Since the US election, international trade has been right at the top of the Trump agenda, through taking an ‘America First’ stance, in partnership with tax reform, in a bid to boost economic growth. To put some numbers forward, the CNBC Fed Survey, which poses questions to top fund managers, economists and strategists, found that 75-95% of participants have positive views on Trump’s tax stance, but 83% have negative views of his trade agenda.
Trump’s proposals will have a historic effect on the US economy and world trade, and that naturally changes the foreign exchange market before anything else, closely followed by global equites, credit and rates. As FX is so heavily affected by the macro environment, itself dominated by what happens with global trade, these ‘macro drivers’ will be the primary focus of this article, followed by an outline of which currencies to put on the watch list.
US Protectionism and the Drivers of Opportunity
US protectionism is currently being driven by policy and trade agreement changes. The US has a number of trade agreements with other countries, including NAFTA and the TPP (Trans-Pacific Partnership), the latter of which the US left on January 23rd 2017.
Leaving the TPP was a particularly historic move for the US and this will definitely be something which contributes to change. The US originally joined the TPP to stop Chinese dominance in South East Asia and ASEAN, and to gain a geographical pivot towards the region.
Furthermore, the US had voting rights on topics within the partnership such as pollution, anti-dumping and currency manipulation, which would have acted as a way to influence sustainable growth. But, with the US now no longer a part of this, the region may see a push towards unsustainable growth.
The Big Backfire
It is now thought that, in spite of Australia’s efforts to bring in a ‘TPP -1’ partnership (in which all countries excluding the US continue working together) China will use its position as the most influential trader in the region to push forward its own trade partnerships such as RCEP (Regional Comprehensive Economic Partnership). The difference now is that they will focus almost entirely on trade and economics, with little consideration for sustainable governance.
Further issues to rise from American policy is that the ‘America First’ logic may cause other countries to follow suit and commence a trade war, damaging global trade and therefore global GDP growth. This would be particularly harmful for ASEAN countries for whom a large proportion of GDP is derived from exports: for Taiwan, for example, the figure is 55%, South Korea, 38%, and many emerging markets, around 45%. Issues with export-reliant countries is something that is reflected in America as well, specifically with NAFTA. 80% of Mexico’s exports go to the US, which makes up 25% of its GDP.
If exports suddenly decrease dramatically, this has a significant negative effect on the value of a country’s currency, due to a strong decrease in the balance of payments. Furthermore, countries that rely on exports for GDP growth could then see economic recessions, leading to many further issues that inflict downward pressure on FX rates, such as deflation and decreased interest rates.
Exceptions, Exceptions, Exceptions
Until now, exports have been mentioned in a very general sense. This is, however, not the reality: exports can be in both goods and services – and within these two categories, certain things may not be as severely affected by protectionism.
An example of this is with commodities. If the US does not have these in abundance, there is a reliance on other countries for materials used in the manufacturing of consumer goods of. This is enough of a reason for the US to not introduce a tariff on these commodities as the increased cost will have to be passed on to the consumer in the form of increased consumer goods prices, having a negative effect on US output, and, ultimately, US GDP growth.
Likewise with supply chains: countries exporting supply chain goods that are used in manufacturing US products on US soil will also most likely not be taxed significantly, as this would again be detrimental to US consumer goods prices. The same is also true for US companies that have moved manufacturing overseas, for example to India or China: there will be a knock-on effect for the price of their goods if imports become taxed across the board.
The above considerations must all be taken into account when assessing the potential policy changes and ultimately their effects on FX.
The Obvious Movers
Using the above outlined macro drivers, it’s initially possible to outline some countries whose currencies will immediately see upward or downward movements as a result of Trump bringing in an import tax.
Having previously mentioned countries in Asia, immediate targets would be countries such as Japan and Korea who export electronics and automobiles, amongst other things. A tariff on these goods makes them more expensive, naturally reducing exports from these countries. The FX effect of this is a weakening of the yen and won against the dollar.
Furthermore, in the longer term, the economic slowdown in China that could come from its reduced exports to the US through a reported 45% tariff will have further negative effects on surrounding trading partners in East and South-East Asia. A notable large economy outside this area who would also fall into this category is Australia.
Not only is the US Australia’s 4th largest trading partner, but over 30% of Aussie trade is aimed at China in the form of commodities. Chinese recession combined with falling US demand for Chinese exports would be reflected in reduced imports of Aussie commodities to China and ultimately a weakening of the Australian dollar.
