Introduction
The recent nomination by Donald Trump of Stephen Miran to the chairmanship of the Council of Economic Advisers (CEA[1]) is notable. In late 2024 Miran wrote a piece entitled ‘A User’s Guide to Restructuring the Global Trading System’,[2] which unless one has a particular interest in the subject matter is probably not going to garner much enthusiasm. Perhaps it ought to have instead been ‘A User’s Guide to the Trump Presidency’, which is the way we think about it, and why to us it is useful.
‘If you don’t have steel, you don’t have a country!’
Readers will no doubt recognise the utterance above as recognisably made by President Trump [3]. At the time (2018) he was bemoaning the poor state of the US steel industry. The blame for which was placed squarely at the feet of a grossly unfair international trade regime where America is, according to you know who, being ‘ripped off’.
American manufacturing has been in doldrums for decades. According to Miran, citing data from US Bureau of Labor Statistics, the share of jobs in manufacturing has decreased from about 30% in the 1950s to less than 10% today [4]. This has created a socioeconomic catastrophe with the explosion in opioid related deaths the most obvious symptom. It cannot be a coincidence that these deaths are concentrated geographically in what was once the beating heart of American manufacturing. [5]
The purpose of this piece is not to analyse whether the present trade arrangements are objectively fair or not, nor is it important to enquire whether the system is actually an American construct, for which they must assume some responsibility. All that matters is that the present United States administration and indeed the electorate believe it is unfair, and they want to see it fixed.
The rallying cry is simple, more things should be ‘Made in America’ and Treasury Secretary Bessent (more from him later) has made this crystal clear [6].
Being the world’s reserve currency involves a trade-off
We have written about the extent of Dollar overvaluation before [7]. This state of affairs is not doing what is left of their manufacturing base, or any attempt to revive it, any favours. A perennially strong Dollar makes exports from the United States uncompetitive, which is unacceptable.
Whilst there is much chatter about the possible replacement of the Dollar as the world’s reserve currency it is our opinion that whilst this may be occurring at the margin it is probably some way off. The Americans do not want that anyway because controlling the global financial system through the Dollar has significant advantages for national security purposes [8]. Don’t therefore expect a weaker Dollar by virtue of its replacement.
Decades of largely uninterrupted global economic expansion fuelled in part by the emergence of China, India et al. have relentlessly supported demand for US Dollars to facilitate trade [9]. The excellent returns enjoyed by investors in the US stock market must also have played a part.
Herein lies the quandary; a strong Dollar renders the manufacturing renaissance stillborn but attempts to ween the world of it undermines national security.
Having it both ways…?
Interventions in currency markets on a multilateral basis are not unprecedented. The most recent coordinated action to weaken the Dollar took place following the Plaza Accord of 1985. At the time the big players were France, Germany, Japan and the UK. All of whom were allied states who effectively owed the United States for rebuilding their economies after the war and upon whom all relied for their protection from the Soviet Union. We needn’t remind readers that 1945 was a far away in time from 1985 as 1985 is from today.
The world is a now a completely different place and sitting across from the negotiating table in the 2020s will be, principally, China and the European Union. Miran dismisses any genial grand bargain outright. What incentive do these two huge manufacturing blocs have in effectively strengthening their exchange rates when they have their own grave economic problems to deal with that cannot be solved by such action? [10] Exactly none. They are going to require some convincing.
Tariffs are means to several ends
In 1985 the United States Debt to GDP ratio was roughly 40%, compare that with the position today where it is now about 120%. This regrettable reality is an additional major impediment to a multilateral attempt to weaken the Dollar. The United States is consistently spending more than it is taking in tax receipts and there is bi-partisan agreement that such a situation is not sustainable. This deficit is being financed by borrowing from foreigners. All borrowing is subject to interest and the more you borrow the more it costs. How are investors going to react when the relative value of their dollar holdings is reduced? They are going to demand a higher interest rate for any further incremental borrowing (see later). According to the Congressional Budget Office expenditure on interest is now the largest part of the Federal budget [11], second only to defence. The sums involved are staggering, in Fiscal Year 2024 the interest expense item was $881 Billion!
At this point it is worth pausing and reflecting upon what appears to be an intractable problem confronting the Trump Administration. On the one hand the long moribund manufacturing sector needs to be resurrected, on the other is the perennial problem of a strong Dollar. Frustratingly, any multilateral attempt to weaken the currency is unlikely to be done easily, particularly when the debt obligation is as onerous as it is.
