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Cut tax and spend: what will Trumponomics mean for the global economy?

Trump’s public investment plans will give markets a boost but could end up hurting the world.

Donald Trump has won the US presidency with a campaign that broke all the rules. Is the stage therefore set for America’s economic policy to take off in an equally unprecedented direction? And should the rest of us be fearful or elated?

These questions cannot yet be answered with any certainty: so far, not much is known about who will take the most important economic posts in the new administration, nor what detailed policies they and the president-elect advocate. But we know enough from Trump’s campaign pledges and the Republican Party’s better-known conventional platform to make some educated guesses.

Fiscal policy – the scale of government spending and the tax rates it imposes – is the one area where the path seems reasonably clear. As in the UK, austerity and restraint are likely to give way to higher public investment spending and tax cuts, adding up to a potentially significant dose of fiscal stimulus. In isolation, and in the short term, reflating US growth through public spending will be a positive for the rest of the world, giving hope for more vibrant activity in what is still the largest economy and largest export market in the world.

But fiscal policy does not operate in a vacuum. Whether its impact on the broader economy is supported or offset by monetary policy and the exchange rate is just as important. Much less certain than the direction of the administration’s fiscal policy is the question of how the US Federal Reserve and the currency markets will respond. I see three main scenarios.

The first is that not much changes. Janet Yellen, the Fed’s dovish chair, remains in post beyond the end of her current term in February 2018 and the rate-setting board of governors maintains its cautious approach. Trump’s tax cuts and spending splurge cause them to accelerate interest rate hikes a little, and the dollar plies a steady course. This scenario would probably create the fewest ructions for global finance and trade. Unfortunately, it is also highly unlikely. In May, Trump said he would “most likely” replace Yellen if he were elected, because she is “not a Republican”. Not quite a “You’re fired” from the star of The Apprentice, but still a reminder that in the United States, the president appoints the governor of the central bank, and that the new administration will not be shy to exercise its prerogative.

Two scenarios in which US monetary and exchange-rate policy takes a significantly different turn from now on are therefore worth considering. One is that the mainstream of the Republican Party, which favours an end to quantitative easing (QE) – creating new money for use in an economy – and a return to orthodox monetary policy, starts to exert more influence. This could lead to a Trump fiscal stimulus accompanied by much more rapid tightening of monetary policy and a more hawkish Fed. US interest rates will rise and the dollar will probably strengthen. Dollar borrowers abroad and in the US itself will feel the pinch.

The biggest question, in this scenario, will be whether the US economy can cope. If reflating the US economy and normalising interest rates were as simple as flashing a bit of government cash and reversing QE, it would have been done five years ago. But tax cuts and increased spending will inevitably lead to higher public debt, which already stands at more than 100 per cent of GDP. So higher interest rates will translate into much higher interest payments – which in turn will eventually require higher taxes to fund them. As a result, the combination of loose fiscal and tight monetary policy may simply be self-defeating. The deadweight of expensive debt will stall the economy before it reaches escape velocity.

There is also a third scenario to think about. It is the least likely and the most outlandish – but after Brexit and Trump’s victory, who bets against surprises any longer? This is that Trump defies Republican Party orthodoxy and diverts monetary policy on to an even easier course than at present, even as he primes the fiscal pump.

In the short term, the US economy will fly under the influence of simultaneous fiscal and monetary stimulus. A famous Fed chairman past once characterised a central bank’s job as taking away the punch bowl just as the party gets started. This scenario would be just the opposite – an invitation to an epic all-nighter with the kegs thrown in for free. If it sounds too good to be true that’s because it is: this scenario in fact carries the greatest risks for the global economy. The reason is its effect on the foreign exchange market, the channel whereby US monetary policy most directly affects the rest of the world. Boosting the US economy by abandoning austerity while allowing interest rates to rise and the US dollar therefore to strengthen would be a recipe welcome in Japan and Europe. Higher demand in the US, coupled with a weak euro and yen, would finally offer these troubled economic zones a path out of their near-permanent slumps.

But opening the spigots of fiscal policy while keeping US interest rates low, and the dollar thereby weak, would have the opposite effect. It would be the most blatant economic unilateralism, helping the US out of a hole while condemning Europe and Japan to yet more years of uncompetitiveness.

For the first time in nearly 50 years, the economic priorities of the US and the rest of the developed world would be nakedly opposed. Not since Richard Nixon’s pliant Fed chairman Arthur Burns accommodated his president’s rampant spending on the Vietnam War would the US have dared such a self-interested policy mix. Nixon’s experiment brought about the collapse of the Bretton Woods regime, which had underpinned the Western economic order since the Second World War. Trump’s version would have consequences no less momentous.

