Trumps economic policy caught in quicksand. It is good for the US economy

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Kim Asger Olsen

Kim Asger Olsen

Partner

Back in the heady days just after Trump’s election, the markets reacted as if the economic policy would be changed significantly. It appeared that a far more expansive fiscal policy was on its way, pulled by infrastructure investments (yes, and that wall), and helped along by generous tax cuts (for the already wealthy and for companies).

Now, 6 months after the inauguration, the markets have all but given up on Trump and his policies, economic and otherwise.

The debacle over “Obamacare”, embarrassing as it is for the Republicans, has exposed the deep divide inside the party. One wing, formerly known as the “Tea Party”, seeks ideological purity and wants a minimal government, minimal taxes, a forever balanced federal budget and the end to all “entitlement programs” such as Medicare and Medicaid.

The other wing, considered the “moderates” are more traditional conservatives who are willing to compromise ideological purity in the interest of creating policies that have a broad support, even from Democrats.

And in between we have the mainstream Republicans, who appear mostly interested in keeping their positions. Alternatively, they are not interested in taking responsibility for anything that may be unpopular with their local voters back home.

Given that Obamacare seems nearly impossible for Republicans to kill, the markets rightly ask why on earth one should expect that major fiscal policy changes are on their way.

If we take a brief look at what seemed to be the main pillars of trumps economic policy, it does indeed seem that we are not in for a lot of success in that area either:

Major infrastructure spending: Plans have not even been outlined yet and it appears highly unlikely that anything will happen in the coming fiscal year.

That Wall: No plans outlined. The Mexicans are oddly uninterested in paying for it.

Corporate tax reform. Trump has suggested a reduction of the corporate tax rate from 35 to 15% while widening the tax base. Could be a good idea, but is dependent on a

Tax reform for personal taxes. While it is not obvious, the “Obamacare repeal” has mainly been about how to reduce federal spending enough that there would be room for income tax cuts. True to form, the tax cuts would mainly favour the highest incomes.

That leaves us with a massive increase in defence spending. Trump has hailed his initiative to increase Pentagon’s budgets as nearly revolutionary. Except that 90% of the increase was already contained in Obama’s last budget.

What is left is a lot of shifting existing spending around between the departments. And some fiddling with Federal regulation that so far mainly has favoured the banks.

So the markets can take some comfort in the fact that the economy is humming along and that as long as status quo is not changed significantly, economic growth could continue for quite a while.

There are, however, a few places it would be useful to look in order to gauge the situation.

First, wage inflation. Fed Chair Yellen raised the issue at her recent testimony to the congress. Given that the US economy has been growing since 2010 and unemployment stands at 4.5 per cent, it would be only logical if wage inflation was coming. The tangible signs are however only few and far between. One explanation could be that the participation rate is growing. While a lot of potential job seekers were discouraged in 2010-2015 we may now see that people who had given up finding a job begin to look and it appears relatively easy to find a job across the US of A.

That could put off inflation for an extended period. Inflation expectations have remained limited.

Next, business investments: US corporations have been working on their profitability by cutting back excess capacity where possible. Investors, hungry for yield, have been happy enough pressurising business leaders into paying high dividends where an increased concern for the long-term health of the business would have led to more investment.

The negative cycle for investments may be about to turn. The bond markets are resigning themselves to the end of the QE, with long term yields moving higher in fits and bounds. Investors will see yield possibilities in good old-fashioned government bonds. Banks are more eager to provide credits than for the last several years. With demand growing, investments will be needed. And it will not be a shock to the stock market just now.

Unless of course the man in the White House in frustration decides that the US should introduce tariffs on steel import or what not.

In that case, all bets are off.