The drag on US growth from the trade war has roughly cancelled out the boost from tax and interest-rate cuts, Professor Jason Furman of Harvard Kennedy School and Peterson Institute for International Economics told the BNP Paribas Asset Management 2019 Investment Forum. Key question: is the economy on a glide path toward its long-run growth potential of around 1.8%, or on a crash path ending in recession? Professor Furman’s view: it is the former.
Less room for monetary policy, more for fiscal policy
The recent rate cuts are part of a much longer period of lower rates since the early 1980s. To the degree that this decline has been driven by rising government debt, slower productivity growth, changing demographics – older people save more – and rising inequality – richer people save more – it is more likely to persist over time.
With low interest rates, the concern is that the Fed is left with little scope to respond to the next recession. During past downturns, the effective fed funds rate fell by 630bp on average; today’s scope for reduction is just 175bp (assuming rates do not go below 0%). Given the limited potential for monetary policy action, the need for an expansionary fiscal response is all the greater. Fortunately, low rates expand the scope for fiscal policy as any increase in debt does not incur a commensurate increase in interest payments.
Possible policy changes and their impact
Beyond the immediate outlook, Professor Furman discussed policy changes that could come depending on the outcome of the presidential and congressional elections. A strong economy and incumbency status make it more likely than President Trump will be re-elected, in his view. In that case, who will be appointed as Fed Chair in 2020 will become an important issue for the markets and the outlook for monetary policy.
The election may have significant implications for US tax policy: estimates range from USD 17 trillion in tax increases to USD 1.5 trillion in tax cuts depending on the candidate.
Sectors which could be impacted:
- healthcare (whether single payer or a public option is implemented)
- energy (via the Green New Deal or carbon pricing)
- finance (through changes in regulation and/or taxes)
- technology (through regulation or antitrust measures).
An increase in the minimum wage would affect a meaningful share of the workforce, and infrastructure spending could rise. Professor Furman highlighted the convergence between candidates on trade, at least with China, with many calling for tariffs or other restrictions.
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Any views expressed here are those of the author as of the date of publication, are based on available information, and are subject to change without notice. Individual portfolio management teams may hold different views and may take different investment decisions for different clients.