Markets have forgotten how to price political uncertainty in recent decades, as I discussed on Monday. They have become dependent on central bank handouts, and assumed that globalisation and trade agreements are permanent features of the economic landscape. Today, they are having to relearn, very quickly, what has been forgotten.
My post a year ago on the rise of the populists aimed to highlight the paradigm shift underway. I argued that outsiders such as Trump and Sanders would probably play a major role in the US Presidential Election, and that this political development would have economic impact:
“The economic success of the BabyBoomer-led SuperCycle meant that politics as such took a back seat. People no longer needed to argue over “who got what” as there seemed to be plenty for everyone. But today, those happy days are receding into history – hence the growing arguments over inequality and relative income levels.
“Companies and investors have had little experience of how such debates can impact them in recent decades. They now need to move quickly up the learning curve. Political risk is becoming a major issue, as it was before the 1990s”.
Perhaps unsurprisingly, many readers were amazed at my suggestion that Trump could become the Republican nominee. They were also somewhat shocked by the idea that populism might start to have a major impact on trade agreements. Yet last week’s presidential debate featured Trump as the nominee, and both candidates argued for major changes on trade policy, as the New York Times reported:
“That neither candidate came to the defense of trade and trade agreements underscored a remarkable feature of this presidential election: Both major parties’ nominees are running against such pacts, despite the long pro-trade tradition of the Republican Party, and Mrs. Clinton’s past endorsement of the signature trade agreements of her husband and her former boss, Mr. Obama”.
More recently, my suggestion in March that a Brexit vote “was becoming more likely”, also surprised some readers. But today, many companies and investors are becoming uncomfortably aware that the Brexiteer demand for immigration controls make it likely that the UK is heading for a “hard Brexit” in Q1 2019 – where it leaves the Single Market and maybe even the Customs Union.
It is, of course, difficult to envisage a world where populists rule. But the Brexit result highlights that “business as usual” is no longer the only Scenario that needs to be considered:
Even though Sanders did not win the Democrat nomination, he is still a very powerful figure, and a Clinton presidency would no doubt be far more radical in certain areas as a result
A Trump presidency would almost certainly be very different from the Reagan-Bush-Clinton-Bush-Obama continuum of the past 35 years, with major policy changes – such as the renegotiation or scrapping of many trade agreements and a possible withdrawal from NATO
Similarly, Europeans and others need to consider what might happen in Italy if premier Matteo Renzi loses his December referendum and resigns; or in France if Marine le Pen becomes President next year; or in Germany if the Alternative für Deutschland does well in next October’s national elections – where they might gain enough seats to make a continuation of the current “Grand Coalition” between the CDU/CSU/SDP impossible.
Even in the UK, where most pundits regard the populist Labour Party leader, Jeremy Corbyn, as unelectable due to his radical socialist and pacifist agenda, it would only take a breakdown in the Brexit negotiations for his chances of gaining power to rapidly improve.
The key conclusion is that we are living in very uncertain times.
Companies and investors therefore need to prepare very carefully for every possible outcome – even if these seem unlikely today. For example, most investors today assume that the Federal Reserve will always support US stock markets. But if Trump were to win next month, it is likely that this policy would change very quickly.
On Friday, I will discuss why these developments are taking place.