Burning out his fuse up there alone, says Michael Wilson. It looks like it’s gonna be a long, long time…
So here’s my question for this month. How fast can we expect a country’s economy to grow, and what happens if it grows faster?
It’s an old conundrum, and it puts me in mind of the time, forty years ago, when I asked my boss why people complained that Japan’s trade surplus was too high? “Son,” he explained wearily, “It’s because it means everybody else’s deficit is too high. Sooner or later, all the money is going to end up in the country with the surpluses. And that’s risky for everybody, and it stops the other countries from growing as they should, in a balanced international way.”
He had a point. And what strikes me about President Donald Trump’s recent insistence that the US economy could take off “like a rocket ship”, if only the Federal Reserve would relax its tight lending policies, is that if it sounds too good to be true, it probably is. There are automatic pushbacks that will immediately come into force if the Fed lowers its interest rates – a weaker dollar, sharply higher inflation and unsaleable US bond dividends, for a start.
It isn’t clear at present whether Mr Trump understands the logic of these relationships at all. If not, we may be looking at a steep learning curve. But heck, we have to start somewhere.
The point, in America’s case, is that economic growth is already going at full tilt, thank you very much. (3.4% in third quarter 2018, slowing to a projected 2.6% in 2019. In the industrialised world, only Poland comes close to that.) America’s unemployment rate is a mere 3.8% (the euro area was 7.8% in January, and Britain 4%). US retail spending grew by 2.8% annually in January, and the US National Retail Federation is forecasting a mighty 2019 rise of between 3.8% and 4.4%.
What strikes me about President Donald Trump’s recent insistence that the US economy could take off “like a rocket ship”, if only the Federal Reserve would relax its tight lending policies, is that if it sounds too good to be true, it probably is
And by that reckoning, conventional wisdom says that the last thing it needs right now is another set of booster rockets. You could get away with 4% GDP growth (and more) in developing countries like China (6.5%), India (6.6%), parts of south east Asia, or Chile and Peru, but that’s because they all have huge untapped resources of household demand that will allow for great latitude before market saturation sets in and everyone has a fridge and a car. But America? Nope.
Let’s wind back the argument by 15 months or so, to the point where President Trump was whingeing that his brand new appointee to the Federal Reserve chairmanship, Jay Powell, was obstructing US prospects by talking about gradually raising bank rates, so as to head off what the Fed saw as an unhealthily high rate of economic growth. Trump had fallen out with his last Fed chair, the Obama-appointed Janet Yellen, for making a very similar case, but he had assumed that his own man would be more loyal.
I’ll concede that my assessment of the President’s economic and political acumen has not always been flattering
Alas, he has spent much of the last six months railing instead about Powell: last December he declared that he was “not even a little bit happy” with the Federal Reserve chairman, and he was even reported to be canvassing opinions on whether his appointee could be sacked before his first year was out? So it came as no surprise in early April when Mr Trump demanded a cut in US interest rates, together with the sell-off of the bonds which the Fed had bought back during the quantitative easing programme of the last decade. All of this, he said, would put the soaring economy into some sort of interstellar overdrive.
Now, I’ll concede that my assessment of the President’s economic and political acumen has not always been flattering. At its core, Trump’s belief is that America’s trade and diplomatic relationships are a one-dimensional matter of America versus the rest, with all power reverting to the winner of each one-on-one gladiatorial round. The concept of a multilateral growth pattern that depends on mutual and international support is alien to his zero-sum thinking. In Trump’s mind, when one country wins another country loses, and by the same amount. The international system can’t be bigger than the sum of its parts – instead, the point of the exercise is to fight for the biggest part.
Seizing the Controls
Some observers have seen Mr Trump’s insistence on escaping the bounds of fiscal gravity as part of a general need to tighten his personal control, and never mind the awkward details. His personal power seems to have grown in the last month, since the Mueller Report on Russian collusion turned out an inconclusive report that his supporters have claimed has exonerated him.
The US Supreme Court is now packed with rightist judges who the President has personally appointed. The foreign affairs departments are headed by figures who can be relied on to bash China and Iran, salute North Korea, and ignore Africa. The security agencies, with whom he disagrees on just about everything, have been all but sidelined. And the Homeland Security Secretary Kirstjen Nielsen resigned in April after only 18 months in office, just as the President announced a tougher run on the Mexican border.
So what could be more natural now than for the White House to seize control of US fiscal policy as well? Why not ditch the insubordinate Fed chairman and direct central bank policy from the Oval Office? And never mind the namby-pamby moaners who caution about the need to proceed carefully?
