Trump = global recession?

Trump has been cited among the top 10 global risks: clearly, he isn’t just a risk to the US, but to the world. Currently, many economies are in a fragile state. In fact, it is quite foreseeable that Trump being elected in November could lead to a global recession.

Given the uncertainty around the specifics of Trump policies, an analysis on the extent of a Trump impact on the US economy is futile. Instead, I have focused on very likely impacts of a Trump presidency and its potential impacts on fragile global economies.

Two very likely Trump effects

1. Uncertainty

Certainty is the cornerstone of economic growth. Businesses want to know how and which government policies will impact them and in what way. However, uncertainty and contradictions are the only things consistent in Trump’s rhetoric and policies.

Trump’s authoritarian style and unpredictability alone could sink business and investor confidence and undermine economic growth.

2. Protectionism

Despite the many contradictory positions that flow from Trump’s mouth, one thing he has been consistent on is protectionism.

He has heavily criticised America’s free trade agreements and has called to modify or end America’s involvement in many of them (e.g. NAFTA). He has even called the TPP as a ‘rape of our country‘. Trump has also threatened to pull the US out of the WTO. Furthermore, it is also quite likely that China will be branded as a currency manipulator under Trump, with 77% economists surveyed predicting so. This may lead to a trade war, sparked off by tariffs being imposed on Chinese exports.

It is clear that if Trump implements protectionist policies, it will reduce export trade of economies, which would undermine economic growth.

 

Even accounting for just these two likely Trump effects, the possible impacts on global economies are severe. Below, I look at the countries with strong chances of falling into recession as a result of these Trump effects.

 

Countries in trouble

Japan (3rd biggest economy – as measured by nominal GDP*)

*Nominal GDP measured by IMF 2016

Screen Shot 2016-07-28 at 10.34.40 pm.png
 Source: ‘Japan GDP Annual Growth Rate, Trading Economics

Since 1991, the Japanese economy has been stagnating. As seen from the graph above, the growth in the last decade has hovered around 0% with recessions in 2008/09, 2011/12 and most recently in 2015.

In response to this stagnation, Abenomics was introduced in 2012 with the goal of stimulating the economy. One of the key pillars of Abenomics is the depreciation of the currency, achieved through negative interest rates (currently at -0.1%). By driving down the currency, this was designed to make Japanese exports more attractive to foreign consumers, which would in turn drive economic activity.

However, the Japanese Yen has become a safe haven for investors in times of economic uncertainty. The resulting appreciation of the currency goes directly against Abenomics. Most recently, this was evident post-Brexit, nearly bringing the Yen to pre-Abenomics levels (seen in the graph below). Such was the appreciation of the currency, that the Bank of Japan considered intervention in the currency markets.

Screen Shot 2016-07-28 at 10.00.05 pm.pngSource: ‘Yen Brexit Surge Seen Testing 95 in Threat to BOJ Stimulus Goals‘, Bloomberg

The uncertainties and protectionist fears of Brexit that drove the rise of the Yen will no doubt manifest themselves again on the news of a Trump presidency.

However, this time, it may be worse for Japan. Given that a Trump risk will come from the US, the USD will be seen to be less of a safe haven (as was the case in the GFC). This means that the JPY will become even more attractive for investors as a safe haven asset, which will drive a sharper appreciation compared to Brexit. A Trump presidency is exactly what Japan doesn’t need, and could lead to the failure of Abenomics and another recession for Japan.

United Kingdom (5th biggest economy)

Screen Shot 2016-07-28 at 7.59.24 pm.png
Source:Brexit to Spark U.K. Recession, Forecasters Say, Bloomberg

Brexit has been a bombshell on UK and European economies. The IMF has labelled Brexit as causing a “substantial increase in economic, political, and institutional uncertainty”.

The graph above sums up the impact of Brexit. Currently, the risk of a recession for the UK is at 40%, up from 18% in June. There is still the ongoing uncertainty of how and when Brexit will be implemented. A Trump presidency will only exacerbate uncertainty regarding the global economic conditions.

Forecasters believe that a recession may kick in at the turn of the year. Given that the presidential election is in November, the announcement of a Trump win may just be the thing to push the chances of a recession to more likely then less likely for the UK economy.

Italy (8th biggest economy)

Screen Shot 2016-07-28 at 10.33.24 pm.png
Source: ‘Italy GDP Annual Growth Rate‘, Trading Economics

As seen from the above, Italy (like Japan) has not done well in the last decade with recessions in 2008/09 and 2012/13/14. The IMF does not expect Italy’s economy to recover to pre-GFC levels until mid 2020s.

To add to its troubles, Italy currently faces two problems: its banks and the rise of the populist Five Star Movement.

First, the banks. The impact of Brexit on an already fragile Italian banking system has brought it close to breaking point. Here are some ominous statistics:

  • 17% of banks’ loans are non-performing loans. In the USA, even at the height of the GFC, it only reached 5%.
  • Non-performing loans at Italian banks now exceed €360 billion—4x the 2008 level
  • Italian bank stocks have already lost 40% of their value since the start of the year.

Furthermore, there seems to be no workable solution on the horizon. Italy’s PM, Renzi, wants to rescue the banks by collecting and writing off non-performing loans in a ‘bad bank plan’. However, the European Central Bank has expressly denied this, as it goes against its rules on bank bailouts.

