It is incredible that while the US is surely in the midst of the biggest constitutional crisis since Watergate, markets are seemingly oblivious, even sanguine, with barely a flicker or pulse observed.
The US government is hardly functioning at present — and this is the supposed leader of the “free” world. DC is in uproar/paralysis, with the Donald Trump White House only slowly rolling out nominations/confirmations into key positions in the administration. And yet, nada from a market perspective. How come?
Well, first I guess the plus is that there is a positive backdrop of a recovering US and global economy, set in motion well before Trump’s victory back in November, and laid in train by the accommodative policies of the Fed, ECB and other central banks and, while Trump would be loath to admit it, also by the policies of the Obama administration.
I would add the fiscal/monetary stimulus of China from mid-late 2015, which is now being felt across Asia, and indeed globally, helping to anchor commodity prices — important for emerging markets.
Second, I guess there is an assumption that even in a scenario where Trump is removed, in VP Mike Pence there is a more measured, cautious and conservative replacement who could surely pick up the reins and return the US to default settings. This would allow normal service to resume in terms of the functioning of US institutions.
The assumption is that by rowing back from Stephen Bannon’s revolutionary agenda of draining the swamp, a Pence presidency would look to work with the US system to ensure delivering on a pro-business agenda of tax cuts, infrastructure spend and deregulation.
I guess a question therein is how long any impeachment process would take, and how damaging/destabilising that all could be in the intervening period. There is also the concern about how far the Trump presidency has undermined chances for bipartisan co-operation under a Pence presidency.
Surely all this uncertainty emanating from Washington risks a crisis of confidence for the US economy, with consumption and investment faltering as a result, taking the nascent recovery off track (with the soft data pulling back down the hard data). But I guess in this scenario the script has already been well rehearsed, with the Fed likely to respond by stalling its rate hiking/policy normalisation process.
Third, and back to China, the Xi Jinping administration is stepping into the global leadership role vacated by Trump, with a defence of the globalisation/free trade mantra, in cahoots with Europe and Asian economies. Also, the One Belt, One Road initiative helps Beijing to push forward a constructive, global market agenda.
Meanwhile, Xi’s global leadership and earlier stimulatory measures have eased the fears that dominated early 2016 of a looming China crash. Few people now see this as a risk this year, not before the leadership change due at year end. So China is now a force for stability on global markets, set against the instability emanating from the US. Further, look at the constructive role played by China over the crisis in North Korea, seeming to address US concerns, ready to work with Washington in a co-operative way to avoid a military clash, but also to use any leverage it has over North Korea to play off against the protectionist impulses of Trump.
Fourth, European politics is looking in much better shape after victories by centrists in the Dutch and French elections, and by the CDU in local elections in Germany, boding well for Angela Merkel’s re-election for a third term in September. I would argue that what we are seeing is a positive reaction as European voters look at the chaos resulting from populism in the US, and uncertainty around Brexit for the UK, and vote with their feet back to more mainstream candidates. They looked over the populist precipice and decided, no we don’t want that; Europe might have its problems, but we do not want populist administrations at home, we prefer tried and tested liberal market democracy, and favour multilateral solutions to global problems.
The European economy, meanwhile, is in recovery mode, as reflected by a spate of strong first-quarter real GDP prints posted this week across emerging Europe in Poland, Hungary, Romania et al. A recovering European economy and falling unemployment should be the best foil against populism and extremist policies.
It is fortunate that the instability and uncertainty emanating from the Trump administration are coming at a time when the global economy is in relative rude health, when China seems willing to assume greater leadership and when Europe is looking more solid. I guess the question though is how much longer the daily chaos and crisis out of Washington lasts, whether there will be a drawn-out impeachment process, and whether and how all this pans out on the US economy.
Timothy Ash is senior sovereign strategist at Bluebay Asset Management. The views expressed here do not reflect the opinions of all portfolio managers at BlueBay or the views of the firm as a whole.
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