. Even if Bernie Sanders is not the Party candidate, he is likely to be the spiritual guide of the new face of the Democratic Party.

What will Trump do?
If Donald Trump is as surprised by his victory as the rest of the world, he is likely to be unusually restrained in how he comes across after his victory. His advisers will impose this makeover to calm global markets, and to heal a divided country. One must realise that Trump the Candidate would be quite different from Trump the President-elect.

Having said this, Trump will feel compelled to reaffirm his campaign promises, and show his supporters that he is indeed going to be the President they seek. As President-elect, his team will have to prepare the policy groundwork for his term in office. Trump will have to signal his policy priorities to reduce the uncertainty weighing heavily on global markets.

In our view, Trump will focus on the following issues as ranked: (1) to move ahead and build a wall to stem the flow of illegal Mexican workers; (2) repeal Obamacare and galvanise the Republican Party with large tax cuts; (3) highlight his strategy to defeat ISIS; and (4) formulate a strategy for China that will protect the US workplace, but not trigger a self-defeating trade war between the two largest economies in the world.

The Wall
While the Wall may appear to be a contentious starting point, one must realise that the inflow of illegal immigrants is a bona fide concern, which will find strong support in American towns that have had to deal with this problem for many years. It is perhaps the first concrete proposal that set Trump apart from other candidates; it embodies the simplistic, no-nonsense appeal of his overall message. It is also symbolic and assertive.

Whether the Wall is more about form than substance, or whether he gets the Mexican government to pay for it, is irrelevant. He needs to talk up this issue; promise well-paying blue-collar jobs to US workers who will build the Wall; and show that he is serious about addressing this breach of US sovereignty. Although this will scare Mexico (and undermine its economy), it may strengthen Trump’s hand when it comes down to negotiating bilateral trade issues with the Mexican authorities.

Tax cuts and Obamacare
Repealing Obamacare is to be expected, as Trump has repeatedly stated. He has used rising premiums to show that Obama’s landmark legislation has not really benefited the people. It will also allow Trump to discredit Obama’s legacy, and remind people that Hillary would have been more of the same.

The promised tax cut is clearly motivated to attract traditional Republicans and consolidate his control of the Republican Party. This could also help Republican lawmakers win their re-elections and try to retain their majorities in the Senate and the House. A tax cut may also reverse the initial stock market reaction when his victory is first announced.

‘Muslems…’
In terms of the Muslim issue, Trump may approach it by focusing on ISIS. He may dovetail the ISIS issue with the controversy surrounding his relationship with Russian President Vladimir Putin. Trump may even declare that he will visit Putin (as president-elect) to discuss the battle against ISIS in Syria-Iraq. If he is able to negotiate a deal with Putin – perhaps conceding that Bashar al-Assad remains Syria’s president – Trump could deliver on his campaign promise to eliminate ISIS, and also prove that the US-Russia relationship does not have to be adversarial in nature.

Many in America could view this as a breakthrough, even if the US establishment, and NATO members, regret the U-turn in US foreign policy. Russia and Turkey will gain, while the Kurds will lose out.

China
Finally, there is the issue of how to handle China. The tough campaign talk about China’s currency manipulation and the loss of American jobs to Chinese workers, could trigger a trade war between the two largest economies in the world. Trump will not want this to happen, as this will undermine the interests of his more affluent supporters. In our view, Trump will soft-pedal this issue, yet seek to show results to his supporters. The way forward may be to have detailed trade negotiations with China, where the US will urge the Chinese authorities to make the Yuan convertible (i.e. become a hard currency) and to accept some trade restrictions. This will allow his team to declare victory.

Trump will try to convince the Chinese that a trade war, with tit-for-tat actions taken by China and the US, will effectively become a race to the bottom. In the interest of maintaining some control of global trade volumes, a negotiated settlement would be first-best. The Chinese are likely to agree, as their own economy is more dependent on US trade than the US economy is dependent on China.

Impact on global markets
The global markets are likely to respond with absolute bewilderment. This would not require Trump to say anything inflammatory as president-elect; his past statements should be sufficient to hammer global equity markets. Currency markets will also be in turmoil. However, it is not clear which of the hard-currencies (the Sterling, Euro, Yen or Swiss Franc) would gain strength if the Dollar loses value. The Sterling is already weak because of the Brexit decision, and the Euro faces an existential threat if France opts for immigration controls following the May 2017 elections. The market for the Swiss Franc is not deep enough (volumes transacted are too low) to accommodate a global shift into the Franc, and the Bank of Japan would fight hard to ensure that the Yen does not appreciate.

Under normal circumstances, uncertainty in global equity markets would see money pile into US T-bills and bonds, but with the Fed likely to increase rates in December (coupled with underlying concerns about the Dollar’s outlook), the expected flight to quality (out of the US Dollar) may not play out. With the exception of gold, there is no safe-asset if investors lose confidence in the US economy and the Dollar. Hence, the initial turmoil in equity markets (and in currencies) may be more contained than people expect. However, we anticipate banking stocks and trade-dependent US companies will not fare well.

Regional impact
While global markets may remain suspended in uncertainty, immediate concerns will be raised about the Mexican economy (and the value of the Peso); US investment in Mexico, Canada and China; and how Trump’s victory could encourage European countries to break with their political status quo, and vote in right-wing political parties.

If Marie Le Pen’s National Front (NF) becomes a decisive coalition partner in the next ruling government, markets will factor in the likely end of the Euro. The National Front will make immigration control a policy priority, which would effectively pit France’s economic policies against the common currency (the Euro). If early indications reveal a strong showing by the National Front, the markets will start positioning against the Euro well before the election results are announced. Global currency markets will be on edge till the outcome of the French presidential elections.

The first 100 days
How Trump negotiates these domestic and foreign policy challenges, will depend on the team he puts together. Aside from the more critical appointments (e.g. Secretary of the Treasury and State), his Chief of Staff and his close advisers would also have a strong impact on shaping his first few policy steps.

Based on his election campaign, we feel Trump will need a lot of support not just in terms of his interaction with the media, but also processing policy issues that lie ahead. Without a handle on who his key advisers would be, one cannot say much more about his first 100 days in office. Given the divisive campaign he has conducted, and his new clout as president-elect, Trump is likely to maintain a low public profile, and be guided to reduce uncertainty about his future policies.

Concluding thoughts
While America is much too important for the world, individual Americans vote without the burden of what their country means for the rest of the world. The election result should be viewed through the prism of the individual; Americans did not vote based on how a Trump presidency would impact the world, but how their choice will impact them. This is the lesson from Brexit. One should recall that the Brexit referendum was assumed to be a mere formality as the alternative would be irrational. As we see now, many Britons still have difficulty accepting the country’s decision to leave the EU.

Our advice is to figure out how to accommodate the likely changes in a manner that is not regressive and divisive. If Trump moves America towards protectionism and securing blue-collar jobs, this is not uniquely an American preference. If this is the way forward, the key is to find a balance that works for the largest number of people, not just the most powerful ones.

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