So the options for Italy are: exit the EU and rescue the banks, or let the banking system fail and drag the country through another recession. Not a great choice.

The rise of the anti-globalist and Eurosceptic Five Star Movement only adds fuel to the fire. Now the second biggest party in Italy, they have solidified its position with recent victories in mayoral elections in Turin and Rome. With Renzi having made a Cameron-style bet on a referendum in October (however on a less exciting topic of Senate reforms), if he loses, his government will likely fall. Polls currently suggest Renzi may be in serious trouble (34% against Renzi’s plan, 29% for, 37% undecided).

The market shock following a Trump presidency would surely be the knockout blow for the Italian banking system. Even if Trump doesn’t get elected, it looks like Italy is in some trouble.

Brazil (9th biggest economy)

Brazil used to be the promise of South America, often referred to as one of the emerging BRIC economies (Brazil, Russia, India, China). However, under President Rouseff’s populist rule, characterised by fiscal irresponsibility, it has had a horrible run in the last 5 years.

After having reached GDP growth of 7.5% in 2010, Brazil’s economy is in dire trouble with GDP growth at -3.8% in 2015 and expected to shrink further in 2016 to -5.9%. Unemployment rate paints a similar picture, closing in on 12%. Gross public debt rose sharply from 52% in mid-2014 to over 67% of GDP.

Screen Shot 2016-07-30 at 10.27.17 am.png
Source: ‘Brazil GDP Annual Growth Rate‘, Trading Economics

Screen Shot 2016-07-30 at 10.29.02 am.pngSource: ‘Brazil Unemployment Rate‘, Trading Economics

The hope is that the new anti-corruption drive will lead to a shift in Brazil’s institutions. In May, the impeachment of President Rouseff put an end her disastrous reign. In the same month, the CEO of Brazil’s state-controlled oil company Petrobras, previously thought to be untouchable, was sentenced to 19 years in prison on counts of corruption, money laundering and belonging to a criminal organisation.

Brazil still has a long way to go before it recovers. Corruption is endemic. The new interim President Temer has had 3 ministers stand down in the first month after being involved in corruption allegations (including the anti-corruption minister). However, he has begun to take strong measures to implement structural reforms of both the government and the economy in an encouraging sign. As a Brazilian captain of industry of Mr Temer’s administration puts it: “one corrupt group of politicians may have replaced another, but at least this group is barking up the right trees.”

Although there are hopes for Brazil, a Trump shock to the global economy will only complicate the road to recovery.

For more on Brazil: ‘Brazil: Tales of Everyday Agony‘, Financial Times

South Korea (11th biggest economy)

South Korea faces a Trump risk on two fronts.

Firstly, it is likely export trade to the US will be heavily impacted. In 2012, Trump heavily criticised a free trade agreement signed between South Korea and USA, claiming that it took almost 100,000 American jobs. Furthermore, a Nomura survey showed 75% of economists predict that tariffs will be imposed on exports from South Korea (as well as China and Japan).

Trump has also singled out South Korea in terms of military protection, saying they must meet the full cost of security guarantees provided by the US. This is consistent with his position in regards to NATO protection in July, where Trump declared that Baltic nations would not be protected by the USA if they had not met their NATO obligations. Given South Korea’s geographical situation, bordering North Korea, this will pose a huge risk for the nation.

South Korea is in a better position than other countries discussed here, experiencing a solid 3.2% GDP growth. However, it is also more export dependent, with exports accounting for over 50% of its GDP. These two risks will likely undermine business confidence and economic activity in the country substantially.

Mexico (15th biggest economy)

Last, but not least: Mexico.

NAFTA has been heavily criticised by Trump as taking American jobs. He has pledged to renegotiate the trade agreement with Canada and Mexico, if elected. He went onto say he would even consider ditching the whole thing if Canada and Mexico did not compromise. This does not bode well for Mexico, where 84% of exports go to NAFTA members with a significant majority of that (73% of exports) going to the USA.

 

Screen Shot 2016-07-29 at 8.18.12 am.png
Source: ‘Exports of goods and services (% of GDP)‘, The World Bank

Mexico has become increasingly dependent on exports as a contributor to GDP (as seen from the graph above). With exports of goods and service now responsible for 35% of Mexico’s GDP, exit or renegotiation of NAFTA would be enough to put Mexico in a recession.

Other plans include: imposing tariffs on Mexican goods of up to 35%stopping immigrants from sending remittances south of the border, deporting millions of undocumented workers, and, of course, making Mexico pay for the wall.

Despite uncertainty as to what or to what extent Trump may implement his policies (e.g. the wall), given the consistency of his anti-Mexico rhetoric, what is certain is the negative impact on the Mexican economy.

Conclusion

As seen above, the 3rd, 5th, 8th, 9th, 11th and 15th biggest economies in the world are not well-positioned to see out a Trump risk. The argument for a global recession seems very plausible.

I’m not saying if Hillary gets elected, the global economy will be saved; what I am saying is that the current climate is fragile and uncertain – a Trump presidency may just be the thing to push the global economy into a recession.

 

Note: Nobel winning economist Paul Krugman’s comments in the NY Times (published 8 November) with the same analysis
http://www.nytimes.com/interactive/projects/cp/opinion/election-night-2016/paul-krugman-the-economic-fallout