So the American people have spoken. And in a year of political shocks, this is the biggest yet.
It seems like Brexit revisited. Given that the S&P 500 fell about 5 percent over two days following Brexit, a fall in excess of that – possibly 5-10 percent seems likely in the US markets.
But just like Brexit, once the dust settles and the markets (and the people) realise the sun will still come up tomorrow, we’d expect the market to recover to reflect its fundamentals.
We have to anticipate that President elect Trump will be different to candidate Trump. He has tapped into a large portion of the population that feel that they have been left behind by globalisation – and their lived experience is that gains from trade for other countries come at the expense of their jobs and economic prosperity.
The so-called “basket of deplorables” are no longer tolerating the widening inequality; they see little upside either in their country playing the expensive role of global cop or in open trade that costs them their jobs, given it seems to them the benefits are going to those that are already wealthy.
To keep faith with his election strategy he would construct a virtual (rather than real) wall through economic policies aimed at reducing trade and protecting US industry from global competition.
But for the good of the US and global economy, he will need to balance populist economic policies with hard-edged reforms that make the economic pie larger and distribute it more fairly.
To some extent, the US can do this.
Different to Australia, which is a small, open economy, the US economy is driven by personal consumption expenditure (representing about 70 percent of GDP), with smaller amounts of government and investment spend (about 17 percent each), and a negative value for net exports (about -4 percent).
This profile suggests the US economy is largely self-sufficient, so the need to open its borders and trade with the rest of the world is less important for them. But, it’s vitally important for the rest of the world. The $18 trillion US economy imports around $A3.5BN worth of goods and services every year – about twice the size of the total Australian economy.
Much focus will be on Trump’s fiscal policies, which were laid out in his Tax Reform plan in September. He has proposed a number of significant economic and tax reforms, with the lowering of the business tax rate from 35 percent to 15 percent the most significant. Adopting such a rate would mean the US would have a lower corporate tax rate than Singapore (17 percent) and Hong Kong (16.5 percent), and half Australia’s company tax rate.
Trump has proposed optionality on depreciation or interest expenses, which would again cost the Treasury significant revenue. Optionality is anathema to treasury officials, and it will be interesting to see what happens in these discussions.
Another major proposal was a repatriation tax rate of 10 percent aimed at encouraging US multinationals to bring some of their cash holdings offshore back into the US. We would query whether this will lead to the substantial growth in the US that is intended.
For individuals, Trump has proposed condensing personal income tax from the current 7 brackets down to 3, with the top rate of 33 percent kicking in at US$225,000.
All these tax proposals will lead to a substantial increase in the US deficit and debt, at least in the short term. Even though both houses will be Republican, tensions between the career politicians and the ‘anti-politician’ new President means there is a real question whether these economic reforms will get through Congress.
This uncertainty may in fact lead to a substantial diminution of business investment. So the proposed tax changes may become secondary to the impact of this change in confidence.
And if this happens, the possible irony is that the ‘deplorables’ who are disaffected with the ‘establishment’ are likely to be the biggest losers in a far less progressive tax system.
The lessons of recent history in Western democracies is that pursuing policies without consideration of adjustment costs and distributional consequences is not sustainable. A broader sweep of history suggests that people are tolerant of change if their aspirations for economic advancement are not bull-dozed aside and if the inevitable structural adjustments costs are handled sensitively and equitably.
President Trump must be gracious in victory and reassure all that he will lead a strong and responsible administration for all Americans. The announcement of a couple of respectable appointments to his leadership team will go a long way towards this.
Despite much of the election rhetoric, the US can follow a economically and socially responsible path under his Presidency. If President Trump chooses to follow literally the path set out by candidate Trump we will all be the poorer. A less open global economy with an inward looking US is not in the long term interest of anyone.