US president Donald Trump is tearing up the rules and putting America first – which is just what his voters wanted him to do. John Stepek explains what that means for your money.
This time last year, if you’d suggested that the US president – even a president like Donald Trump – would shortly be on better terms with the leader of North Korea than with the prime minister of Canada, then you’d have been laughed out of the door. In October, we even wrote about investing in missile defence, given that Trump and Kim Jong-un were trading insults on Twitter, and there were genuine concerns about the potential for war – maybe even a nuclear exchange. Yet by the end of this week that was all ancient history.
At the weekend Trump marched out of a G7 meeting of developed-world governments and pulled his endorsement from an already lukewarm communiqué on global trade. Meanwhile, he accused Canadian leader Justin Trudeau of being “dishonest and weak” because Trudeau had said in a press conference after the meeting that Canada wouldn’t “be pushed around” on the issue of trade tariffs. Then, by Tuesday morning (British time), he was shaking hands with his North Korean counterpart in Singapore, heartily endorsing an equally lukewarm communiqué on Korean denuclearisation, and declaring that he and the dictator – “a very talented man” – had “developed a very special bond”.
What on earth is going on? It might seem like madness – and it’s been presented like that by plenty of commentators – but in fact it’s pretty straightforward. Trump is doing exactly what the American people voted him in to do, and what he’s always believed in. That is, to put America first – whatever the cost.
From Pax Americana to America First
Trump has always been a proponent of “America First”. As BuzzFeed points out, in 1987 he spent nearly $100,000 on advertisements in US newspapers, calling for America to “end our vast deficits by making Japan, and others who can afford it, pay. Our world protection is worth hundreds of billions of dollars to these countries, and their stake in their protection is far greater than ours… let America’s economy grow unencumbered by the cost of defending those who can easily afford to pay us for the defence of their freedom.” And, notes Edward Alden on Politico, in his 2000 book The America We Deserve, he wrote that, if elected president, he would “take personal charge of negotiations with the Japanese, the French, the Germans… I guarantee you the rip-off of the United States would end”.
But for a long time it has suited America to go the other way. It took on the role of “global policeman”, however reluctantly, at a time when Russia, its rival nuclear superpower, directly threatened its own interests. It also suited America to promote the benefits of free trade – winning hearts and minds through the spread of capitalism was one key way in which the Cold War was won, after all. And after that, globalisation brought cheap goods to American consumers, and a cheap workforce and therefore higher profit margins to American companies, their shareholders – and, let’s not forget, their exceptionally well-paid management teams.
Times, however, have changed. On the first point, the legacy of the September 2001 terror attacks – a disastrous and unpopular war in Iraq that left America feeling abandoned by many of its allies, and with its moral authority badly damaged – helped to put Barack Obama into power in 2008. Under Obama, America began the process of handing in its sheriff’s badge. The killing of terrorist leader Osama bin Laden in 2011 could be seen as an attempt to declare “mission accomplished” and draw a line under the extent of America’s engagement in the region, even if in practice that was far from the truth. To push home the point, one major reason for Hillary Clinton’s loss to Trump in 2016 was the perception of her (fairly or not) as a foreign policy “hawk” or even a warmonger. So the era of “Pax Americana” is firmly over. That doesn’t mean that America is going to yank all its troops from abroad, or from areas where it feels it has genuine interests at stake. But the desire now is to disengage where it can – which implies its allies having to pull their weight more when it comes to monitoring their own backyards.
The defence bill is due
That’s what the G7 dispute is really about. Protectionist measures between the US and Europe (and most wealthy developed countries for that matter) are not particularly imbalanced on average, notes Dutch bank ING. However, a sizeable section of America (and clearly Trump is among them) feels that the country has given its allies something of a free ride, enabling them to shelter under its defence umbrella for many years. In another tweet in his post-G7 frenzy, Trump wrote: “the US pays close to the entire cost of Nato – protecting many of these same countries that rip us off on trade”. (You might note that this gives his decision to go ahead with imposing tariffs on both steel and aluminium imports from America’s close allies, as well as from China on grounds of “national security”, an added ironic piquancy.)
