ExplainSpeaking: The economics of Donald Trump

What are Trump’s main policy stances? What is the problem with them?

Here’s a summary of the six main strands of Trump’s stated policies, and why they are likely to hurt the US economy in significant ways.

1. 01

   THREATENING/IMPOSING IMPORT TARIFFS

   Trump has threatened import tariffs on all countries, and especially singled out the United States’ closest trading partners for the worst treatment.

   Now, tariffs will most likely raise prices that US consumers pay. This will both raise inflation (the rate at which the general price level rises over the past year) and hit affordability (which takes into account the cumulative effect of all past inflations). US consumers have struggled with higher cost of living (or falling affordability) over the post pandemic period.

   Also Read | ExplainSpeaking: The economic repercussions of Trump’s presidency

   Further, tariffs will also hit US firms as their import costs will go up, meaning they may not be able to produce in the most cost-effective manner. Remember, supply chains today are global.

   Not to mention the adverse geopolitical ramifications of tariffs. Canada, the European Union, and China all are retaliating with their own tariffs. This may be counter-productive to their own consumers, but it will also hit the demand for US goods, and thus ultimately harm US companies/producers.

2. 02

   THREATENING TO EXPAND US TERRITORY

   Trump has repeatedly threatened to expand American territory by including sovereign countries as new “states” in the union. Think Canada and Greenland (as yet a part of Denmark).

   Also Read | Trump’s MAGA dreams may be vague, but the world needs to fasten its seatbelt

   Such rhetoric from the US President has made all countries aware of an imperialist US — one that is capable and willing  to try any means to expand its empire in search of critical resources, especially energy. This immediately extinguishes co-operation and trust built over decades, and blows away the United States’ reputation as the global protector of national sovereignty and democratic values.

3. 03

   BACKTRACKING ON SECURITY GUARANTEES

   The White House’s backtracking on US security guarantees to allies — none more than with regards to NATO — has alarmed many. Trump’s treatment of Ukraine President Zelenskyy and his decision to withhold military intelligence in the middle of a brutal war with Russia was as stunning and unprecedented as any US action in history.

   Also Read | US-Europe ‘break’ is changing the world: What’s happening and why?

   Like his imperial threats, Trump’s disregard for alliances and allies has eroded relationships built over decades. The bottom line is that Trump’s stance has made the United States’ long-standing allies reconsider if Washington can be trusted anymore.

4. 04

   CUTTING GOVERNMENT SPENDING

   Within the US, Trump wants to cut the government to size. Literally. He wants to reduce the number of people working for the federal government, and he also wants to cut the total amount of money spent by the federal government by wrapping up programmes and even entire departments (like the Department of Education).

   This fundamentally misunderstands what makes the US “exceptional”.

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   A big reason for American exceptionalism, especially after the Global Financial Crisis of 2008 and again after the Covid pandemic, has been the big spending by US governments, fuelled by a loose monetary policy where the US printed lots of money to fuel economic demand among consumers. (The US could print dollars in an unprecedented manner because the US dollar is trusted and used the world over.)

   The government used this money to expand its welfare programmes. Thus, a sudden and sharp cut in government spending could take away the impetus it was providing to domestic demand and economic growth.

5. 05

   DEPORTING ILLEGAL IMMIGRANTS

   Donald Trump has amped up action against illegal immigrants, deporting thousands in merely weeks after coming to office.

   Now, even if illegal immigrantion is indefensible, it is a fact that pulling millions out of the workforce over a short period of time can raise labour constraints. US producers may find that wages costs have risen far in excess of their ability to pass on the cost to their buyers.

   Also Read | India-US ties and the illegal immigration issue

   Beyond illegal immigrants, it is noteworthy that the Trump administration is acutely uncomfortable with the fact that many legal immigrants (including those who are American citizens) tend to do better than US-born Americans when it comes to jobs. On March 11, Trump’s White House Press Secretary Karoline Leavitt said that “under Joe Biden, all net job growth went to foreign-born Americans”.

