Sunday 11 December 2016

Making America Great Again and Its Impact to Asia

I delayed writing about the impact of Trump's victory in the US presidential election, primarily because I wanted more time to observe his policies. However, since US Fed is meeting this week to discuss interest rate rise, I will pen down my current thoughts. Things will change, as Trump might adjust his policies after he becomes president.

Since Trump's surprise victory, stock markets have rallied strongly. Part of the reasons has to do with some of the positive policies proposed by him, such as infrastructure spending, tax cuts, reduced regulations on banks, etc. If enacted, these policies will increase aggregate demand and speed up the recovery of the US economy. This is a refreshing change, considering that we have had 8 years of loose monetary conditions and the economy has not improved much since the end of the Great Financial Crisis. In fact, risks have increased in some areas of the economy, as described in What Have We Got After 8 Years of Easy Money?

However, Trump's proposed policies are not all positive. Chief concerns among his policies are his protectionist stance and worries that increased infrastructure spending would lead to inflation and interest rates rising more rapidly. Although increased infrastructure spending and tax cuts would strengthen the US economy, if US adopts a protectionist stance and raises import tariffs against other countries, other countries would not benefit from increased US demand as much as previously. This is especially so if other countries engage in a tit-for-tat retaliation against US protectionist policies. Furthermore, given the rise of anti-globalisation sentiments in many developed countries, the risks of increasing protectionist policies and trade wars cannot be ignored. Thus, while the US stock market has valid reasons for rallying, it is a little strange for other stock markets outside US to cheer when protectionist policies have beggar-thy-neighbour effects.

It should be highlighted that US policies have significant impact on other countries, as the world economy is mostly centred around US. US is a major export destination for many countries. Thus, when US decided not to proceed with membership in the Trans-Pacific Partnership (TPP), the TPP is said to be practically dead. When US pulls out of TPP, the net effect is equivalent to all other 11 members of TPP pulling out at the same time. In contrast, Brexit is only one country pulling out of the European Union. Had it been Singapore which pulled out of TPP, the Singapore stock market would have dropped, not risen as it had after Trump's victory.

Although a protectionist trade wall can limit economic benefits spilling outside of US, it does not restrain financial tightening from spilling into other countries. Given the unimpeded capital flow around the world, increase in US interest rates will lead to increase in interest rates in other countries as they try to hold back capital from leaving the country. Not only that, US dollar will rise relative to other currencies as investors get attracted to the better economic prospects in US. Companies that hold large amounts of US dollar debt are especially vulnerable. During the Asian Financial Crisis in 1997/98, regional currencies depreciated significantly against the US dollar (due to unsustainable trade deficits) and companies with large US dollar debts collapsed.

When news of Trump's surprise victory initially filtered through to the markets, stock markets fell precipitiously before rebounding equally sharply. Part of the reason is the reconciliatory tone in Trump's victory speech, which gave the markets hope that he might not go ahead with some of the more controversial policies proposed during the election campaign. It is interesting to note that the markets are willing to discount the negative policies but continue to give full weight to the positive policies. Whether Trump is able to implement the positive policies in full can only be seen a few months after he becomes president. If, for budgetary or political reasons, the policies cannot be implemented in full, the markets will likely be disappointed.

Thus, I am not optimistic about the recent rally in the Singapore stock market. It might continue for some time, but a few months into Trump's presidency, the markets will have a clearer picture of what he can or will do. Also, the interest rate path will become clearer by then.

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  1. what is the hindsight('excuse') on the reason of recent rally on SG market?

    1. There is no hindsight or excuse. There is excessive liquidity in the market. See What is Holding Up US Share Prices? for more info.