Yet Trump has a point, which German chancellor Angela Merkel has readily conceded. North Atlantic Treaty Organisation (Nato) members agreed in 2014 to spend 2% of GDP on defence by 2024. The US already spends around 3.5% of GDP on defence each year. Greece, Estonia, the UK, Romania and Poland all spend around 2% or a bit more. France is getting there, at about 1.8%. But most of the rest are well off course. Germany, for example, spent about 1.1% of GDP on defence last year, and is still only on course to meet the 2% target by 2030.
That’s likely to accelerate now – Trump’s decision to look at imposing tariffs on imports of European cars will terrify German manufacturers in particular. If higher defence spending is the price of maintaining current trade conditions, then politically it seems a small price to pay. Of course, none of this means that the US itself is likely to spend less on defence – the whole point of massively outspending every other country on the planet is to maintain the most overwhelming military power and thus be able to face down potential threats. But as Trump puts it, as far as he’s concerned, when it comes to America’s allies, “we’re the piggybank that everybody is robbing. And that ends.”
This also puts his attitude towards Russia and North Korea (and Iran, for that matter) into perspective. It boils down to clearly delineating America’s particular spheres of interest, and then making it clear to other nations: “if you stay out of our business, then we’ll stay out of yours”. On North Korea, for example, America is telling Kim Jong-un (and China): We’re not interested in regime change. Nobody wants that kind of hassle. We’d just as soon pull our troops from South Korea. So stop stirring up trouble and brandishing your nukes, and we’ll leave you alone to get on with your despotism in peace.
Robots didn’t steal your job – China did
As for China, that takes us to the second point. The problem with globalisation – or more specifically, the rise of China – is that it has left a lot of losers on the American side of the fence. America’s manufacturing workforce declined precipitously between 2000 and 2010. From 1960 to 2000 the manufacturing sector employed roughly 17.5 million Americans pretty consistently, notes Gwynn Guilford on Quartz. The absolute number of workers didn’t change much. Yet between 2000 and 2010 it “plummeted by more than a third. Nearly six million American factory workers lost their jobs.” That’s even more devastating than the factory-job losses seen during the Great Depression. However, no one got too worried about it (except the ex-workers, of course) because US manufacturing output continued to rise. So the mainstream explanation has been that humans have been automated out of a job – a typical piece from the Associated Press before the 2016 election noted that: “Donald Trump blames Mexico and China for stealing millions of jobs from the US. He might want to bash the robots instead… manufacturing is still flourishing in America. Problem is, factories don’t need as many people as they used to because machines now do so much of the work.” Thus angry blue-collar former factory workers raging about Chinese currency manipulation and offshoring were patted on the head and told with a shrug: “That’s progress”.
Yet the figures never entirely added up. For a start, as Jill Petzinger notes, also on Quartz, Germany managed to quadruple the number of robots it used between 1994 and 2014 (far outstripping the levels of automation seen in the US) – yet researchers found that the impact on employment was “close to zero”. And a number of more in-depth US studies suggest that the “robo-takeover” view is wrong, because it’s based on flawed data, notes Guilford. Economist Susan Houseman of the Upjohn Institute conducted a more detailed analysis of manufacturing output data, and found that apparently booming productivity was all down to a small but fast-growing sub-sector – computing. Put simply, computers have improved very quickly over a short period of time. To account for that, economists make “hedonic” adjustments, where, in effect, a computer that’s twice as good as one made last year counts for twice as much in the manufacturing production data. However, you still only made one computer, even if it was twice as good. This sector distorted the overall manufacturing figures to the point where it made output look much bigger than it really was. In reality, when you strip out computers, real manufacturing output in the US in 2016 was lower than it had been in 2007.
The hollowing out of America’s manufacturers
So what’s really behind the collapse in manufacturing employment? Competition from China. Cheap Chinese imports made it too expensive to make goods in the US. And, encouraged by China’s accession to the World Trade Organisation in 2001 – which, argue economists Justin Pierce and Peter Schott, made it harder for the US to retaliate against China’s protectionist trade and currency policies – multinationals went overseas to profit from cheap labour. “In effect,” says Guilford, “US policymakers put diplomacy before industrial development at home, offering the massive American consumer market as a carrot to encourage other countries to open up their economies to multinational investment.”
