Monday, November 14, 2016

Financial Market Snapshot November 2016

Financial Market Snapshot November 2016

Top Macroeconomic Themes

Trump wins U.S. presidential election
Donald Trump surprises the world as he wins the U.S. presidential race. The candidate of the Republican Party can count on a majority of his party in the Senate and Congress. The polls were wrong again. Uncertainties grow.
The now president-elect promised many drastic measures during his campaign. Yet the expectation that his victory would lead to a sell-off at the stock market did not happen. However, the rise of the interest rate that has been going on recently gained a new momentum.
The major policy measures of Trump’s agenda include the protection of America’s manufacturing sector and massive investment in infrastructure. Both of these items will lead to an increase of the interest rate as they can hardly be realized without a rising price level.
There are also fears that the next president will interfere with the independence of the American central bank. It is unclear how he could manage the deportation of millions of illegal residents as was promised.
Furthermore, despite many formal declarations of both sides, the Democratic opposition will not lightly give in. The dispute between the two major American parties is not free of bitterness and will poison the discourse in years to come. 
There is reason to expect more turmoil.

Profound Changes Ahead
The major concern for the financial the markets will be that the period of falling interest rates is coming to end. The United States will turn more inward and become more protectionist. The role of the United States as the dominant world power is coming to end. This change will first become manifest in the global role of the U.S. dollar.
Many of the ailments of the U.S. economy that were pointed out by Donald Trump in his election campaign are the result of the position of the U.S. dollar as the world’s major reserve currency,
The global role of the U.S. dollar brings with it the temporary advantage that deficits do not matter – neither of the government budget nor of the current account. Because the dollar serves as the major reserve currencies, foreign countries and foreign investors are more than eager to finance these deficits.
The dark side of the story is that absorption exceeds production. With imports cheap and easily to finance, domestic production is exposed to a permanent process of erosion. The structure of the U.S. economy thus has become highly lopsided with the side effect of growing inequality of income and wealth. Such a trend cannot go on forever. In the case that the change is not made in a voluntary way as it is the intention of Trump, it would have come anyway, and in this case by necessity.

Global Scenario
   Macroeconomic policies will change
  The period of expanding debt and extremely low interest rates in the major industrial countries is coming to an end. Rising interest rates are looming. Fiscal crises will become more frequent on an international scale because rising interest rates in the industrialized countries would have a global impact. Such a perspective would imply that it cannot be excluded that the world is moving towards a new international debt crisis. It is not hard to imagine what the combination of higher interest rates and U.S. protectionism would mean for the world economy.
    Protectionism on the rise
   The problem with protectionism is that it does not remain limited to a country but tends to spread even more so when the United States as the world’s largest economy acts as the pioneer of protectionism. Protectionism was already a horrible tendency in the 1920s and 1930s; in the 21st century, protectionism would be fully catastrophic. It remains to be seen whether the insight comes to the U.S. leadership that the international trade imbalances are not the result of free trade but have come about to the United States as the erosion of its manufacturing base because of the role of the American dollar as the international reserve currency.
   New role of the United States
  American isolationism would leave a gigantic vacuum in the world. When a great power recedes from its role as the hegemon, it is common that a host of new contenders will appear. The fight for succession is never peaceful. In the case of the United States as a global hegemon, its demise of this role would put the whole world under the threat of worldwide conflicts.
    Europe must strengthen its position
   As a consequence of U.S. protectionism, Europe must redefine its role in the world. Since the end of Second World War, Europe has prospered under the guidance of the United States. The North Atlantic Treaty Organization (NATO) was the common organizational structure of this system. In so far as the new American administration puts the role of NATO into doubt, Europe must find a new anchor. As of now, the European Union specific defense initiatives have been scanty. This will surely change in the future. An ironic consequence of both the Brexit and the Trump election could thus be a strengthening of the European Union. 

    Emerging Markets Scenario
  Right after the announcement that Donald Trump has gained the U.S. presidential election, the Mexican peso began to fall drastically. The deportation of millions of so-called “illegal immigrants” – most of them Mexicans – was a central part of Trump’s campaign. The incoming president, who will officially be inaugurated on January 20th, 2017, has also announced that he would renegotiate the North American Free Trade Agreement (NAFTA) with Mexico. Should the new president really pursue his announcements, Latin America might reconsider its international economic position and move towards own trade arrangements which might even lead to a strengthening of the MERCOSUL.
  Brazil’s economy is not yet out of the woods. It is not just a cyclical downturn that is happening. The fall of the economic growth rates is rather a symptom of deep-rooted structural distortions. The standing of the present transitory government that came to power after the former president was ousted, is too weak for a forceful structural change. As of now, the activity of new government is limited to install some measures of fiscal restraint. Fiscal adjustment is a necessary but not a sufficient condition for economic recovery.
   China builds a global network
   Irrespective of the political turmoil in American, the ongoing bloody conflict in the Middle East and the refugee crisis that afflicts Europe, China is steadily working on its global trade and investment network – the New Silk Road that extends from Western Europe to South East Asia. The world’s economic center shifts from the West to the East. Step by step, China is extending its sphere of influence and its path to prosperity seems to be unstoppable. Different from many other  take-offs of developing countries, the rise of China is not only based on the mobilization of labor and capital as factors of production but also on a rapid acceleration of its capacity for technological progress.
   A growing part of Africa falls into the sphere of interest of China. Africa’s space and natural resources attract Chinese business interests. Free of the stain of a colonial power, China is welcome in many parts of Africa as the chosen partner of industrial development.

 Antony P. Mueller
November 14, 2016