There are more worries here than we might suppose. The political independence of central banks is a shibboleth of the free trading world, and an important guarantor of policy stability through thick and thin, through left wing and right wing governments. I’ll grant you that Britain didn’t get formal independence for its own Bank of England until 1997, but even before that its impartiality was a touchstone of London’s international credibility. No foreigner would want to buy sterling paper unless it was backed by a solid and sensible policy committee with the freedom to make up its own mind. Would they?
Unfortunately, as we’ve said, the really bad news for us old-time Trump doubters is that America’s economy appears to be in rather good shape at the moment
So does President Trump have what it takes to steer a national fiscal policy? He certainly seems to think so. Perhaps he might like to check the experience of the Turkish president Recep Tayyip Erdogan, who has been there before him?
Erdogan, like Trump, also supervised an improbably fastgrowing domestic economy without any proper knowledge of economic principles – although that was some years ago! – but he has been having a crash course (with a capital C) in the last couple of years. On the one hand, he has recently been moved to stop his central bank from raising interest rates in an effort to halt the galloping inflation it caused – and to head off intense pressure on the Turkish lira.
And on the other, he has caused consternation by ordering the country’s small shops not to raise their retail prices in response to much higher wholesale prices (because of the aforementioned weakening currency). With unemployment riding above 12%, the population appears to have given him short shrift: at the time of writing (midApril), the Turkish leader was trying to annul local elections which he had inconveniently lost. Not even Mr Trump would be tempted to try that one.
Unfortunately, as we’ve said, the really bad news for us oldtime Trump doubters is that America’s economy appears to be in rather good shape at the moment. We sceptics may carp about the expected plunge in corporate profitability this year, and a lot of us don’t trust the Shiller CAPE ratios, which are still close to their all-time highs, and we don’t see anything good coming for US industrial output, or for its farming, as long as Trump’s trade tariffs continue to hurt the nation’s producers.
But we’d be fools to deny that, on the face of it, President Trump is having a good run of luck. The last year has been generally excellent for US equities, which are one of the Prez’s favourite measures of his economic success when the indices are rising, and one of his favourite punchbags when they’re not.
We British curmudgeons are inclined to dismiss all this, protesting that America is enjoying a nutrient-free sugar rush that’s come from the $1.6 trillion of tax giveaways that the Trump administration handed out two years ago. We dismiss Trump’s claim that his sugar pill has generated any kind of lasting or fundamental growth in the US economy. We draw comfort from the fact that a large proportion of the sugar pill has been used by Wall Street’s listed companies to buy back about $1 trillion worth of shares and debt obligations; indeed, on those figures it doesn’t look as though very much of the tax breaks have gone back into net business investment at all.
We sceptics might also add that America’s current spending boom has been substantially paid for by expanding the level of consumer debt – and, more worryingly, by a dramatic increase in high risk sub-prime borrowing. But unfortunately (for us sceptics), that wouldn’t alter the fact that US jobs are being created somehow or other. The psychology of infectious optimism is a very complex thing.
What of the bond markets?
But we digress. Where does Trump’s economic growth programme go from here? We hardly need to wonder. With the 2020 presidential elections coming up fast, and with most analysts expecting that the first phase of the Prez’s booster rockets are now approaching burnout, what could be more logical than to sweeten up the national mood with another well-timed burst of government paper ballistics? All of it paid for by the nation’s grandchildren, just as the last lot was.
That, of course, would be a political master stroke, but it wouldn’t be entirely without problems. Chinese purchases of US government bonds would slow to a halt, for a start, and that in turn would send US bond yields soaring within a few weeks. If it went on for long, or if the President doubled down against China, it might even weaken the dollar’s supremacy. (I was going to say “endanger”, but upon reflection I doubt that the euro could muster enough cred at the moment to seriously threaten it.)
I could go on, but we’d be well into the realms of speculation. So let’s move on to a few solid facts by looking at who actually owns the US government debt that Trump controls. At the end of 2018, according to data from the Federal Reserve, foreign countries held $6.27 trillion of US government debt – and that’s about four months’ GDP, by the way. Naturally, the US holds other countries’ bonds in turn, but it’s the influence patterns that I’m interested in here.
Of this $6.27 trillion, $1.123 trillion was held by China, plus another $196 billion by Hong Kong. $1.042 trillion was held by Japan, $303 billion by Brazil, $280 billion by Ireland and $273 billion by the United Kingdom. The eurozone’s other holdings are vanishingly small – even Germany holds only $70 billion, according to these figures, although Belgium, Luxembourg and non-member Switzerland are all in the $200 billion zone. (Don’t forget also the $211 billion held in the secretive Cayman Islands.)
What does all that suggests? It suggests that Mr Trump doesn’t depend on keeping the fiscal peace with Europe, nearly as much as he does with China, which holds 21% of his country’s government paper. That’s a takeaway that may yet give the President a bad dose of indigestion. Don’t lose sight of that international perspective, Donald, whatever you do.