What to make of Trump’s economic intentions?

The new American President's economic ideas remain vague at best. Only one thing seems to be certain: If he does what he says, he will face unintended consequences. A column by Charles Wyplosz.

Charles Wyplosz
«Much of what Trump said is undoable. »

The short answer is that no one knows, Trump included. His campaign pledges have been all over the place, often incoherent when not shocking, self-contradictory and so far out of the usual that it is most unlikely that he will enact more than a fraction of what he said.

He seems determined to try and develop a protectionist program. The law gives a US President considerable latitude to do so, which is why the Mexican authorities are so worried. He has already started to put some car manufacturers under pressure, with some success, it seems. This may seem impressive but the US car industry is spontaneously protectionist. They would dream of keeping cars manufactured abroad out. Yet, they will realize that many parts that they assemble in the US are manufactured abroad so, eventually, they may be victims of their own zeal.

Trump has promised to denounce the North American Foreign Trade Agreement (Nafta) that binds Canada, Mexico and the US. That would be a huge blow to free trade. But the US is part of the World Trade Organization (WTO) and cannot freely slap tariffs. Trump could think that he can, which would result in formal complaints to WTO’s tribunal. More generally, any measure to harm imports would end up in front of the WTO, which would authorize retaliatory measures, and that would hurt the US. Many US corporations live off exports and many more rely on parts imported from all over the world, including China. Expect these firms, which include the high-tech sector, to very vigorously lobby against protectionist measures.

Infrastructure and interest rates

Trump also pledged to strongly expand public spending on infrastructure. Over the past years, many reasonable people have been calling for just that. They argued that the US suffers from obsolete and dilapidated infrastructure, and investment would bring many benefits. It would boost the productivity of the US economy. If financed by borrowing, it would support the return to strong growth. Finally, borrowing at near-zero interest rates to carry out productive public investment is a good financial move as the returns would pay for themselves and more. This is one key reason why the financial markets have been rather exuberant since the election. Yes, but that was then. The US economy has now recovered from the Great Financial Crisis and its labor market has reached full employment, finally. More activity could well trigger rapid rises in wages, which in turn would fuel inflation. This would force the Fed to raise the interest rates more quickly and further up than currently anticipated. Not only would it raise the costs of borrowing and make the operation much less attractive, but also it could well crowd out the private sector, which would find it harder to hire employees and to borrow. It should also strengthen the dollar and therefore hurt exporters.

An interesting question is why Obama did not do it five years ago, when the US was still growing quite slowly and when there was much slack in the labor market. The answer is that the Congress, dominated by Republicans, did not let him. Will they let Trump do it? The Republican Party is famously opposed to more public spending and to debt accumulation. There are many such divergences between the core beliefs of the Republican Party and Trump’s electoral promises. Initially, the new President will enjoy a honeymoon with his party, especially since many congressmen owe him their own elections. Sooner or later, however, the honeymoon will end and core beliefs are bound to resurface. True, Ronald Reagan’s honeymoon lasted over his two terms in office but he was true to the party’s core beliefs and his natural charm did the rest. Is Trump charming?

The public deficit would further deepen if Trump were to cut taxes as promised, chiefly to the advantage of the higher-income people. This would not please too much his core electorate, the lower-income people. Any weakness in opinion poll ratings would be quickly exploited by Trump’s formidable list of opponents: the Republican Party leadership, the Democrats and, last but not least, the intelligence community that he has trashed recently when he was rejecting its findings on Russian hacking.

Trump has also promised to deregulate the financial sector. After the financial crisis, the Dodd-Frank act has considerably tightened banking regulations, drawing the lessons from a pretty scandalous crisis. Under the guidance of the Basel Committees, all developed countries have adopted similar regulations. Why would Trump undo this impressive effort? Of course, the financial community did not like that and he has appointed several ex-Wall Street people to key economic positions, while blaming his opponent of being captured by Wall Street. His motivations are murky, but let’s assume that he goes ahead with this promise, which is another reason why markets have reacted favorably to his election. What would a repeal of Dodd-Frank do? One possibility is that the US deregulation triggers similar changes elsewhere. That would be worrisome, because the same causes produce the same effects. Another possibility is that other countries keep – and possibly deepen – their financial regulations. This would make the US markets a more lucrative but comparatively dangerous place to be. It is unclear which financial center (New York or London, say) would benefit.

Undoing Obamacare isn’t easy

And then there is Obamacare. It is far from perfect and horrendously complex, partly because Obama spent two years negotiating with a very hostile Congress. He had to make concessions, which were driven as much by political tactics as by economic logic. Now more than 20 million Americans have health protection. While some are protected against their (misguided) will, most are very pleased. It will be difficult to simply do away with Obamacare. Indeed, it is mind boggling that health insurance, available to in most developed countries, is an issue in the world’s leading economic power. Trump has repeatedly said that he has ideas for an alternative. He has not spelled them out.

Much of what Trump said is undoable. If he really tries, he will face very unpleasant consequences. He also may be restrained by the famous «check and balances» of the US system of government. It is not clear either that he ever meant what he said. His experience so far has been that of a salesman who tells customers what they want to hear, and we know that truth is irrelevant for him. We may come to appreciate this character trait.