Author: Pierre Briançon
PARIS — On the heels of the surprise news of Donald Trump’s election as U.S. president, European policymakers and central bankers were bracing for another shock that “could well make the euro crisis and Brexit look like minor bumps in our economic history,” according to a French finance ministry official who asked not to be named.
But reflecting the relative calm with which the financial markets reacted — most major European stock markets were down less than 1 percent by day’s end — others also noted that worrying as they are, some elements in the president-elect’s program, such as a projected higher U.S. budget deficit, might help mitigate the hit on Europe’s fragile recovery.
There was little doubt, however, that hits there would be, both in the short term due to Trump’s election and in the long term as a consequence of his presidency. Beyond that, doubts about Trump’s readiness to exert America’s economic leadership — notably by supporting international institutions such as the International Monetary Fund — will take global uncertainty “to levels rarely seen,” another European policymaker noted.
That creates a difficult policy challenge for European leaders: They know they must devise counter-measures to the Trump hurricane, but are ill-equipped to decide anything before they have an idea of its force.
In the short term, volatility will be the order of the day as market operators and bankers react to any potential nominees for the future cabinet — notably who will serve as Treasury secretary or U.S. trade representative. They will minutely scrutinize any statement from the Trump’s transition team as to their intentions and order of priorities once the new president takes over in January.
In the longer term, the two dangers for the global economy stand out: Trump’s trade agenda and his immigration policy.
Slapping tariffs on imports from Mexico and China would raise domestic inflation and hit European exporters. This would be even more so if the latter have to face a fall in the dollar’s value against the euro or sterling.
Meanwhile, forcing undocumented immigrants to leave (Trump has suggested deporting 11.3 million of them over two years) would raise labor costs and endanger businesses relying most on cheap labor — think farms and restaurants.
The impact on the U.S. economy, ricocheting on Europe’s, will then depend on whether Trump is able to implement his agenda in full. Economists at Moody’s, the ratings agency, estimate that full implementation of the president-elect’s platform would trigger a long recession lasting until the end of his term, shrinking the economy with 3.5 million jobs lost and the unemployment rate up from 5 percent today to 7 percent in 2020.
For Europe, that would mean a nightmare scenario. In the latest projection by the International Monetary Fund, growth of the eurozone GDP, already down to 1.7 percent in 2016, was expected to slow down more to 1.5 percent next year. But that was on the back of a U.S. economy picking up, from 1.6 percent this year to 2.2 percent in 2017.
Factor in a bigger U.S. slowdown, and it’s easy to see how Europe is threatened with recession as well. Forget about the Transatlantic Trade and Investment Partnership, “which didn’t stand much of a chance anyway even in a Clinton administration,” the European policymaker noted. Even current trade relations may be impacted for the worse in a “Trumpissimo” presidency.
Europe’s recession, in turn, would resurrect the continent’s banking problems it thought it was slowly solving, as noted by Simon Johnson, a professor at the Massachusetts Institute of Technology and former chief economist of the IMF.
Trump, however, may not be able to implement his agenda in full, as Moody’s duly noted. Under that “Trump lite” scenario, the U.S. Congress succeeds in moderating Trump’s ardor, both in his hostility to free trade and on the massive tax cuts he has advocated for the well-to-do.
The Trump problem may change the assumptions under which Western central banks have operated since the 2008 financial crisis.
But that scenario isn’t a rosy one for Europe either, because it would simply send the U.S. into stagnation, instead of recession.
Another potential danger, according to economist Simon Tilford, the deputy director of London-based Center for European Reform, comes from the veiled threats Trump has uttered towards the independence of the Federal Reserve, the U.S. central bank.
“You clearly see a scenario where instead of moderating Trump, the House and the Senate fall behind him, and there the implications for Europe could be pretty serious,” he said.
The Trump problem may also change the assumptions under which Western central banks have operated since the 2008 financial crisis. “Will they start worrying about a possible inflation comeback and raise rates faster than planned, or will they focus on an upcoming slowdown and keep their loose monetary policies?” a former eurozone central banker wondered.
More fundamentally, the French government aide noted, there is a risk that “the liberal order that presided over the Western world since World War II” has lost its main architect and support.
“What I’m afraid of now is European governments trying to find all kinds of excuses to tackle the effects of the Trump tsunami, such as suspending reforms or going their separate ways if their national banks are seriously shaken.”
For now, markets remain sanguine. But “they’re never good at assessing political risk,” Tilford said. And quite a few investors want to remember another Trump than the radical populist European leaders are fearing.
In a note to clients, Stefan Kreuzkamp, chief investment officer of Deutsche Asset Management, recalls a statement from Trump last May: “Anything I say right now — look, I’m not the president, everything is a suggestion … I’m totally flexible on very, very many issues.”
For Europeans, the only sliver of hope is in that self-confessed flexibility.