Fortunately, for the Americans they have two things that everyone wants: access to the largest consumer goods market in the world and the might of their armed forces. From now onwards there is going to be a price to pay for both of these and that price will be tariffs.
Tariffs are in practice a tax on foreigners and are therefore far less politically sensitive to the alternative method for raising revenue tax rises which is to tax one’s own citizens. However, confining their usefulness to such a narrow application of their potential is a mistake. If the end game is in fact a weaker dollar, they won’t necessarily have that effect in the short-term.
Tariffs to incentivise ‘correct’ behaviour
Whilst the revenue raising potential of tariffs is clear, Secretary Bessent sees them as a negotiating tool to encourage behaviours that suit the agenda of the United States. Bessent has a list of eleven considerations [12] that will calibrate the level of tariffs a country can expect to pay. Rather than list all eleven, the five that leap off the page are:
- Does the nation have a history of suppressing its currency, for instance via the accumulation of excessive quantities of foreign exchange reserves?
- Does the nation help China evade tariffs via re-export?
- Does the country pay its NATO obligations in full?
- Does the nation support or oppose US security efforts in various theatres?
- Do the nation’s leaders grandstand against the United States in the international theatre?
The final consideration is perhaps the most interesting. It isn’t enough any longer to toe the line in private but later stand up in the international arena and attempt to score political points on an Anti-American agenda.
Policymakers in Beijing and Brussels must be reading this with some trepidation.
What happens if tariffs result in some sort of agreement?
Let’s assume for the sake of argument that the relentless threat of tariffs, their actual application and the inevitable counter reactions by the aggrieved parties do force the big players to the table. In short, eventually everyone gets fed up with the volatility and damage that is being caused. What is the actual mechanism by which the Dollar would be weakened? Those countries with significant Dollar reserved would in practice have to sell such reserves and thereby strengthen their own currencies. A potential unwanted side effect of this, especially for a heavily indebted US, is that the cost of borrowing is likely to rise. How else would you entice additional lenders to buy your debt if the value of that debt is falling due to a weakening dollar without the quid pro quo of higher interest rates. In this scenario manufacturing becomes more competitive but the cost of servicing debt increases.
One radical solution [13] is to perform what in financial speak is called a ‘term-out’. For those parties at the negotiating table that benefit from the security blanket that the United States provides them there will be a requirement to swap short term debt for long term debt. Simply put, we (The United States) owe you a lot of money and we are required to pay in the near future. Part of the reason we owe you a lot of money is that we have been paying for your security. Therefore, we propose that you swap the short-term debt we owe you for much longer-term debt with little or no interest.
In this arrangement, countries would still sell part of their dollar debt and thereby weaken the dollar, but interest rates would be kept under control because part of what was owed to them would be swapped into long-term debt with little or no interest. Whether anyone will agree to this is an open question but the fact that it is being discussed by senior policy advisers is important.
Investment conclusion
There seems to be a radical reorganisation of the global economic order happening that is being driven by an aggrieved superpower. Serious change is afoot, and we wonder whether we ought to expect more volatility over the next few years. There are various strategies we can employ which might benefit from this reorganisation and we remain vigilant in portfolios. Furthermore, investors should consider what asset classes would perform in a world where the Dollar is forced lower, one way or another.
[1] The CEA gives the president advice on domestic and international economic policy. https://www.usa.gov/agencies/council-of-economic-advisers#:~:text=The%20Council%20of%20Economic%20Advisers,domestic%20and%20international%20economic%20policy.
[2] hudsonbaycapital.com/documents/FG/hudsonbay/research/638199_A_Users_Guide_to_Restructuring_the_Global_Trading_System.pdf
[3] https://thehill.com/homenews/administration/376408-trump-if-you-dont-have-steel-you-dont-have-a-country/
[4] See above Note 2 Pg 6
[5] See the study by the CDC here https://www.cdc.gov/pcd/issues/2023/22_0316.htm#1
[6] https://www.reuters.com/markets/us/treasury-secretary-bessent-says-tariffs-aimed-bringing-manufacturing-back-us-2025-02-05/
[7] https://whitman.co.uk/news/carry-trade-with-the-bank-of-japan/
[8] See Note 2 Pg 7 for an overview of how this is achieved
[9] See Note 2 Pg 6-7
[10] See note 2 Pg 28
[11] https://www.pgpf.org/article/any-way-you-look-at-it-interest-costs-on-the-national-debt-will-soon-be-at-an-all-time-high/
[12] See note 2 Pg 23
[13] See note 2 Pg 29
