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What Will Donald Trump’s Presidency Mean for the Dollar?

The world would be a much better place if economists, politicians and pundits had this line from Henry Hazlitt memorized: “What is harmful or disastrous to an individual must be equally harmful of disastrous to the collection of individuals that make up a nation.”

It’s arguably the most important line ever written in any economics book. Hazlitt (1894-1993) was making the essential point that an economy is not a living, breathing blob; rather it’s a collection of individuals.

The eminent journalist’s words form the basis of Popular Economics, my 2015 book, in which I use examples from sports, movies, television, music, and well-known businesses to explain the four basic governmental barriers to prosperity: taxes, regulation, tariffs, and floating money values. When an economy is broken down to the individual, what might seem opaque becomes very clear. Figure that no individual is made better off by a bigger income-tax bill; no individual is able to create more wealth if more and more work hours are spent complying with regulators; no individual is made wealthier if tariffs block the world’s talented from serving his needs; and no individual is able to amass more wealth if the dollar earned is constantly being devalued.

Prosperity is blindingly easy when looked at through Hazlitt’s essential idea. Get the four basics right and the economy soars. Get even one wrong, and growth is hampered. All of this matters in light of Donald Trump’s becoming the next President of the United States. Depending on his relationship with a Republican-controlled Congress, Trump could find himself signing a lot of consequential legislation. If so, how do his economic thoughts, as expressed on the campaign trail, square with the four basics to prosperity?

On taxes, he’s good. Taxes are always way too high no matter the person in office simply because taxes penalize productive work and investment. Trump has proposed lowering the price of work (income taxes), the penalty levied on investment (capital gains taxes), the double taxation of individuals (the corporate tax), all the while calling for the abolishment of a horrid tax on progress: the estate tax. Figure that when estates are passed on unmolested, this increases  the amount of precious capital chasing the intrepid ideas that are crucial to progress.

Unlikely. Trump has expressed a preference for regulatory rollbacks. Good.

After that, things gets complicated.

The individual is enriched by free trade because free trade doesn’t just mean that one’s countrymen are vying to serve one’s needs, but the most talented people all over the world are vying to serve those needs. Best of all, the ability to import from near and far frees up the individual to focus on the kind of work most commensurate with this individual’s skills. Free trade is the driver of wealth-creation because it enables specialization. The problem is that Trump has expressed a preference for substantial tariffs on foreign goods. Reread this paragraph for what Trump’s trade stance will mean for the individual, and then continue reading to see what Trump’s protectionism could potentially mean for the dollar.

Simply put, the Federal Reserve doesn’t control the value of the dollar. The greenback’s exchange value is a political concept. Presidents get the dollar they want. In the 19th century, President Lincoln didn’t need a central bank to devalue the dollar. In the 20th century, the first two major devaluations of the dollar (1933, 1971) also were unrelated to a Fed that began operating in 1913. Presidents Reagan and Clinton wanted a strong dollar, and currency markets complied. President George W. Bush wanted a weak dollar and markets complied. Let’s apply this to President-elect Trump. His expressed desire for tariffs could be taken as a desire for a weaker dollar.

The economic problems that would result from such a stance are many.

For one, consider the individual, who is—remember Hazlitt—at the center of all economic activity. Money is a measure acquired by the individual for the real goods and services for which it can be exchanged. Devaluation means the money earned by the individuals who comprise the economy will purchase less, which means devaluation is bad for the economy as a whole.

The story gets worse: No economic school can get around the fact that investment is logically the source of company- and job-creation and, by extension, of economic growth. When investors put capital to work, they’re buying dollars in the future. Since they are, devaluation will deter investment—which means it’s a deterrent to economic growth.

Some will respond to all of this with what is alleged to be the unspoken good of devaluation, namely that it enhances exports. If dollars are cheaper, then so will U.S. goods be cheaper globally. Wrong on many counts. For one, a weak dollar renders the products made by foreign producers more expensive for American buyers. If it’s harder for us to buy from foreigners, it will be harder for them to buy from us. In short, a weak dollar logically shrinks global markets for U.S. producers.

Let’s also not forget that production of even the most basic of goods requires global cooperation. Even the pencils you use include imported inputs from around the world. As I said, if the dollar is being devalued, the cost of inputs increases. So does the cost of transporting those goods. So do labor costs increase. Workers generally don’t take income reductions quietly. Devaluation is just that.

Most important of all, investment is the greatest source of falling prices. Figure that all market goods start out expensive. It’s investment in production enhancements that brings down the price of everything. But if the currency is being devalued, investment stagnates. It becomes too risky for investors to commit capital if the returns on investment are being devalued. A weak dollar is a major enemy of falling prices because it’s an enemy of investment.