It was previously mentioned that 25% of Mexico’s GDP is made up of trade with the America. An import tax on Mexican products would be disastrous for the Mexican peso. However, many of these exports are products manufactured for American corporates, so a tax would have a negative impact on US consumers, as the cost would ultimately be passed on to them. For this reason, the peso’s ultimate collapse will take slightly longer, happening via the closure of Mexican factories.
In terms of countries which may not be hit as badly by an import tax, it’s necessary to look for those whose exports are either not directed at the US, or for those countries whose exports the US relies upon – either in the form of commodities that the US does not possess, or supply-chain or component goods that are used in the consumer goods manufacturing process of US products.
An example of this is South Africa. Their exports to the US are primarily metals, precious metals and supply-chain goods, all of which are used in the manufacturing process for US consumer goods manufactured either in the US or in Asia. Either way, a tariff on such things would have an immediate knock-on effect of increased costs for US companies producing the end products, something which would either erode margins or be passed on to the consumer.
On the consumer side, US goods would then become less attractive compared to cheaper foreign equivalents which does nothing for internalising US demand.
For all of the cases outlined, there are a number of other currencies which would be equally as affected, however this article was intended to provide an initial examination of the macro drivers at the front-line of a Trump import tax under US protectionist policies.
A final thought to consider is what happens in other markets when the outlined effects to FX take place. More trading opportunities will arise when large FX movements have just happened: if the Japanese yen tumbles, for example, Japanese equities would suddenly become cheaper for foreign investors. This means that after an initial Nikkei fall, certain stocks would become a bargain for foreign fund managers, above all if the companies in question offer goods or services not threatened by US protectionist measures. The same would go for any other country whose currency would fall against the dollar.
An Update on Trumptopia: What’s Going on in the USA?
Whiskey Tango Foxtrot (WTF)
This 2016 movie, produced by and starring Tina Fey, is based on a book that was written as a memoir by the main character, Kim Barker. It follows a period of three years between 2003 and 2006 – it was initially supposed to be a three-month assignment – when Kim takes an assignment to be a war reporter in Afghanistan.
The premise of the movie is that one’s perspective shifts to adapt to the circumstances, however bizarre, in the manner of the proverbial frog in increasingly hot water. Kim exits before she is boiled, but only just. The most poignant moment in the movie (there are not that many – the emotional tone is mostly flat), is when Kim returns home to visit a marine who lost his legs to an IED in Helmand Province. She had been told by a fellow reporter that the marine’s assignment to Helmand resulted from a segment she reported where he discussed his habit of keeping his weapon unloaded. He had greater fear of an accidental discharge than of an engagement with the enemy.
Barker felt guilty and wanted to give him the opportunity to reproach her. His response was not to blame her at all: “You embrace the suck. You move the f**k forward. What other choice do we have?” He gives her a brief history lesson on the murky issue of causation of the war in Afghanistan and the Middle East.
It is a telling lesson on the complexity of the human condition, people’s tendency to overestimate the magnitude of their own causal contribution to world events and a reminder that there are fewer easy answers than might be desirable.
Fire and Fury
The recent book by Michael Wolff is an excellent read not because it reveals anything the reader has not already heard or suspected, but rather as a sober chronicle of dysfunction and a reminder of what government should be about and what it should not be, but all too often is about.
There was drama in the LBJ administration. There was inappropriate behaviour; foul language; manipulation; ego. LBJ’s time as Vice President was a marked contrast to his stature as Master of the Senate. The transition to President in the wake of JFK’s assassination was remarkable. As the world watched, wondering how this would go, Johnson worked the levers of power to bring in a budget below the level of $100bn demanded by Harry Byrd, Chairman of the Senate Finance Committee as the price for releasing JFK’s tax cut bill that was holding up consideration of the Civil Rights Bill. LBJ continued to work his inside the ropes knowledge of the legislative process to get the Civil Rights Bill passed into law. This was American government at its best.
The picture Wolff presents is American government at its worst. The legislative initiatives that have been undertaken by the current administration are healthcare reform; tax reform; immigration reform. Healthcare struggled and failed; tax reform passed and immigration reform is caught up in the politics of funding the government.
The President’s approval ratings are in the doldrums; he is forced to deny the racism revealed by his vulgar language and he is fighting with his Chief of Staff via twitter. In the meantime, those whose deportation hangs on immigration reform live in fear of arrest and infrastructure reform is on hold.
Unified Field Theory
Steve Bannon, the early architect of the Trump administration policy (since ousted and discredited by the President) and the author of the President’s Inaugural Address, was widely considered to be a proponent of a comprehensive policy to take the country back – a kind of unified field theory. His premise was that the American people had spoken through the election of Donald Trump. His organizing philosophy was a robust ‘America First’ policy on trade; a very restrictive immigration policy (widely interpreted as White Nationalist and anti-Muslim) and generally tearing down the administrative state to restore power into the hands of the executive branch.
