US: It’s all about politics - Westpac

Elliot Clarke, Senior Economist at Westpac, explains that the hype surrounding US politics and its capacity to drive global growth forward persists, yet progress on making these plans a reality remains disappointingly slow.

Key Quotes

“In much the same way, growth in the real economy has continued to underwhelm optimistic expectations based on strong jobs growth and above–average levels of confidence.”

“Beginning with the state of play in Washington, while a new resolution to stave off a budget shutdown was passed in the nick of time this month (allowing the Government to pay its bills as they fall due until September), progress on key reforms has stagnated.”

“President Trump’s decision to sack FBI Director Comey last week has also not won him any favours. Instead, the need to find a replacement for Comey and get the appointment approved by Congress will now create another distraction for Democrats and Republicans alike. The process is likely to prove protracted, particularly if the administration continues to refuse to appoint a Special Prosecutor to investigate lingering questions over ties between the 2016 Trump campaign and Russia.”

“For the FOMC, the inability of the economy to regain past rapid growth rates does not preclude a continuation of interest rate normalisation. This is because, on not only their estimates of potential growth but also our own (more pessimistic) expectations, the real Fed Funds Rate remains below neutral – that is, policy remains accommodative. The rate hikes we expect in June and December 2017 will still leave the policy rate below neutral. Indeed it is not until the end of 2018 that we anticipate a real neutral Fed Funds Rate of 0% will be reached.”

“Through 2018 however, two clear points of tension will develop. Firstly, it will be critical to assess how the Fed’s planned normalisation of its balance sheet impacts financial conditions given its potential to materially impact term interest rates over and above the policy rate effect. This could cause a pre–emptive tightening in financial conditions and slow growth. Secondly, the seeming inability of the US economy to grow meaningfully above 2%yr will call into question the degree to which the Trump administration can assume growth will offset lower marginal tax rates. It will also limit the scale of government spending on infrastructure possible without the deficit and outstanding debt rising rapidly on a three to five–year horizon. Clearly, through 2017 and into 2018, the market’s optimism over growth will remain at risk.”