An ironic contradiction is likely to define the global economic community’s convocation in Davos this week as it awaits Donald Trump’s inauguration. There has not been so much anxiety about U.S. global leadership or about the sustainability of market-oriented democracy at any time in the past half-century. Yet with markets not only failing to swoon as predicted, but actually rallying strongly after both the Brexit vote and Trump’s victory, the animal spirits of business are running hot.
Many chief executives are coming to believe that, whatever the president-elect’s infirmities, the strongly pro-business attitude of his administration, combined with Republican control of Congress, will lead to a new era of support for business, along with much lower taxes and regulatory burdens. This in turn, it is argued, will drive major increases in investment and hiring, setting off a virtuous circle of economic growth and rising confidence.
While it has to be admitted that such a scenario looks more plausible today than it did on Election Day, I believe that it is very much odds-off. More likely is that the current run of happy markets and favorable sentiment will be seen, with the benefit of hindsight, as a sugar high. John Maynard Keynes was right to emphasize the great importance of animal spirits, but other economists have also been right to emphasize that it is political and economic fundamentals that dominate in the medium and long terms. History is replete with examples of populist authoritarian policies that produced short-run benefits but poor long-run outcomes.
The new U.S. president will be operating on a weak political foundation, is unlikely to be able to deliver the results he has promised to key constituencies and seems likely to take dangerous gambles in the international arena. This makes it probable that a cycle of growing disillusion, disappointment and disapproval will set in within a year.
Trump will likely be the first modern U.S. president to come into office with more public disapproval than approval. No outsider can know the validity of allegations regarding his campaign’s involvement with Russia, but the shadow of possible scandal is far more present in the pre-inaugural press than it was even before Richard Nixon’s second term in the White House. And the Trump family’s continued operation of his business interests offers potential for at least the allegation of serious misconduct.
Nor is Trump likely to be able to keep his promises to key middle-class constituencies. The consequence of the weak Mexican peso that has been a consequence of his rhetoric is more Mexican immigration to the United States and more businesses choosing Mexico over Ohio as a location for production.
Moreover, it is not possible to repeal Obamacare without taking health insurance away from millions of Americans and placing new burdens on those with preexisting conditions. If Trump follows through on proposed increases in tariffs, the result will be lower real wages and incomes as prices rise faster than wages. All in Congress agree that tax reform will not happen in a few months, and it is impossible to reconcile the president-elect’s stated goals of major reductions in corporate and top rates, a fair distribution of the benefits of tax cuts and preventing a huge increase in federal debt.
Finally, Trump will be taking some major risks. Seeking to use the one- China policy as a lever for extracting trade concessions from China risks major confrontation and will complicate cooperation on critical issues such as North Korean nuclear proliferation. Questioning the value of the European Union and NATO risks undermining our principal democratic allies at a time when they are already politically fragile. Unilateral imposition of tariffs or enactment of a tax system that subsidizes exports and penalizes imports risks both retaliatory protectionism and a spiking dollar, with potentially grave consequences for the global economy. And threatening businesses, as happened with the attack on the pharmaceutical industry during Trump’s last news conference, risks major increases in uncertainty and even questions about the rule of law.
Animal spirits are as fickle as they are important. Right now they certainly are an impetus to economic growth. The speed with which they changed after the Brexit vote and after the U.S. election should be cautionary. They can easily change again. If ever there were a time to hope for the best but plan for the worst, it is now.