Financial markets appear conflicted about the policies of Donald Trump. In the first full week of his presidency alarm bells rang over the protectionist bias of the new White House, but equity markets eventually shrugged these off as the Dow rose above 20,000 for the first time.
In his “America First” inauguration speech Mr Trump talked about protecting America’s borders and American jobs in a relatively harsh prognosis of the United States’ economic situation, arguing that protection will “lead to greater prosperity and wealth”.
This goes against conventional economic wisdom that protectionism is bad for growth, as it invites retaliatory behaviour from trading partners causing exports and imports to suffer. However, with US growth already dragged down in Q4 to 1.9 per cent by a wider trade deficit (from 3.5 per cent in Q3) his supporters might argue that the US has little to lose from seeking a more assertive trade policy.
The withdrawal of the US from the Trans Pacific Partnership (TPP) in addition to executive orders about the construction of a Mexican border wall were both expected, and attention will now turn to the planned renegotiation of the North American Free Trade Agreement (Nafta) with Mexico likely to be in the firing line.
So far the only details about Mr Trump’s policies related to corporate tax reforms have been expressed as a way of penalising imports and boosting exports, couched as a means of forcing Mexico to pay for its border wall.
This reinforces the sense that protectionist forces have the upper hand and casts doubts on some of the motivation for tax cuts other than for trade purposes. Even so the markets still managed to draw on some of the short term benefits from such policies, especially the implications for jobs with Mr Trump also signing off on the completion of two oil pipelines which will generate further employment.
Even warnings to car makers about not shifting jobs overseas were shrugged off, with the markets seemingly content to focus on the short-term positives and ignore the longer term pitfalls of such an approach. In another sign of “America First”, Mr Trump had earlier also warned that the dollar was too strong and could prevent American companies from competing with foreign companies.
This intervention subsequently drew a clarification from treasury secretary nominee, Steven Mnuchin, who said that Mr Trump’s concerns about the strength of the dollar applied to its short-term movements, while it is still in the interests of the US economy for the dollar to be strong over the long term, a message that is consistent with the treasury department’s long-held view.
However, the fact that key officials already need to correct Mr Trump’s words so early in the new administration do not provide reassurance about what else might be in store, keeping the dollar relatively unsettled.
For the time being the markets may like the prospect of new jobs however they are generated, allowing equities to rally, but the dollar’s sensitivity shows that reservations about the broader approach remain.
In fact the main factor underpinning the markets rally may not be the Trump policies at all but the fact that the world economy looks in a much better place than it did for most of last year. To this extent the markets may be said to be rallying despite Mr Trump’s policies, not necessarily because of them.
Monthly PMI activity readings for most of the major economies point to an improving trend in activity in early 2017 well before any of Mr Trump’s policies are enacted, and even the IMF has endorsed a stronger growth outlook than has been seen for some time.
Granted some of this is in anticipation of a significant fiscal stimulus from the US, and it also assumes that monetary policy accommodation will remain in place elsewhere and that China will also maintain its fiscal support to ensure economic stability ahead of its National Party Congress in the autumn.
However, for US equity markets to sustain current highs and gain fresh momentum it therefore becomes all the more important that promises about fiscal expansion are delivered on and prove effective.
So far the measures announced by president Trump may have the byproduct of creating jobs, but this is a long way from the growth strategy envisaged a few weeks ago.
Tim Fox is the chief economist and head of research at Emirates NBD.
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