The Trump administration is worried about the prospect of a recession in 2020.
How do we know? Well, for one thing, they keep saying they’re not – worried about a recession that is. Sometimes, they say it unprompted. That’s a pretty clear sign of insecurity and it manifests itself in a lot of scoffing, posturing and defensive rhetoric from officials and from the president himself in remarks to reporters, television cameos and, of course, tweets.
Another way we know the administration is worried about a downturn is that they are, by their own admission, pondering tax cuts of some kind, although to let Kudlow and Trump tell it, those plans have nothing to do with being worried about the economy.
But all of that aside, we know Trump is concerned about a recession because all presidents worry about how the economy is impacting voters, and currently, the US economy is decelerating with the election a mere 14 months away.
The inversion of the yield curve has precipitated a veritable media cacophony around the recession story, and the psychological impact of the trade war is starting to manifest itself in the polls which show, among other things, that for first time since Trump was elected, more Americans think the economy is getting worse than getting better.
In a note dated Thursday, BofA’s David Woo channels Anthony Downs in examining all of this. “The single most important prediction of the political business cycle theory [is that] the closer is the next election, the greater will be the incentive for the government to resort to stimulative policies”, Woo writes, adding that “if a President can do anything about the economy, he will do everything he can to minimize the risk of a recession heading into the next election”.
While recessions during the first two years of a president’s first term are the norm, downturns in the latter two years of a first term are the exception which, of course, isn’t a coincidence.
To assess whether politicians are correct to assume that the economy will make or break their bid for a second term, Woo looks at consumer confidence, the unemployment rate and ISM manufacturing.
“It turns out that when a president is reelected, at least two of the three indicators are showing improvement”, Woo writes, concluding that “these results show economic success is paramount to the chances for reelection”.
This is a potential problem for Trump. Although the US economy is generally strong, and while the consumer was clearly doing well in the second quarter, the latest read on University of Michigan consumer sentiment was the second-worst of the Trump era and the proximate cause of the deterioration was, ironically, the Fed cut. “The main takeaway for consumers from the first cut in interest rates in a decade was to increase apprehensions about a possible recession”, Richard Curtin, director of the University of Michigan consumer survey, said.
As far as ISM goes, the US has yet to “catch down” (as it were) to the manufacturing malaise gripping the rest of the world, but there’s been a marked deceleration and the IHS Markit gauge fell into contraction for the first time since 2009 this month.
And then there’s the labor market which, while still strong, has also decelerated materially.
In other words, it’s all going slowly downhill, even as the economy remains buoyant overall. “All three measures of economic well-being are now below their levels just before Trump took office”, Woo remarks.
So, how can he turn it around? The quick answer is that he can strike a trade deal with China. As Trump put it on Wednesday, “I could do a quick deal with China and be a hero”.
Of course, markets are increasingly concerned that, smaller “deals” with Japan and the USMCA notwithstanding, US trade policy has gone totally off the rails – that there won’t ever be a deal with China. Indeed, some desks have now accepted as their baseline the notion that no Sino-US pact will be reached by the election.
For Woo, it’s all about reflexivity.
“In our view, the dynamics between a potential recession, trade war, and the political business cycle should be a perfect experiment for the theory of reflexivity by Soros that postulates a two-way feedback loop between markets and fundamentals”, he writes, reminding you that “for Soros, the opportunity for investors is when the loop becomes self-fulfilling, leading to big deviation of prices from their equilibrium levels”.
As the president has now surely realized, the trade war with China is contributing to recession fears. Those fears, Woo says, “are becoming self-reinforcing”.
The twist, though, is that “increasing recession risk will increase the incentive for closing a deal even if it means concessions have to be made”, Woo goes on to note. “Put differently, the more the market thinks that a deal is never going to happen, the more likely it is going to happen”.