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The inconvenient truth

Tom Stevenson  |  01 Mar 2017Text size  Decrease  Increase  |  

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Putting America First may sound like a good political sound bite in 2017 but it may not be so catchy when US companies are laying off workers and consumer prices are rising, Fidelity's Tom Stevenson says.


There is a glass half full view of the Trump Presidency which has won the majority of investors' attention since November. It focuses on infrastructure spending, tax reform and deregulation, and it can take the credit for the S&P 500 hitting a series of new highs in the wake of last year's election.

There is also a half-empty assessment and it is this more pessimistic reading which has gained ground during the investment world's dry January. This view gives more weight to the risks than the opportunities implicit in the Trump approach.

The biggest of these is the new President's long-standing rejection of free trade in favour of an aggressive protectionism.

PayPal founder and Trump supporter Peter Thiel said people should take the President seriously but not literally. Believing him, investors have been happy to accept that wild talk of heavy tariffs on Chinese and Mexican goods was just a metaphor for a saner trade policy.

Now they are entertaining the thought that the President might actually mean what he says.

No-one should be surprised by Mr Trump's negativity on trade. The language of his inaugural address may have been forthright but it was not new.

In a recent note exploring the possibility of a US-led trade war, Goldman Sachs put together a useful collection of quotes from the President dating back to the 1980s when he was blaming the Japanese for pretty much everything he lays at the door of the Chinese today.

In his 1987 book The Art of the Deal, he said: "What's unfortunate [about the Japanese] is that for decades now they have become wealthier in large measure by screwing the United States with a self-serving trade policy."

Then in 1999 he warned: "If other countries aren't going to treat you fairly ... they should suffer the consequences."

No-one should think either that the Trump doctrine really differs from broader US policy since America emerged from the Second World War as the dominant force in the global economy.

America has never tolerated a rival to its economic hegemony, squashing threats to its leaderships from, first, the European imperial powers, then the Soviet Union and Japan. China is just the latest rival to find itself in the US's sights.

Trump's position on trade is misguided for two reasons. First, because its basic assumption that economics is a zero-sum game with equal numbers of winners and losers is wrong.

It may be hard to accept this in the hardest-hit parts of America's rust-belt, but the US has been a significant beneficiary of the globalised, free-trade world order that has prevailed for the past 70 years.

Its investment has not been a charitable donation but a far-sighted act of self-interest.

It is true that China's relatively-improved economic position has been staggering over the past 40 years. According to economist Jeffrey Sachs, China's share of global GDP was 2.3 per cent in 1980 compared with America's 21.9 per cent. Today, the equivalent shares are 18.3 per cent for China and 15.4 per cent for the US.

Measured on a per capita basis, China's economic output has grown from just 2.4 per cent of America's to 39 per cent over the same period.

But that ignores the benefits that have accrued to most Americans during the past 37 years, a period of stability, peace, and unprecedented prosperity.

Globalisation has not come without its costs but it is wrong to focus exclusively on these and to ignore the real, tangible benefits of America's engagement with the rest of the world. To pretend that other countries have caused Trump's "American carnage" is to disregard the facts.

It ignores the inconvenient truth that trade with Mexico, for example, is a two-way street. Mexico bought 16 per cent of America's exports in 2015. The US has a trade surplus with Mexico in services, not a deficit.

Something like 40 per cent of the value added in US imports from Mexico actually originated in America. Many Mexican exporters are owned or controlled by US companies.

Trump's trade policy is not just misguided, it is also doomed to fail. A trade war with China would have no winners, certainly not America. When the US forced Britain to give up its empire, it was pushing on an open door. We were bust.

When it pressurised Japan to revalue its currency in the 1980s, it had the whip hand because Japan was dependent on the US for its military security. The Soviet Union was overstretched militarily and financially. It was a soft target.

China, on the other hand, already has a larger economy than the US, its population is four times as large and it still owns $3 trillion of US debt, even after spending $1 trillion supporting the yuan over the past couple of years.

The Trump administration knows this. Which is why it has so far held back from the most drastic weapons in its trade arsenal. It has not branded China a currency manipulator (despite a campaign promise to do this on day one). It has not yet moved to implement broad-based tariffs.

We should take some reassurance from this restraint. It suggests at least some understanding of the bad economics of trade conflict. Goldman Sachs calculates that the mooted 35 per cent tariff on Mexican goods and 45 per cent on those from China would be equivalent to an overall 11 per cent tariff on all US imports.

With a tenth of the US inflation basket linked to imports, such an effective tax would certainly lead to higher inflation and interest rates in America. It would hurt American consumers as much as anyone.

If Mexico and China retaliated in kind, US GDP would fall by nearly 1 per cent by 2019. Boeing estimates that its exports to China support 150,000 US jobs.

Putting America First may sound like a good political sound bite in 2017. It may not be so catchy in four years' time at the next election when America's global companies are laying off workers and consumer prices are rising.

Investors who have recently pushed the S&P 500 above 2,300 may not wait that long to cast their vote.

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Tom Stevenson is an investment director with Fidelity International. This is a financial news article to be used for non-commercial purposes and is not intended to provide financial advice of any kind. Opinions expressed herein are subject to change without notice and may differ or be contrary to the opinions or recommendations of Morningstar as a result of using different assumptions and criteria.

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