6. 06

   CUTTING TAXES, INITIATING DEREGULATION

   Trump has long been in favour of cutting taxes on incomes (both personal and of companies), as well initiating massive deregulation. And more often not, tax cuts and deregulation are considered a positive for the economy.

   But as things stand, there are no tax cuts on the horizon. The fact is that the fiscal room for providing tax relief can only happen when the existing spending comes down sharply, otherwise the deficit will continue to balloon.

   Further, there are question marks about the manner in which deregulation is set to occur, with the likes of billionaire Elon Musk having a say in who will regulate and how much while still being a CEO of the regulated company. The fact is that over the decades, the US had built up regulations that aimed at providing safeguards for consumers and establishing guardrails against corporate malfeasance (such as conflict of interests and existence of monopolies etc.). Deregulation can then also lead to adverse impacts on the average consumer.

What has been the net result?

Simply put, a stock market crash. But there’s more.

In the run-up to Trump’s inauguration, US stock markets kept going up as more and more money flowed back to the US from the rest of the world markets. The hope among investors was that Trump will fire up the US economy via tax cuts and deregulation.

The threat of tariffs were discounted with many treating it as a short-term negotiation tactic — not a long-term growth strategy. The wisdom from the first Trump presidency was the “he should be taken seriously but not literally”.

But since Trump’s inauguration, most of the discussion has been surrounding tax hikes (tariffs) and spending (not tax) cuts. Perhaps Trump 2.0 should be taken literally as well.

It is now plain to most that if this policy prescription is adhered to, then US exceptionalism is under serious cloud.

On March 10, Citi, a reputed American multinational investment bank, downgraded US stocks and stated: “US exceptionalism is at least pausing. The news flow from the US economy is likely to undershoot the rest of the world in the coming months.”

On the same day, HSBC, another global bank, also downgraded US stocks and suggested that investors should look towards Europe. Interestingly, while HSBC looked to Europe, Citi went overweight on China.

The markets are falling not just because Trump’s policies are jamming up all the levers US has used in the past to propel economic growth but also because the rest of the world is retaliating with the reverse strategy.

What’s happening in the EU and China?

The European Union, led by Germany, is untying its hands and governments are looking to borrow and expand government spending in a bid to not just build physical infrastructure but also to regain some manner of self-sufficiency in defence. The EU’s GDP is roughly two-thirds the size of US GDP, and pretty much neck-and-neck with China’s. The EU has recently struggled with stagnant growth.

China is also expanding its spending. China’s problem is exactly opposite of the US situation: while the US consumes far more than it produces, thus running a trade deficit in excess of $1 trillion, China produces far more than it can consume, and runs a trade surplus of over $1 trillion.

For a decade now, Chinese policymakers have been trying to shift their focus on boosting domestic consumption, and away from solely relying on exports-led growth. It is for this reason China has struggled with deflation over the last few years.

Deflation is the exact opposite of inflation, in that it refers to a scenario when price level falls from one year to another. While this may sound counter-intuitive, deflation is often far more dangerous than inflation because it can lead to the economy stalling to a halt as consumers defer purchases in the hope of buying things cheaper later while producers build up piles of unsold inventories. That is why Chinese policymakers are trying to boost domestic consumer demand.

The net result of the domestic conditions and policy responses in EU and China is that investors can either plonk their money in US government bonds (a risk free asset) — this is why their prices have increased and yields risen over the past few months — or take it out of the US and invest in European and Chinese markets that hold out the promise of growth.

Then, why is Trump doing what he is doing?

All the above analysis is based on the fact that the US is the biggest and best performing economy in the world, with a GDP close to $30 trillion (India’s is $3.5 trillion). Its citizens, notwithstanding the recent troubles with inflation, are on average much better off than in most countries, its government is more capable of remedying whatever inequalities arise by means of redistribution, and it remains a vibrant economy that still attracts the best talent from all parts of the world, thus boosting its ability to grow rapidly.