This political philosophy was well targeted to flatter the ego of the President. Wolff’s book reveals that the President does not read and rarely listens. His attention wanders quickly and the passage to his understanding is apparently a narrow window defined by short-burst images and soundbites frequently played out on his favourite cable news network, Fox News.
There could not be a sharper contrast to the skill set required to approach the long-term issue of, for example, infrastructure repair. There could not be a sharper contrast to the achievement marked by the Civil Rights Act. There is no unified field theory of human progress. It is about hard work, incremental steps and the occasional watershed victory. Bannon was short-lived.
How Hot is the Water Right Now?
Kim Barker refers in her book and in the movie to the concept of “Kabubble”, the world in which the reporters are analogized to frogs in boiling water. The need to keep the war top of the media’s mind at home requires ever more extreme assignments at increasing levels of risk to the reporters and their teams.
The US is currently living in its own Kabubble: Trumptopia, a land where hours of media coverage are devoted to discussions of whether the President used the word “shithole” or “shithouse” to describe certain countries whose populations are considered unsuitable for immigration by the President on the basis simply of their geography (and perhaps, coincidentally, the colour of their skin).
Senators sacrifice their credibility in the cause of loyalty to a President who never repays it. If the key issue is which word was used, the story has missed its mark. If the public wishes the coverage would end because, not surprisingly, it is tired of the noise, then the essence of Trumptopia is revealed: the use of the bizarre to distract from the appalling.
Heads are spinning, and the frog has only a little time left…
UN Drug Treaties Need to Rethink Cannabis
Europe, in general, is less concerned with religion and the personal morality of others (pre-marital sex, adultery) than the United States, according to a Pew Research Center poll. So why is cannabis legalisation facing a more difficult time in Europe than in the US? Perhaps because they also trust the government more and cannot petition to overturn or change unpopular laws as they can in the US.
An unasked question is whether governments or the people can or should violate international agreements – such as the Single Convention on Narcotic Drugs, which prohibits non-medical sales of marijuana – unilaterally, and what the consequences might be. We may soon find out. Canada is poised to start selling recreational marijuana on July 1, and Uruguay already has.
A Right to Marijuana?
While the US government hasn’t legalised marijuana, approximately 30 of its 50 US states – plus Washington, DC – have legalised putatively medical marijuana, and eight also have legal recreational marijuana. Almost all won those rights not through the local legislative process but instead by a voter referendum. Most European citizens don’t have that power, perhaps because they aren’t as suspicious of the government as the US, or aren’t as fanatic about personal liberty and responsibility as the government taking care of them. Free speech (it’s much harder to be convicted of libel in the US), the right to own and bear arms, and even resistance to universal healthcare are examples of this US mindset.
This mindset also means that change in the US usually begins at the local state level. That’s why the late US Supreme Court Justice Louis Brandeis famously referred to the states as ”laboratories of democracy” in 1932. Sometimes state laws become federal laws by a decision of the Supreme Court, such as abortion and same-sex marriage.
Marijuana Harms Vs. Benefits
In the US federal law still prohibits all uses of marijuana, medical or not, because of marijuana’s inclusion on Schedule 1 of the 1961 Single Convention on Narcotic Drugs. That means it is officially considered highly addictive, unsafe for any use and with no medical benefits. Marijuana is similarly included in the 1971 Convention on Psychotropic Substances, and the 1988 Convention against Illicit Traffic in Narcotic Drugs and Psychotropic Substances.
That is stuff and nonsense. At the very least cannabis is safer and less addictive than many legal drugs, including alcohol and the prescription drugs driving the opioid epidemic. Unlike those deadly but legal substances, no one has ever overdosed on marijuana, and it is arguable whether or not it is physically addictive.
In Texas, though half of the US Drug Enforcement Agency offices consider marijuana the number one threat, it had zero associated overdose deaths. The drug that the other half name, methamphetamine, had 715 deaths attributed to it in 2016 alone, so it’s clear which rehab centres in Texas should be most concerned about.
Cannabis also has demonstrated anecdotal health benefits for many conditions, including chronic pain, post-traumatic stress disorder, and even opioid addiction. Its very illegality makes accumulating rigorous scientific evidence, or even getting approval for such studies, almost impossible.
Marijuana’s probable benefits (versus its low risk) are why so many US states have legalised medical marijuana, despite its illicit nature. That the US so widely violates those treaties in regard to marijuana (as well as federal law) seems ironic since many believe marijuana is included in the treaties largely because the US government wanted it there.
