Donald Trump’s reflation rally will short-circuit. Rising borrowing costs will blow fuses across the world before fiscal stimulus arrives, if it in fact arrives.
By the end of 2017 it will be clear that nothing has changed for the better. Powerful deflationary forces retain an invisible grip over the global economy. Bond yields will ratchet up further and then come clattering down again — ultimately driving 10-year US yields below zero before the decade is over.
There are few `shovel ready’ projects for Trump’s infrastructure blitz. The headline figures are imaginary. His plan will be whittled down by Congress.
The House will pass tax cuts for the rich but these are regressive, with a low fiscal multiplier. The choice of an anti-deficit Ayatollah to head the budget office implies swingeing cuts to federal spending. These will hit the poor, with a high multiplier.
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Such is the currency paradox. As the Fed’s broad dollar index pushes towards an all-time high of 130, the mechanical effects will expose the Achilles Heel of an international system that has never been more dollarized – and never been more sensitive to US interest rates since the end of the Bretton Woods era.
King dollar will tighten the noose on emerging market debtors with $3.5 trillion of liabilities in US currency. It will force banks in Europe – through complex hedging contracts – to curtail offshore lending to the Pacific Rim, Turkey, Russia, Brazil, and South Africa. It will lead to a credit crunch in the developing world.
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[it is rumored that] the US agreed last February in Shanghai to delay rate rises, buying time for the People’s Bank to calm the yuan panic. The Fed retreat worked like a charm. Markets did indeed stop worrying about China. Global bourses rebounded. Next time – and it is coming soon – there will be no such accord. The Trumpians want China to blow up, thinking they can handle the blow-back. They can’t.