US and Global Economy on the Brink

As the United States of America votes in this most historic and significant of elections in recent history, perhaps we will get to see once again just how divided and polarised the country is. Because it is once again about two competing visions for America, as have the previous two US presidential elections been. Because Donald Trump’s entry into US politics in 2016 changed it forever, it seems. Something The Economist had written about then, but its full effect is more visible and clearer now.

That was the turning point not just in America’s politics, but in its economics as well. Because in Trump’s case, his politics informs his economic policies, which is why we had America First. He didn’t just take America into a tariff and trade war with China, he dragged the whole world into this destructive and protectionist way of engaging with other countries and doing business with them. He also came down heavily against immigration, and intends to double-down on this issue in his second term with mass deportation of illegal immigrants and other measures to tighten immigration rules in America. On economic matters, however, when the world’s greatest economic powers, US and China, pow-wow with each other in trade and investment, no country can escape it.

Unfortunately, Biden didn’t do anything to mend fences with China and reset tariffs; he made it worse by ratcheting up the economic and technology competition with China and banning the sale/exports of certain hi-tech semiconductors and components which are essential in the making of chips and consumer electronics, in which China is a significant part of global supply chains. I had written before, that I thought Biden did this to get the Republicans to sign off on his various infrastructure and investment plans in a bipartisan way. But now I think this anti-China trade and tariff war is more permanent, as a way of competing with China and containing its rise.

I shall address the issue of the implications of deciding economic policies on the basis of foreign policy and geopolitical matters later, but for now it is enough to say that on this dimension at least, the US has had continuity since Trump’s 2016 presidency. There are many in America who actually think that Trump’s first term was good for the American economy. Perhaps they are looking at the headline GDP growth rate numbers for three quarters in 2017 and a couple of quarters in 2019 when it crossed 3%, but other than this it is nigh impossible to say just how beneficial his regime was even for the US economy. His tax cuts in 2017 for corporates have only benefitted the wealthy and have exacerbated the income and wealth inequalities in America. His record on lowering US’s trade deficit with China and other countries is mixed, tilting on the side of increasing or same deficits as before. Despite all the hikes in tariffs.

And guess what? Trump’s obsession with trade deficits is so all-consuming, that he has decided to make tariffs the centre-piece of his economic plan in his second term, should he win. With proposals to increase import tariffs on all countries across the board by 10% and by 60% on Chinese imports. At a time when the US and the global economy are still seeing off the effects of the Covid-19 pandemic of 2020-2022, in terms of restoring and diversifying global supply chains, lowering consumer price inflation and generating enough investment and jobs, this second term of Trump could be so damaging that it could undo all the good work of economic recovery until now.

I have written about Trump’s other hare-brained ideas in a recent blog post, so I will not dwell too much on them in this piece. The most consequential one is extending the 2017 corporate tax cuts that Trump introduced in his first term and which are due to expire next year. He has indicated that he will extend and deepen the tax cuts and the CBO has already put out its assessment of budgetary outcomes in such a case, which will worsen America’s fiscal and debt situation. As it is I have written that the economic choices facing the United States and the world are so narrow and precarious that utmost caution and foresight is needed of leaders. I must also add that for all the economic dynamism that America claims to possess at the moment, its two main political parties are in stasis. That the Republicans could not find a better candidate to run for the President’s office and that Kamala Harris had to step in at the last minute in place of Biden is a symptom of what’s broken and moribund in America’s political landscape.  

Let us now look at candidate, Kamala Harris. As vice-president in Biden’s regime, she is likely to stay consistent with most of the administration’s policies, both economic and on matters of immigration and the like. She has also pledged to do more in areas of helping families with child care, healthcare costs, home-ownership, women’s rights and helping small businesses. More important, her plan at least includes how she intends to fund part of the spending, through tax increases on the wealthy and on corporations. Then too, as I cited the CBO’s long-term economic outlook in my previous blog post on the American economy, the country’s public finances are in a dire condition. This article from Reuters provides an analysis of how Harris’ and Trump’s tax and spending plans will affect US debt, based on analyses by four forecasters in the US.

On the other hand, Trump’s policies of higher tariffs have done nothing to lower America’s trade deficits either with China or with the rest of the world, as you can see in the US Fred charts above. Do look at the US trade balances since 2016, in particular, to see the effects of Trump’s tariff wars. For trade deficits with China specifically, take a look at the goods and services trade data from the USTR for 2022. Trump’s generous tax cuts only benefitted the wealthy even as he championed the cause of the people forgotten by globalisation. And replacing taxes with tariffs as the way of generating revenue is one of the most damaging ideas economically and morally. Trump might think that America gains by penalising other countries, but in actual fact he will be penalising American consumers with higher prices across the board that will work as a perverse consumption tax and hurt consumption at a time when the US economy and the world are trying to improve it and keep consumer demand buoyant. And because most major economies of the world will respond with retaliatory tariff increases, the entire world will be impacted with not just weaker consumption, but with lower investment demand as well.