US Government Still Opposes Marijuana
Apparently, it still does. US Attorney General Jeff Sessions, a legalisation opponent, has made threatening noises about enforcing the federal marijuana laws for months. In early January he rescinded two memos that had encouraged federal law enforcement to defer to state law so long as certain guidelines were met (no access to minors, no shipping across state lines, etc.).
Even in the face of Sessions chomping at the bit to enforce federal marijuana laws, more states are considering legalisation. Missouri, Oklahoma and Utah could pass medical marijuana laws this year, and Michigan and New Jersey seem almost certain to pass recreational laws.
Certainly, the tax revenue derived from marijuana sales is one draw. Colorado, the first state to enact recreational marijuana laws, reported $193.6m in tax and fee revenue from marijuana in 2016. California, which began recreational sales this month, anticipates at least $1bn in tax revenue annually.
Some opponents, without much evidence, claim the costs of legalisation will mostly cancel out these revenues, but most studies find little or no change. Maybe more people will seek treatment at luxury rehabs in California.
At least one item still dissuading Sessions from following through on his threats is the Rohrabacher–Farr Amendment, which prohibits the Justice Department from spending funds to enforce federal marijuana laws in states that have legalised it. It is part of the budget resolution that the Congress keeps kicking down the road, most recently to January 19 (and they may kick it again). Sessions wants Congress to remove it.
Justin Strekal, political director for the National Organization for the Reform of Marijuana Laws (NORML), says that wouldn’t end marijuana use in those states, merely return it to the black market, which could put $7bn back into the hands of drug cartels.
Barriers to Legalisation Remain
Those three international drug treaties might be the most significant barrier to total marijuana legalisation in the US and elsewhere. Even if the US Congress chooses to change the law to make marijuana legal, or the executive branch removes marijuana from Schedule 1 (either by moving it to another, less restrictive schedule or deleting it altogether), those treaties still stand. Changing them would require an international effort and cooperation.
Violating the terms unilaterally might encourage other governments to act similarly, maybe with more harmful drugs such as heroin. The US is arguably the biggest supporter of these treaties. If it doesn’t comply with them, even in the narrow case of marijuana, the door will be open to other exceptions. (The Single Convention already has granted a major exemption to Bolivia for its tradition of chewing coca leaves, from which cocaine is derived, in 2013.)
On the other hand, Uruguay made marijuana completely legal to its citizens on July 19, 2017, and it is also a signatory to the Single Convention on Narcotics, but the sky hasn’t fallen yet (though it and the US have been under United Nations investigation since at least 2015).
Even if the US does nothing, maintaining the status quo, the effects of such a treaty violation may be felt when Canada’s legalisation law goes into effect later this year. The federal government in Ottawa says the provinces will receive 75% of tax revenues derived from cannabis sales, expected to be between $400m and $1bn annually.
Treaties Can be Changed
Canada could have withdrawn from the treaties completely. That requires a year’s notice, and sales are scheduled to begin July 1, 2018. Instead, Canada seems likely to stay with the treaties but just disregard them as far as marijuana is concerned. That might hurt its international reputation in general, and its attempt to get on the UN Security Council in particular, but other penalties seem unlikely.
There are ways around the treaties – the Transnational Institute suggests several in a 2016 briefing paper here – or of changing or writing new cannabis-only treaties. Stanford University’s Keith Humphreys, a Professor of Psychiatry, thinks it would be relatively easy for the world community to write a cannabis-specific treaty without unravelling the entirety of international drug treaties.
Mexico has legalised medical cannabis nationwide and is set to legalise marijuana-based medicines, foods, drinks, cosmetics and other products this year. A poll in the International Journal of Drug Policy found that 40% of respondents in Chile and Colombia favour legalising marijuana too.
With some form of marijuana available in almost all of North America, it’s time to amend not only US law but the international drug treaties to reflect reality, decriminalise cannabis and study its real harms and benefits.
Bitmain Considers Canada Move
The Chinese bitcoin miner is looking to expand abroad and is eyeing up Canada.
Editor’s Remarks: Although Bitmain has not confirmed that it is seeking an overseas relocation because of China’s recent announcement that it will clamp down on cryptocurrency trading, it is unlikely to be a coincidence. Just a few days ago, the company said it had also opened a new branch in Switzerland, which would play an essential role in its further global expansion. Now, it has publicly said that it is considering an expansion to Canada’s Quebec region, which will give Bitmain access to cheap hydropower to power its mining operations, leading a number of crypto miners to move there.
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