But Trump sees the whole picture differently. When reporters ask him about the stock market crash or prospects of recession, he responds by talking about the falling price of natural gas and crude oil as well as the fall in interest rates, never mind that these falls are a product of the weakening of the United States’ growth prospects.

“Right now, we are like a chicken that’s been plucked at from all over the world. And I am not going to let that happen anymore,” said President Trump on March 11.

Trump said the US has been “stripped of its jobs and of its factories”. He said he wants to “open the 90,000 factories and (manufacturing) plants that have been closed since the start of NAFTA”. The North American Free Trade Agreement (NAFTA) between US, Canada and Mexico came into effect in 1994 and was superseded by a UNMCA Agreement renegotiated by Trump in 2020 during his first term.

“Presidents before me just gave it away. We are taking it back”, he said.

Earlier in the day, Leavitt had painted a detailed picture of what Trump wants to achieve:

“The President envisages for the US to be a manufacturing superpower where there are American factories, American businesses, owned by Americans, producing goods that we are exporting to the rest of the world. Those revenues will stay here (in the US), they will increase wages for people here in our great country. It will ensure our national security and it will boost the morale of the American people to have thriving industries again. Think about Detroit (in) Michigan. Think about North Carolina that used to have a thriving furniture industry that no longer exists because of the globalist trade policies of the previous and past administrations.”

Another key moment that provided an insight into how Trump views the government’s role in the economy was when he referred to jobs in the government as “fake jobs”

“I think we will have a real economy, not a fake economy. It was a fake economy (until now); they were putting in all government jobs,” Trump said. Then referring to last week’s jobs reports, he added: “You saw what happened last week. It had more real jobs, and government jobs are way down. That’s going to continue. Those real jobs (the ones in the private sector) keep the country growing. You can’t have real government jobs, you have no income to pay the workers”.

This is the “minimum government” slogan on steroids.

So, what is Trump’s plan?

Trump said it is all about taxes and incentives. “I am trying to get the incentives back”.

In Trump’s view, there are two ways that tariffs can pan out:

• Either imports into the US will continue, in which case, the government will collect enough revenue (from US consumers) so as to give a tax break and incentivise US businesses, who, in turn, will lay down new factories and create more jobs.
• Or foreign companies will choose to set up shop inside the US or else American companies will grow to take over domestic production and either way, this will lead to more manufacturing and more jobs.

But this comes with a fair share of risk.

One is recession — which refers to economic output declining along with jobs losses over multiple quarters. The other is stagflation — the scenario in which growth stagnates but inflation doesn’t.

That’s because even if one presumes that all this will play out exactly how Trump wants, the process will take time. What about the interim? Trump said he is not thinking of the short-term.

“As a president it would have been a lot easier for me if I just coasted for [the next] four years. But I had a decision to make… We are going to get our jobs back.” In his view, the US is on the right path. He claims already $2 trillion worth of investments have been promised.

But the losses in US stock markets — and in the retirement corpuses — are beginning to stack up alarmingly.

Wishing away the losses as a temporary event, as Trump has been doing, may not be the best option since in a country like the US, stock market winnings and losses can have a big impact on the real economy through something called the “wealth effect”.

In short, when people’s wealth (even though notional) is going up as the stock market rises, they tend to spend more and this, in turn, can lead to actual economic expansion. The reverse can happen when the stock market falls, and people hold back purchases since they are poorer on paper.

This effect is particularly strong in an economy like the US where the market capitalisation (the total market value of all listed stocks) was, according to one estimate on Bloomberg, more than 200% of the US GDP at the peak. This means that as markets have fallen by around 9% from their peak, the effect of loss of wealth is closer to 20% relative to the US GDP.

In this regard, it helps remembering what American investor George Soros said in a 2011 interview: “…Financial markets have a very safe way of predicting the future. They cause it.”

Share your views and queries on udit.misra@expressindia.com

Take care,

Udit