What all of this hopefully reminds the reader is that weak, unstable money is an insurmountable foe of economic growth, progress, and yes, falling prices. The dollar was weak in the 1970s and the 2000s, and economic activity slowed. Logically. A weak dollar is a major antagonist of the individuals who comprise the economy, not to mention of the investment that makes each individual more productive.

What’s unknown is where Trump will come down on this question. His protectionist leanings should have those in favor of good money scared, along with his oft-expressed view during the campaign that currency devaluation is the path to prosperity.

At the same time, the dollar has strengthened somewhat since the election. Since winning, Trump has been louder in his support for tax cuts, while his desire for a trade war with China has seemingly been pushed to the side. It had been floated that Trump was considering strong-dollar advocate John Allison to be the next Treasury secretary. While Allison would have been an ideal choice, considering his long and very public support of a stable dollar defined in gold terms, we now have a relative unknown, in the policy sense, slated for the most economically consequential of all administration positions. Time will tell if Steven Mnuchin mimics fellow Goldman Sachs alum Robert Rubin’s strong dollar leanings, or if he’ll talk down the dollar. The Trump presidency could pivot based on Mnuchin’s stance. If he talks down the dollar, he’ll be talking down the very investment necessary for a booming economy.

Presidents who succeed economically are generally remembered well. Though he campaigned on slow-growth protectionism and excessive government spending, Trump has seemingly changed since his election. He ought to spend his political capital on tax cuts and deregulation, all the while self-muzzling on the dollar and trade. If so, the economy soars.

Economic growth is basic. If Trump realizes what is true, he’ll be remembered for more than defying the odds. He’ll have presided over a boom. Time will tell. Watch the dollar. If it holds its value, rest assured that Trump will be one of the most successful economic presidents in a very long time.

Reader Discussion

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on November 30, 2016 at 09:59:13 am

All of Trumps talk of "renegotiating" or withdrawing from bad (lop-sided against the U.S.) trade agreements of course, hinges on his ability to convince international trading partners its as much to their advantage as to ours to level their economic trade playing fields to be more free & fair - a very tall order; but so was winning this election. Can he defy the economic predictions as well as the political; is "what's past prologue"?

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Paul Binotto
on November 30, 2016 at 11:57:29 am

"...while his desire for a trade war with China has seemingly been pushed to the side."

I am not certain that I buy this assertion. My read on The Trumpster is that he wants "free AND fair trade" - not a trade war with China or anyone else for that matter. As an example, let us recall his stated preference to put the United (well, somewhat united, Kingdom ) at the "head of the line", unlike his predecessor who would put all of Britain in "Coventry", unless, of course, they remained in one of the most overly regulated and restrictive market systems in the world.
How are we to assess The Trumpster's trade policy? By unsubstantiated assertions or by his clearly stated preference disavowing the EU and it's restrictive practices? Me, I'll go with the latter.

BYW: Even if The Trumpster and the Brits can negotiate a free (and fair) trade agreement, the EU will still IMPOSE it's usual 4.5% import tariff on all goods entering the EU market UNTIL Britain actually leaves the EU.
Heck, I'm looking forward to Brexit, - then perhaps, It-exit, Sp-exit, etc.

Give The Trumpster a chance; anyone who has spent a lifetime dealing with high taxes, excessive regulations and the added costs of imported materials required in the construction trades (via fees, regualtions, etc) may not be as dumb as some would allege.

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gabe
on November 30, 2016 at 14:16:42 pm

Mostly this is correct, but things are a little more complicated. For instance, you state “Devaluation means the money earned by the individuals who comprise the economy will purchase less, which means devaluation is bad for the economy as a whole.” I’m not sure this is true. If the value of the dollar goes down, then you would expect the individuals to demand more of them for their services, so overall (long term) there is little change in the economy based on the value of the dollar. Devaluation (or inflation) is really about short-term harms.

In the short run, those that hold long-term contracts cannot renegotiate those effectively. So it hurts those with buying services or goods with long-term fixed contracts or payments. This is why inflation is usually very bad for seniors on fixed pensions or social security (although social security is now at least partially responsive to inflation). In the short run, devaluation or inflation hurts those who possess the currency (but not those who hold ownership in stocks or other assets although even here you currently are required to pay capital gains taxes on inflated non-monetary assets). Long term if people think a currency will depreciate significantly they won’t possess it any longer than necessary before transferring into a more stable asset and so there is a little long-term harm here (just an annoyance at having to convert very quickly).

But it is true that employees may not be aware of changes in inflation very quickly and so salaries tend to lag a bit behind inflation (it takes time for people to realize the inflation rate change occurred as they don’t expect it).

If a foreigner has to spend $10 dollars to buy a good or $20 where the dollar is worth half as much, they are still buying the same amount of opportunity cost (there is I think little change in the long-term import/export ratio based on the value of the currency, in the short term there are changes).

