expectations for trump economy could be disconnected from reality
Last Updated : GMT 09:03:51
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Last Updated : GMT 09:03:51
Almaghrib Today, almaghrib today

Expectations for Trump economy could be disconnected from reality

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Almaghrib Today, almaghrib today Expectations for Trump economy could be disconnected from reality

The dollar has appreciated by 7 per cent since Donald Trump’s election win
New York - Arab Today

The Federal Reserve duly delivered on rate tightening expectations last week by raising interest rates by 25 basis points, taking the Fed funds target rate to a 0.5-0.75 per cent range. However, in a surprise move, the "dot plot" projections for 2017 showed the Federal Open Market Committee (FOMC) members projecting three further rate hikes next year, which was up from the two hikes anticipated in September. This gave rise to a broad strengthening by the dollar, continuing the appreciation trend in place since Donald Trump’s election victory last month.
The FOMC’s statement said the labour market has continued to strengthen and economic activity has been expanding moderately. The Fed also said that market-based measures of inflation compensation have "moved up considerably."
However, at face value the relatively small adjustments to growth and inflation forecasts do not appear to justify the Fed’s more hawkish tone. The median forecast for US 2017 GDP growth was revised up to 2.1 per cent, from 2 per cent, while the unemployment rate forecast was revised down a small amount to 4.5 per cent, from 4.6 per cent. Absent more aggressive growth and inflation forecasts, the suspicion is that the Fed is beginning to buy into the likely impact of the Trump stimulus plan. The danger, however, is that with the markets also discounting a substantial fiscal stimulus, there could be a disconnect developing between what markets expect to happen and what the reality is likely to be.
The main feature of the Trump fiscal plan is for a stimulus worth between US$5 trillion and $8tn over 10 years, broken down between tax cuts of $4-6tn and spending increases of $1tn. Trump wants to repatriate corporate profits (there are thought to be $3tn of corporate profits held abroad) with the proceeds of that repatriation likely to be used to cut the corporate tax rate from 35 per cent to 15 per cent. Personal taxes are also to be trimmed, with the number of tax brackets reduced from seven to three. $550 billion of infrastructure spending is also expected annually for 10 years, while deregulation is also widely seen by markets as likely to be on its way, which should also be positive for growth.
However, much will depend on how much of the new stimulus will be implemented and over what time frame. The US economy is likely to start next year relatively slowly, consistent with the recent pattern in which first-quarter data has often disappointed. With the dollar having also appreciated by 7 per cent since Mr Trump’s election win, and with bond yields having risen by almost 100 basis points, the risk is that these market moves will also dampen growth, before the Trump plans have a chance to boost it. If the market then makes little progress over tax cuts and spending increases by late in the first quarter, there is ample scope for the markets to correct.
There are good reasons to think that policy implementation will be harder to achieve than recent market moves would imply. Congress may not be inclined to support all of Mr Trump’s plans, especially in regard to spending increases, given concerns about the budget deficit that already stands at 3 per cent of GDP. There are already strong arguments that infrastructure spending increases should be delayed until 2018 unless there is an imminent threat of a recession, which seems unlikely. Other complicating factors are that other Trump policies are relatively unfriendly to growth, including biases towards protectionism and against immigration. Any geopolitical uncertainty that arises after Mr Trump’s inauguration, which seems entirely possible, would also add to uncertainty.
Such a wide range of uncertainties about the economic outlook does not lend itself to certainty about where interest rates are likely to go. Although market assumptions will probably now veer towards the three hikes projected by the Fed’s dots next year, the risks around these are significant and relatively symmetrical depending on what Mr Trump actually delivers. Downside risks relate to policy implementation delays and to the amount of fiscal stimulus delivered, which are likely to keep the Fed cautious. However, if Trump moves quickly on his agenda, then overheating could also become a risk. With the labour market already at full employment, a sudden fiscal boost could see inflation rise sharply causing the Fed to consider making bigger moves.

Source: The National

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