It has been a huge week in financial markets with equities rallying strongly in the aftermath of the US Presidential election, which delivered a swift and decisive result
We have also seen both the US Federal Reserve and Bank of England cut interest rates by 25 basis points.
The US presidential election delivered a decisive victory for former President Donald Trump, who won both the popular vote, by 50.7% to 47.7% for Kamala Harris, and the electoral college, with Trump set to be victorious in all of the ‘swing states’ leaving him with 312 electoral college votes, well ahead of the 270 votes needed for victory. Trump’s victory was compounded by the Republican party taking control of the Senate for the first time in four years. The House appears to be a very close call, but the direction of travel in votes already counted points to a Republican victory. The outcome was seen as a very close call ahead of the vote, with the probability of a clean sweep of both the White House and Congressional races seen as unlikely. Such a victory gives Trump considerably more flexibility on policymaking than would have been seen had Congress been divided.
The market reaction to President-elect Trump was positive – if nothing else we have certainty on the outcome far quicker than expected – with US equities rallying strongly, particularly further down the cap scale. The US dollar and cryptocurrencies also saw strong moves higher. Bond markets, which have been selling off in recent weeks on the back of expectations of higher growth and interest rates staying higher for longer, sold off further which given the likely impact of economic stimulus, tax cuts and more debt, is no surprise.
In his victory speech in Florida in the early hours of Wednesday morning, Trump called his victory “the greatest political comeback in the history of the United States of America”. Indeed, for a President who left office in 2020 defeated by Joe Biden, twice impeached during his term and who subsequently faced four indictments across state and federal courts, the comeback is widely seen as remarkable. Trump spoke of a “golden age” for America, promising he would “fix everything about our country”. Trump will not take office until 20 January 2025, but the focus immediately turns to the potential for Trump’s campaign rhetoric to be implemented once he enters the White House, with consequences both in the US and overseas, encompassing economics and geopolitics as “America First” looks to become the doctrine for future policy. With a decisive election win, Trump now has, in his words, “an unprecedented and powerful mandate” to push through his agenda.
Trump is now in a strong position should he decide to push through tax policies and extend tax cuts introduced during his first term of office. Domestically, Trump has also promised a sweeping crackdown on immigration, federal spending cuts and a vow to “prosecute political enemies”. Internationally, Trump’s election brings heightened uncertainty and unpredictability. It calls into question US security commitments in Europe via NATO and Southeast Asia to Japan and Taiwan. More immediately US policy on the conflicts in Ukraine and the Middle East will be questioned. The big unknown for the global economy is whether Trump’s comments on tariffs are firm commitments or a starting point for negotiations. Tariffs of 60% on imports from China, and 10% to 20% from the rest of the world have been floated; such levels would likely have a detrimental impact on global trade and growth if implemented and the likelihood of retaliation is high.
Yesterday saw both the Bank of England (BoE) and US Federal Reserve (Fed) meeting to set interest rate policy. The Fed cut interest rates by 25bps as expected, taking the target range to 4.50-4.75%. The Fed statement was largely unchanged, maintaining the view that “the risks to achieving its employment and inflation goals are roughly in balance”. Fed Chair Jay Powell did not send any signal about the next meeting in December meeting, emphasising the data to come before then but noted that recent data pointed to “diminishing downside risks” as “the economy remains strong” and the “right way to find neutral is carefully, patiently”. Powell avoided any discussion on the US election outcome, saying “we don’t know what the timing and substance of any policy changes will be”. Powell confirmed he would not resign if asked (Trump has made it clear he is no fan of Powell) and noted that dismissal of any Fed board members was “not permitted under the law”. The Fed is likely to continue cutting for now but expectations for 2025 are shifting as investors consider what may be more inflationary policies from the new Trump administration.
The BoE also cut rates by 25bps, taking Bank Rate to 4.75%. The Bank’s latest forecasts take into account last week’s Budget, saying it was “provisionally expected to boost CPI inflation by just under half a percentage point at the peak” as well as boosting GDP by 0.75 per cent over 12 months. Bailey noted the Budget changes “are expected to reduce the margin of spare capacity in the economy over the forecast period”. Looking ahead, Bailey said a “gradual approach to removing policy restraint remains appropriate” – gone are his musings over a more “aggressive path” from a few weeks ago.
The Trump victory is another reminder, in what has been a huge year of elections, that incumbent parties are taking the blame for the post pandemic issues weighing on economies, not least an inflation backdrop not seen since the 1970s and significant cost of living increases. Across democracies in the UK, US, Japan, India and France we have seen incumbent administrations defeated or severely bruised by electorates seemingly frustrated with the status quo, with promises of ‘change’, along with higher public spending proving very tempting for voters. The populist shift over the past decade has been well noted, but the challenges for incoming governments of balancing higher spending, taxation and debt are significant. New governments in the UK and soon the US are coming into office where the public finances are claimed to be in a very poor state.
The US is already spending over 15% of federal revenue servicing debt costs, with the budget deficit close to 7% – a level usually only seen during a period of recession and high unemployment or a war. However, the US economy is close to full employment and is seeing steady growth, with Q4 expected to see annualised GDP growing at 2.4%. The US is more likely to see bond markets forgiving of even higher spending than other countries such as the UK or Europe – it helps when your currency is the global reserve – but under a Trump administration and his desire for further tax cuts combined with stimulus spending and a Congress unlikely to be minded to impose fiscal discipline suggests the US national debt will continue to climb higher. US debt is currently 99% of GDP and is projected to rise to 122% over the next decade. However, there are considerable upside risks to this figure if President-elect Trump’s proposals are enacted. The point at which bond markets suffer some indigestion may not be upon us, but the rise in yields in recent weeks reminds us that governments globally are going to have to pay up for their fiscal largesse and to keep their election promises.
Source: Bloomberg as at 8 November 2024
