Recently, I chanced upon a note from 2011 in my iPad on the book that Prof. Douglas Irwin had written then: Peddling Protectionism: Smoot-Hawley And The Great Depression. One of the unintended consequences of the Smoot-Hawley Act and the tariffs that flowed from it was that the US Congress lost control of American trade policy. The Act also paved the way for America to negotiate bilateral trade tariff reductions after World War II. These unintended consequences are always a delight for yours truly, not only because they are humbling, but also because they challenge the intellect.
Europe’s long post-World War II history cannot be understood without, or divorced from, the long and bloody wars that preceded it. Similarly, two decades of economic cooperation that followed the end of the war were due to the era of beggar-thy-neighbour policies before and after the Great Depression had set in. Similarly, US President Donald Trump’s election and policies are a reaction to the downside of globalization. Thus, liberalization and regulation, pro- and anti-immigration policies, free and restrictive trade practices come and go in cycles.
Those who condemn reversals of policies that allegedly spread global good fail to notice that, over time, downside of policies emerge invariably and that is because the contexts are changing forever. As Srinivas Thiruvadanthai and I wrote in these pages, economists did not write open letters urging the president to mitigate the effect of trade liberalization on employment, wages and on communities. Had they done so, the American president may not be pursuing his current course of action. He may not even have been elected. But long history of human behaviour tells us that humans seldom take corrective action when things are going well. That is what makes the swing of the pendulum in the other direction both inevitable and necessary. That is the right prism with which to view the trade actions that America is taking against China. But critics are too caught up in their biases to use the right analytical framework. That is why their critiques are sounding increasingly incoherent.
First, they said that the policies were disastrous for the American economy and that China would outlast America. Now, on current form, China is hurting. Its stock market is down more than 25%. The currency has depreciated significantly against the dollar and the central bank had to step in and reassure that the yuan was not an instrument of trade retaliation. Then, they said that China would dump American treasury bonds in response. Chinese companies are issuing dollar debt in record amounts. At least, they did so in 2017 and, incidentally, China’s record accumulation of dollar liabilities comes nine years after it called for an end to the hegemony of the dollar. Then, the critics said that Trump’s assault on all regions had made it easier for China to assemble a coalition against America. Now, Trump has gone ahead and struck a deal with Europe and China is looking isolated.
Trump’s critics’ misjudgements and their inability to see or admit to the flaws in their intellectual frameworks is testimony to the resilience of human irrationality. They are not alone for they have Trump to keep company!
He rode to office on the back of the disaffection caused by several decades of globalization and several years of low interest rates before and after 2008. Combined, these two had raised corporate profit margins, made capitalists richer and left workers’ wages stagnant. Trump campaigned correctly against low interest rates that had benefited special interests on Wall Street. Correcting the imbalance between capital and labour requires, among other things, removing America’s monetary policy accommodation that has favoured moneyed interests. That is what Jerome Powell is doing.
He has said that policy remained on a gradual path “for now”. That is, he has raised the possibility of raising the Federal Funds rate by 50 basis points at a later date, something the Federal Reserve last did in May 2000. He has dismissed concerns about the imminent inversion of the treasury yield curve and the impact of tariff actions on economic growth. Fortunately, economic data have supported him. America’s gross domestic product (GDP) has been revised higher by $1 trillion. It is an $20-trillion economy. India is one of the few countries (or, the only one) in the world that revised its GDP lower after statistical and base year revisions. American personal savings rate is now much more respectable and stable at around 6.8%. It was 3.2% before the revision. Powell does not have to worry about household financial fragility as before. He can make haste in normalizing monetary policy. Make haste he must because covenant-lite (covenants are protection to debt holders) leveraged loans are 80% of all leveraged loans, which are loans extended to already highly indebted entities. Both are at record highs. Covenant-lite leveraged loans were 29% of leveraged loans in 2007.
This is the backdrop for Trump’s recently expressed unhappiness that the Federal Reserve was raising interest rates. In my book, that is the most inappropriate observation he has made as president. He came to office promising to drain the swamp. His unhappiness with the Federal Reserve suggests that he would rather see it full than drained. He and his critics are refusing to learn from the mistakes of the past. A match made in heaven!
V. Anantha Nageswaran is an independent consultant based in Singapore. He blogs regularly at Thegoldstandardsite.wordpress.com. Read Anantha’s Mint columns at www.livemint.com/baretalk
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