9 November 2016
by Stephen Koukoulas
Financial markets have told the world what they think of the election of Donald Trump as US president – and it is not good.
Global stocks, both the futures and in the physical market, started to weaken when the votes started hinting that Trump might get close. They tanked when it was clear Trump would probably win.
There was extreme market volatility as the updated tally of votes were posted minute by minute but with an average fall of around 4% (at the time of writing), the value of global stocks has already dropped around US$3tn in value. US stock futures fell around 4.5%, throughout Europe and the UK stocks are down around 4% to 5%, while Japan is down over 5%. These numbers are fluid, but the verdict and direction are clear.
This market reaction reflects the fear and uncertainty surrounding how president Trump will run the economy, frame the budget and operate on the international stage. As has been well analysed, there are irreconcilable differences in the economic policy aims of Trump – lower taxes and a smaller deficit do not go together, as an example.
“Make America Great Again”, the slogan from the Trump campaign, involves the US raising barriers to international trade in an effort to protect US industry. If Trump follows through and works to restrict trade, especially with China where the US runs a huge trade deficit, there is a genuine threat that the global economy will stall, perhaps falling back into recession. The decades of productivity and income benefits from strong global trade risk coming to an end. Periods of weak global trade are inevitably associated with sluggish growth, stalled productivity and falling living standards.
To think that other countries will not retaliate against the US with their own trade restrictions is to ignore history. There seems little doubt that US multinationals and exporters have as much, if not more, to lose more than the protected industries in the US will gain. The world economy will be weaker as a result of Trump’s policy agenda.
If the Chinese economy, which is the trading powerhouse of the world, suffers from a slump in global trade, the fallout will be far and wide. Commodity markets will falter, the services sector will weaken and countries that have significant economic links to China will obviously be under pressure. There will be a shock that will be felt around the world.
Financial markets know this, which accounts for the price action in stock markets in the wake of the election result.
The other part of the market reaction has been in the bond market where yields have plummeted as they usually do when risk of recession increases. Investors have aggressively sold stocks and moved it into the relative security of the bond market. The US Federal Reserve, which was on the brink of hiking interest rates on the back of an improving economy, is now likely to sit until it sees the fallout from the election result – at least according to market pricing. Indeed, some smart money is pricing in a risk that the Fed will have to ease monetary policy into 2017 in reaction to a weaker economy.
Global interest rates and bond yields have followed this lead as the inevitable global economic slowdown is set to unfold. Expect central banks around the bulk of the world to implement easier monetary policy in the months ahead.
If the financial markets are correct, a Trump presidency will be bad for economic growth and bad for global trade.
The markets might be wrong. Sometimes they overreact to news events. As a result, there could be a market rebound when the dust of the election result settles and the policy reality confronts Trump, including dealing with the tensions within Congress, even though the Republicans will control both houses. Perhaps some of the policy proposals will not be delivered. Clearly it is too early to call.