Felix Martin is a macroeconomist, bond trader and the author of Money: the Unauthorised Biography

This article first appeared in the 17 November 2016 issue of the New Statesman, Trump world

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Jeremy Corbyn supporters should stop excusing Labour’s anti-immigration drift

The Labour leader is a passionate defender of migrants’ rights – Brexit shouldn’t distract the new left movement from that.

Something strange is happening on the British left – a kind of deliberate collective amnesia. During the EU referendum, the overwhelming majority of the left backed Remain.

Contrary to a common myth, both Jeremy Corbyn and the movement behind him put their weight into a campaign that argued forcefully for internationalism, migrants’ rights and regulatory protections.

And yet now, as Labour’s policy on Brexit hardens, swathes of the left appear to be embracing Lexit, and a set of arguments which they would have laughed off stage barely a year ago.

The example of free movement is glaring and obvious, but worth rehashing. When Labour went into the 2017 general election promising to end free movement with the EU, it did so with a wider election campaign whose tone was more pro-migrant than any before it.

Nonetheless, the policy itself, along with restricting migrants’ access to public funds, stood in a long tradition of Labour triangulating to the right on immigration for electorally calculated reasons. When Ed Miliband promised “tough controls on immigration”, the left rightly attacked him.  

The result of this contradiction is that those on the left who want to agree unequivocally with the leadership must find left-wing reasons for doing so. And so, activists who have spent years declaring their solidarity with migrants and calling for a borderless world can now be found contemplating ways for the biggest expansion of border controls in recent British history – which is what the end of free movement would mean – to seem progressive, or like an opportunity.

The idea that giving ground to migrant-bashing narratives or being harsher on Poles might make life easier for non-EU migrants was rightly dismissed by most left-wing activists during the referendum.

Now, some are going quiet or altering course.

On the Single Market, too, neo-Lexit is making a comeback. Having argued passionately in favour of membership, both the Labour leadership and a wider layer of its supporters now argue – to some extent or another – that only by leaving the Single Market could Labour implement a manifesto.

This is simply wrong: there is very little in Labour’s manifesto that does not have an already-existing precedent in continental Europe. In fact, the levers of the EU are a key tool for clamping down on the power of big capital.

In recent speeches, Corbyn has spoken about the Posted Workers’ Directive – but this accounts for about 0.17 per cent of the workforce, and is about to be radically reformed by the European Parliament.

The dangers of this position are serious. If Labour’s leadership takes the path of least resistance on immigration policy and international integration, and its support base rationalises these compromises uncritically, then the logic of the Brexit vote – its borders, its affirmation of anti-migrant narratives, its rising nationalist sentiment – will be mainlined into Labour Party policy.

Socialism in One Country and a return to the nation state cannot work for the left, but they are being championed by the neo-Lexiteers. In one widely shared blogpost on Novara Media, one commentator even goes as far as alluding to Britain’s Road to Socialism – the official programme of the orthodox Communist Party.

The muted and supportive reaction of Labour’s left to the leadership’s compromises on migration and Brexit owes much to the inept positioning of the Labour right. Centrists may gain personal profile and factional capital when the weaponising the issue, but the consequences have been dire.

Around 80 per cent of Labour members still want a second referendum, and making himself the “stop Brexit” candidate could in a parallel universe have been Owen Smith’s path to victory in the second leadership election.

But it meant that in the summer of 2016, when the mass base of Corbynism hardened its factional resolve, it did so under siege not just from rebelling MPs, but from the “Remoaners” as well.

At every juncture, the strategy of the centrist Labour and media establishment has made Brexit more likely. Every time a veteran of the New Labour era – many of whom have appalling records on, for instance, migrants’ rights – tells Labour members to fight Brexit, party members run a mile.

If Tony Blair’s messiah complex was accurate, he would have saved us all a long time ago – by shutting up and going away. The atmosphere of subterfuge and siege from MPs and the liberal press has, by necessity, created a culture of loyalty and intellectual conformity on the left.

But with its position in the party unassailable, and a radical Labour government within touching distance of Downing Street, the last thing the Labour leadership now needs is a wave of Corbynite loyalty-hipsters hailing its every word.

As the history of every attempt to form a radical government shows, what we desperately need is a movement with its own internal democratic life, and an activist army that can push its leaders as well as deliver leaflets for them.

Lexit is no more possible now than it was during the EU referendum, and the support base of the Labour left and the wider party is overwhelmingly in favour of free movement and EU membership.

Jeremy Corbyn, John McDonnell and Diane Abbott are passionate, principled advocates for migrants’ rights and internationalism. By showing leadership, Labour can once again change what is electorally possible.