Then, there are other ways the US elections this time could impact the American and the world economy, especially if Donald Trump wins a second term. Just like he tried in his first term to repeal and replace the ACA, he could certainly try to undo or reverse some of the Biden administration’s policies. He has already been criticizing the US CHIPS Act and being a climate change denier, he will certainly undo the reforms on clean energy transition and promote more fossil-fuel friendly policies. He didn’t manage to repeal and replace the ACA, but it won’t be from want of trying that he will not manage to disrupt and undo new reforms and policies put in place by the previous regime. And these disruptions can cause policy uncertainty in America and around the world for governments as well as businesses. It will slow the pace of clean energy transition, just when the world needs to accelerate it.

I think the economic and technological competition with China will continue, irrespective of who wins the US elections. This has already been borne out by Biden’s term, but the danger with a Trump presidency is how much more acrimonious US-China relations can become. The latest indications of the election results suggest a decisive Trump victory. One is not sure how China will respond to a 60% hike in tariffs, but the US would do well to remember that China is still a large and significant creditor to the US even with its pared-down holdings of US treasuries. The danger of continued geopolitical tensions between the world’s two greatest powers and economies cannot be understated and it impacts the entire world in many ways.

For one thing, just when the world needs to cooperate more on creating and updating global standards for various aspects of the new economy such as the internet, AI, telecommunications, carbon taxes, clean energy transition and indeed travel, trade and economic investment. we will be hastening its economic fragmentation. America needs to realise that it is actively and willfully dismantling and destroying a rules-based world order that it helped create in the 20th century. And only because it cannot make new economic powers such as China comply easily; surely there is a way to make all economic and military powers play more responsible roles in this new-economy based world order.

Which brings me to the second and more important effect that these US elections will have on the world economy. America needs to also realise that by engaging in trade wars with China and worsening the geopolitical tensions between the two countries, it is actually helping China globalize much faster. As a consequence of Trump’s 2017 hike in tariffs on Chinese imports, many thought that multinational corporations and indeed foreign governments the world over can adopt a China plus one strategy. Nobody expected that China will itself globalize as a result, and it is a fact that many Chinese companies started setting up production bases outside China, precisely to work around these trade restrictions, and equally important, to benefit from a lower labour cost arbitrage just like other MNCs. An unintended consequence, but an important one nevertheless. In a matter of a mere seven years since then, Chinese companies are reported to have even set up production and trade facilities in Mexico, right on America’s doorstep. Too close for Trump’s comfort, I would imagine!

Another important and significant impact to consider is the fallout from the increasing weaponising of the US dollar. Especially after Russia’s attack on Ukraine, many countries that invest and trade significantly with both Russia and China are actually finding ways to settle their payments in currencies other than the US dollar. China had already been looking to internationalise the yuan, and growing geopolitical tensions only helps them in this regard. At the recently concluded BRICS Summit in Kazan in Russia, the now expanded BRICS grouping discussed settling trade payments in currencies other than the US dollar in order to avoid the penalties imposed by US sanctions and also a foodgrain trade deal that will hopefully allow both Ukraine and Russia to export grain, especially wheat, that many countries around the world depend upon.

Which brings me to the last of the points I wish to make regarding increasing geopolitical tensions between the US and other competing world powers and how they impact economies everywhere. In the old rules-based world order that America helped set up, there was little economic integration or competition between countries and regions compared to our times. In fact, America was itself hugely dependent on oil imports from the Middle-East and Gulf countries. Consequently, the country’s foreign policy was aligned to its economic interests, as well as its ideological interests.

In today’s changed global economic environment, where there is so much economic interconnectedness and competition between countries for investment and growth, America finds its preeminent position suddenly being challenged by other countries. Besides, the economic environment itself has changed dramatically in this millennium with what we now call the new digital technology based industrial development taking place around the world. America has a huge role to play in this next phase, but so do China, Japan and other countries in East Asia, India and many other countries around the world. An important feature of this type of economy, as I wrote recently, is that many of the new industries have global footprints and implications, simply by virtue of being part of the internet-led, digital technology-based world. These are the ones that need a new global governance order with global rules and standards in addition to what each country follows domestically.

In such a new world order, America cannot afford to shrink back from its responsibilities with America First nonsense, nor can it impose its set of rules unilaterally or under a Washington consensus. It has to find ways to work with other countries, or else accept the advance and rise of other economic powers, new multilateral institutions and groupings, etc. that come with the changed economic order and shifting power equations.

This may not be something top of mind for either of the US presidential candidates currently and they may not be seized of the changing world economic order and all that it calls for, but it seems to me that the days of foreign policy dictating economic policy are over. In this day and age, it perhaps ought to be economic policy that drives foreign policy and that requires a complete rethink of how the world has functioned for well over a century.

This article was first published on my blog on November 8, 2024.