Now as to investment, what is important is not actually inflation, but expected inflation. The expected inflation rate will determine how much benefit an investor will believe they need to get over the life of the investment to take the investment in the first place. But inflation increases both the necessary long-term payoff for the investor and the expected payoff likely to occur. Let’s say I’m willing to invest $100 now in the expectation of making $200 over the next year without inflation. If I expect inflation will cut the value of the dollar in half over the next year, then I will need to expect to make at least $400 to make it just as worth it. But if the value of the dollar is half as much, then if the business is just as productive it should be able to make twice the number of dollars as they are only half as valuable as today.

Really the problem only occurs when you’re talking about bonds and not stocks. If I invest for 100% ownership, the increase or decrease in the value of the dollar shouldn’t matter at all (all my inputs or outputs just go up or down by the same amount). But if I invest via bonds (borrowing), then I have an expected amount of money to be returned to me at the end which will not change based on the inflation rate. So a bondholder loses money if the inflation rate unexpectedly increases, and makes money if the inflation rate unexpectedly decreases. But if you expect the interest rate to rise or lower then you can incorporate that into the interest payment on the bond and (if the interest does what you expect) then no one gains or loses any money.

A much bigger problem occurs if the interest rate fluctuates significantly in such a way that it cannot be predicted. In that case, any investor is going to charge a fairly high price for their extra risk, and you may get decreases in investment (at least denominated in that asset). Although even in this situation, an entrepreneur may be more willing to accept the higher long-term price for such a loan knowing that they have a higher chance of upside if the inflation rate may swing their way. As long as the investor and the entrepreneur both agree on the odds of the inflation rate swings they can work out a deal.

All of this about investment is based on expectations of inflation (not actual inflation), although expectation of inflation is usually based on the history of inflation, large changes in monetary policy can shift expectations.

The best thing the Fed can do (or any such central bank), is establish fixed clear rules to keep the monetary supply stable. A small fixed inflation (or deflation) rate goal isn’t that big of a problem (as long as it’s not so large that people have the inconvenience cost of having to switch out of the inflating currency very quickly or start selling assets too much to hold on to a deflating currency), although ideally the value would just be stable. But if it isn’t stable, and people can expect it to change as the same rate, people can build contracts with those expectations in mind. For instance, employees would require yearly wage increases for increasing cost of living in their employment contracts.

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Devin Watkins
on December 01, 2016 at 09:28:07 am

I'm not sure why John equates Trump's trade policies with devaluation. The market certainly doesn't; the USD has surged since Trump won. There are a number of reasons for this. One is the expectation of higher US interest rates. Another is the expectation of greater re-shoring of industries, which will bring investment funding from abroad. Lastly, there is the expectation that the US's trade deficit will shrink because the US will finally be playing the trade game the way everyone else does. That alone makes the US more competitive, which means it can withstand a higher USD.

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Greg
on December 01, 2016 at 09:44:06 am

Good points; also, if it hasn't already been mentioned, I think there is an expectation of some sort of tax amnesty for returning offshore domestic profits to the U.S., also increasing the pool of domestic investment capital.

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Paul Binotto
on December 01, 2016 at 13:11:33 pm

You make several good points. And I agree that things are more complicated than it would seem. Will return to address as soon as I am able.

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Stuart Whitman
on December 04, 2016 at 21:20:06 pm

Scary that author really believes what he is saying and shows he has little understanding of what we are facing. Keynesianism is DEAD and we need to quit pretending this is a Larry Kudlow Fairy Tale. The dollar is going down along with every other fiat currency just like they have for 5,000 years. Trump's greatness would be if he could break free from Japan's leadership into Keynesian Hell and break the back of the Bob Rubin, Larry Summers "Gibson's Paradox."

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Donnie World
on December 06, 2016 at 00:39:00 am

"When an economy is broken down to the individual, what might seem opaque becomes very clear. Figure that no individual is made better off by a bigger income-tax bill; no individual is able to create more wealth if more and more work hours are spent complying with regulators; no individual is made wealthier if tariffs block the world’s talented from serving his needs; and no individual is able to amass more wealth if the dollar earned is constantly being devalued." Your common sense logic and practical approach to explaining economic issues is absolutely brilliant. If there were only people like you advising the next President I could sleep a little better. This anti trade nationalism is going to be disastrous.

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tc
on December 18, 2016 at 10:32:54 am

Trump consistently talked about how China has cheated over the years with currency manipulation.

As we can all agree upon, Trump is hard headed.

Trump intends to do what he feels the Chinese have done over the years to make themselves extremely successful; Trump will manipulate and depreciate the Dollar.

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Sam S

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