President-elect Donald Trump’s planned expansion of fiscal policy will mean central bankers have to take a back seat, thereby alleviating the world’s largest economy from harmful loose monetary policy, according to star manager Richard Buxton (pictured). 
The manager, who runs the £2.1bn Old Mutual UK Alpha fund, says there is a bull case as an investor for the controversial Republican to become president and believes his revolution of the US economy could have positive repercussions globally.
On the other hand, JP Morgan’s David Kelly warns that increased fiscal policy – one of the few areas of Trump’s manifesto that many investment professionals have been positive on – is “reckless” given current US debt levels.
While little is known about Trump’s final manifesto, there has been speculation that the outspoken president-elect may water down some of his more extreme proposals following his conciliatory speech after he won the election last Wednesday.
This may have been one of the reasons why markets didn’t react as negatively as many investors expected them to, with the S&P 500 index returning a relatively flat 3 basis points over the last week and the FTSE 100 falling by just 88 basis points over the same time frame.
Performance of indices over 1week
Source: FE Analytics
As mentioned above, one potential positive of a Trump victory noted by industry commentators is his plan to increase fiscal spending.
In an investment note published one day after the election results were announced, Mirabaud Asset Management’s Macro-Strategy team said it was increasing its exposure to domestic-facing US equities given that the easing of fiscal pressure will “support the internal components of US activity”.
In an FE Trustnet article published last week, Unigestion’s Florian Ielpo and Jeremy Gatto also said what is known of Trump’s programme so far is “remarkably favourable” for the US market given his plans to boost fiscal stimulus.
Buxton agrees that this offers a bull case investment-wise for Trump’s tenure as US president, arguing that central bankers will no longer be able to continue loosening monetary policy, which would ultimately be harmful to the global economy.
“Yes, this is a sea-change. Yes, there are many uncertainties ahead. Yes, to a generation brought up on the beneficial impacts of increased globalisation of trade, the prospect of throwing that multi-year process into reverse is scary,” the manager said.
“But, consider the following. This is the end to the Washington consensus, to the era of 'Davos Man', to the belief that an elite knows best how to manage the global economy.
“This is the high watermark of central bankers. From here, they will gently decline from being financial gods – arguably more powerful even than elected politicians, markets trembling on their every word – to officials, public servants of the common good.
“For those of us who believe that central bankers have led us up a blind alley, this can only be good news. Negative interest rates, negative bond yields, central bank purchases of corporate bonds at yields well below those of the same company's equity yield…this is ‘Alice in Wonderland’ central banking.”
Buxton says that there is no “exit route” for central bankers promoting loose monetary policy as they would “lose face” if they abandoned their untried and untested policies.
As such, he believes it is a relief that they will no longer have such a significant influence over US policy.
However, JP Morgan’s Kelly believes it is the wrong time for the US to implement fiscal stimulus given the already-high levels of debt on the government’s balance sheet.
“These [fiscal policy] proposals are predicated on the idea that the US economy is seriously underperforming its potential and is in need of a big fiscal stimulus,” the chief global strategist said.
“However, there are two problems with this viewpoint. First, the federal budget is already dangerously out of balance. Second, the economy is already at full employment so that stimulus applied now is more likely to stoke higher inflation and interest rates than greater real GDP growth.”
He argues that the federal deficit is already rising, having increased to 3.2 per cent of GDP from 2.5 per cent over the last year.
According to Kelly, the Congressional Budget Office also predicts that US debt will grow by 11 percentage points to 86 per cent in fiscal 2026 under current law.
“In recent years, low interest rates have reduced the interest cost the Federal Government has to pay on the national debt and have somewhat numbed investors to the serious long-term threat it poses,” he explained.
“However, it does not take a brilliant mathematician to see that if long-term Treasury rates return to more normal levels, financing this debt will absorb a much greater share of federal revenues over time.
“In the 50 years before the financial crisis, the average interest rate paid on federal debt was 5.6 per cent but the average debt-to-GDP ratio was just 37 percent. A 5.6 per cent average interest rate on a debt equal to 105 per cent of GDP would be ruinous.
“The truth is boosting the federal debt to these levels is fiscally reckless.”
Kelly also points out that the US unemployment rate is at 4.9 per cent, which is lower than it has been 77 per cent of the time over the past 50 years. As such, he believes that increasing fiscal spending at this point would be “completely inappropriate”.
“In this economy, a shock boost to aggregate demand through tax cuts would likely boost inflation and imports more than domestic production, since the US economy is supply-side constrained,” he continued.
“Higher inflation and bigger deficits should lead to higher interest rates – particularly if the Federal Reserve perceives inflation risks as having risen and so raises short-term interest rates.
“The American economy is more like a healthy tortoise than a sickly hare. Immigration reform designed to increase skilled immigrants or policies that boosted productivity growth might give the economy the ability to run faster. However, in the absence of this kind of supply-side effort, boosting aggregate demand to make the tortoise run faster would mainly result in over-heating.”
While Kelly believes a pick-up in inflation and growth will benefit US stocks in the short term, he says increased fiscal stimulus from a heavily-indebted government in a full employment economy could be dangerous.
Buxton, on the other hand, says it is needed to prevent the continuation of loose monetary policy by central bankers, which is also dangerous in itself.
He adds that the media reaction to a Trump victory has been alarmist, which also hasn’t helped sentiment towards the economy’s future prospects.
“Media reaction when Reagan was elected president was alarmist. He was widely deemed a warmongering failed actor, with no credible prospects in government,” the manager pointed out.
“He faced down the USSR, created supply side reforms which ushered in an era of prosperity for the US and elsewhere - and died a much-loved national hero.
“I am not forecasting the latter for president Trump, but I do think commentators will be surprised by how positive his revolution will be for the US – and global – economy.
“We may look back in time and reflect how good it was that we were all freed from the orthodoxy of rule by central bankers.”