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Trumponomics And A Global Recession

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By John Richardson on 16-Nov-2016

TrumpishBy John Richardson

FIRST of all there was no chance he would win the nomination. No chance at all.

Then nearly all the election pundits said it was almost impossible that he could beat Hillary Clinton because he had such a narrow Electoral College path to the White House.

Now we are being told that there will be nothing out of the ordinary about Donald Trump’s presidency and that, despite his campaign rhetoric, he will govern as a conventional Republican centrist.

But here is the thing. All presidents constantly worry about their popularity ratings, and Mr Trump’s popularity is built on him challenging political orthodoxy. So every time he is pulled to the centre, he could well be pulled in the opposite direction in an effort to satisfy the people who put him into the Oval Office – the 64.8% of Americans, who according to a Huffington Post poll of polls, think the country is heading in the wrong direction.

Or, of course, he could govern exactly as he said he would govern during the campaign in response to this 64.8%.

The denial must therefore stop. We are clearly in entirely uncharted territory where there is absolutely no room for complacency.

It is this same type of complacency that, I am afraid, has led some people to miss the root cause of the president-elect’s victory – the end of the Economic Supercycle. If Mr Trump hadn’t come along then another Populist politician would have emerged because of the diminished economic opportunities resulting from the retirement of the Babyboomers.

The only way forward for chemicals companies is to thus build vigorous and realistic scenarios about what the Trump presidency will mean for the global economy over the next 12 months.

One distinct possibility is that he will live-up to his speech in Gettysburg, Pennsylvania, the US, in October, during which he said that during his first 100 days in office:

I will direct my Secretary of the Treasury to label China a currency manipulator.

Pushed into a corner, China might well then respond with punitive import duties of its own.

Here is another thing to consider. China has promised to build factories, roads and railways across the 65 countries that make up China’s One Belt, One Road initiative.  These countries account for no less than 40% of global GDP.

So if America travels down the road of protectionism, it is easy to imagine many of these 65 countries lining-up on the side of China in what could become a full-blown global trade war. They, too, could also impose additional tariffs or other trade protectionist measures against US exports.

By the way, and this is a subject I shall cover fully on Friday, over the longer term if the US becomes more isolationist, we have to consider what this means geopolitically and economically. Will China win from all of this by becoming the dominant superpower and the dominant global economy?

Many people are worrying that the world in general is retreating from the post-Second World War consensus that global free trade is good for economic growth.  Through the OBOR China is moving in the opposite direction so we can say the consensus isn’t dying, it is just that its centre of gravity is shifting.


US Tax Cuts, Infrastructure Spending And A Global Recession

Back to the here and now, though, of the next 12 months. Let’s assume there is no global trade war, and that instead Mr Trump is able to keep his constituency happy by, as The Economist suggests:

Given his leanings, it is easy to imagine him resorting to soft protectionism that keeps much of the additional demand within America’s borders. He might for instance lean on companies to favour domestic suppliers, or attach local-content conditions to publicly funded infrastructure projects.

This does not mean in any shape or form that we are out of the economic woods. We have to also consider the implications of Mr Trump pressing ahead with his pledge to implement major tax cuts and a big infrastructure spending programme.

A big tax cut seems a very strong likelihood, given the Republican control of the White House, the Senate and the House of Representatives.

Big infrastructure spending seems a popular option as well, which, ironically, is what  Democrats have also been calling for, for several years.

In a report released in October last year the IMF warned that the corporate debt of nonfinancial firms in the major emerging market economies had increased from about $4trn in 2004 to well over $18trn in 2014. The average emerging market corporate debt-to-GDP ratio had also grown by 26 percentage points in the same period.

Both the IMF and the Bank for International Settlements, (BIS), the central bank for the world’s central banks, have been warning about an emerging market debt bubble for several years now.

Why has this bubble inflated? Because of US Federal Reserve monetary stimulus policies that drove-down interest rates to record lows and devalued the dollar.

Investors thus poured into emerging market government and corporate debt in the search for higher yields.

And because the dollar had been cheap, and lenders so willing to lend at very tempting borrowing costs, this lured governments and companies in the emerging markets to borrow, borrow and borrow some more in US dollars.

The dollar is now strengthening in response to the president-elect’s tax cutting and infrastructure spending plans. Investors are parking more money in the greenback in anticipation that these measures will be highly inflationary for the US economy, resullting in a big jump in US interest rates.

What is very worrying that some 40% of emerging market corporate – $340bn – is due for repayment over the next three years, according an August 2016 BIS report.

Sounds familiar? Anyone who recalls the Asian Financial Crisis in 1997 will remember that a rise in the dollar and the collapse in emerging market currencies led to widespread debt defaults. The Thai, Indonesian and South Korean economies were dragged into deep recessions. In Indonesia’s case, it took many years for its economy to fully recover.


China Could By Itself Cause A Global Recession

But what is different this time around is the role in China in all of this:

Back in 1997, China’s economy was still in the process of opening up to the rest of the world following Den Xiaoping’s pivotal 1992 Southern Tour.

Then came China’s accession to the World Trade Organisation in 2001 and the explosion in its manufacturing-led GDP growth.

Both of the above delivered great benefits to the rest of the emerging world as China sucked-in imports of commodities and components of finished goods to fuel the growth in its manufacturing.

Now, though, China is scrambling to build a new economic growth model, based on higher-value manufacturing and services, whilst also coping with the legacy of the world’s biggest-ever debt bubble.

Over the next year, therefore, notwithstanding the long term promise that a successful OBOR offers to the rest of the emerging world, China could suffer a major economic crisis that has global implications.

Here is another thing: Even if all the fears arising from the US presidential election somehow, miraculously evacuate, China by itself could be the source of a new global economic crisis.

In the interests of again warning you about the risk of complacency, and to help you plan sensibly, here is a reminder of some important data points relating to the Chinese real-estate driven credit bubble.

  • At the height of the US sub-prime crisis in 2006 the total value of US residential housing was 1.75 times the country’s GDP.
  • Right now it is 3.27 times GDP in China, and is forecast to hit 3.72 times by year-end.
  • Japan’s great property bubble peaked in 1990 at 3.7 times GDP. Shortly after that, Japanese property prices fell through the floor, losing 67%.

And from 1999 to 2008, growth in loans totalled 14%, but there was 15% growth in nominal GDP. China was therefore able to outgrow its debt crisis.

Since September 2011, nominal GDP growth in China has averaged 8.6% per annum, whilst total loans have grown by 14.5% year. China is clearly no longer able to outgrow its debts.

Pulling this all together it is perfectly possible to imagine the worst of possible worlds: A global trade war, a flight from emerging market debt back to the US dollar in response to higher US inflation, and a major economic crisis in China.