The election of Trump indicates that those disadvantaged by this hollowing out now outnumber the beneficiaries of the “cheap consumer goods for all” era (especially after the 2008 financial crisis brought an end to the debt-fuelled consumption boom). Hence the US is no longer willing to turn a blind eye to China’s protectionist policies, or its cavalier attitude towards intellectual property rights. None of this means that trade war is good. Nor are America’s huge trade deficits all about unfair terms of trade – they are at least as much about Americans spending too much and not saving enough. But that’s not the point. The point is that America’s strategy has changed. It no longer feels that it’s getting a good deal out of the global order that it, more than any other nation, helped to establish. Now it wants to change those rules. Given America’s dominant place in the world, it feels that it’s in a good position to do so, and it’s probably right.
And while Trump – a real-estate tycoon, best known for his deal-making boasts – makes a very appropriate figure to represent this change, don’t imagine that this is all about him, says Financial Times columnist Rana Foroohar. “It is naive to think that once Mr Trump is out of office, multilateralism will somehow rematerialise… this US president is the symptom, not the cause of the problem.” Americans voted for Trump – just as they voted for Obama – because they want change. They want to tear up the old world order and negotiate a new deal. That’s bigger than Trump and it’s going to affect us all. We look at the best ways to prepare below.
The best investments to buy into now
The first question for investors is: how bad will trade wars get? If you accept the view outlined above, then Trump’s goal is not to trigger a trade death spiral – it’s to use America’s undeniable clout as a massive market to get a better deal from its trading partners, which he can then present as a victory to the US electorate before November’s mid-term elections. Assuming that other nations (including China) end up compromising, then the overall impact on global trade shouldn’t be especially disruptive to markets or economic growth.
The risk, of course, is that other nations won’t compromise (after all, they have voters too) and instead we will get tit-for-tat. On that front, it’s worth keeping an eye on developments in the car industry, as that’s where the next phase of trade disputes is likely to blow up. If global trade is genuinely under threat, then that would be a problem for everyone, but it would be particularly bad news for Germany’s stockmarket. So if it looks as though we’re heading for all-out trade war, and you’re in the mood for a punt, then you could short the German stockmarket using various exchange-traded funds (ETFs). ETF provider ETF Securities has a number of “short Dax” ETFs with varying levels of leverage that would allow you to profit from a fall in the German market – just remember that this is a short-term trade rather than a “buy and hold” investment.
Alternatively, we will see a gentle retreat from globalisation, rather than a full-blown trade war, with more favouring of local firms. Given that most developed nations are close to full employment, this suggests that wages are likely to go up. That will be good for economic growth, but it’s not necessarily so good for corporate profits, particularly if this is the beginning of the long-awaited point where “labour” starts to reclaim some of the economic pie from “capital”.
This process is in fact already entrenched. The number of US manufacturing jobs has rebounded from its 2010 low of 11.5 million and in the last year or so has picked up pace. The sector now employs more than 12.5 million people and the pace of growth is close to a 30-year high, says Bloomberg. According to data from the Reshoring Initiative, “for the first time in decades” more manufacturing jobs came back to the US in 2016 than left, partly due to rising costs in China.
This trend is only likely to continue. As Rana Foroohar points out in the FT, “most US companies that I speak to are shortening their supply chains – not only because of an increased perception of political risk, but also due to energy-price inflation, a desire to meet customers’ just-in-time product demands and… appetite for locally sourced goods”.
This will create a more inflationary environment, as we’ve discussed in several recent issues of MoneyWeek (to sum up, it’s tricky for bonds, probably good for gold, and it implies better times for cyclical and value stocks, at least in the early stages). Rising wages will also be good news for robot manufacturers – it creates an incentive to invest in their products to replace increasingly expensive human beings. The iShares Automation & Robotics ETF (LSE: RBOT) is one way to play the trend. Another option is L&G ROBO Global Robotics and Automation ETF (LSE: ROBO).
Also, if the US wants other countries to shoulder more of the financial burden for their own defence, then that’s good news for defence stocks. One simple (though US-focused) way to invest in the sector is via the iShares US Aerospace & Defence ETF (LSE: OJJD).