Historically, for example, it is hard to see any correlation between heightened security policy tensions and economic activity. This is perhaps because the uncertainty that may arise is offset by higher investments in a defence build-up, for example. Only when the concrete conditions that determine profitability and investment appetite are affected, for example via rising oil prices or poorly functioning financial markets, will the effects become clear.
In light of this, one can analyse various risk scenarios. The recent surge in sentiment indicators could conceivably be the forerunner of a much stronger growth wave than our main scenario implies, but such a wave may be driven at least partly by factors that are neither desirable nor sustainable in the long term. Large unfunded stimulus measures in the US, a de-prioritisation of global and national environmental targets that benefits the energy sector in the short term, a defence build-up due to growing security policy tensions and a phase-out of financial market regulations implemented in response to the financial crisis might be such driving forces. These forces might then be amplified by underlying pent-up consumption and capital spending needs in many countries, where growing wealth and high household savings ratios represent a potential. Secondary effects from the US to other countries may also be bigger than expected.
Such a mix of "good and evil" growth forces has certain similarities with the recovery of the 1930s. How long such a growth period may last depends mainly on conditions on the supply side of the economy. If policies lead only to demand stimulus and have no positive supply-side effects, after a few years the result may be overheating and a rather sharp inflation surge.
On the downside, the main risk is that an escalation of political uncertainty may ultimately have economic consequences. This may occur because the conflict between the Trump administration and other key players in American society deepens in a more or less dangerous way. The US may also change its policies in ways that lead to trade wars or crucial disruptions in the functioning of international organisations like the United Nations, International Monetary Fund or World Bank.
A political collapse in Europe because anti-EU forces gain an extra tailwind after Brexit and Trump's victory is also conceivable. Political crises of this type may have significant negative consequences within our forecast horizon, although they are more likely to pose long-term risks.
How has "Trumponomics", despite all its unclear and bizarre aspects, been able to awaken such great hopes in financial markets and among economists? One important reason may be that in various areas, established economic policies since the financial crisis have reached an impasse. For example, exceptional monetary policy has once again inflated balance sheets and asset prices, thereby creating wider wealth gaps without convincingly affecting growth. In such a climate, there is fertile ground for new ideological impulses. Many leading economists advocate the classical Keynesian features of demand stimulus programmes. And although many people fear the threat of protectionism, there is also widespread criticism of trade agreements that now exist or were about to be signed. This criticism is based on the contention that these agreements arbitrarily benefit specific sectors and are designed to generate artificially high profits for financial institutions and multinational corporations.
The general efficiency gains that trade is theoretically supposed to create are far from obvious outcomes of the prevailing agreement structures, according to influential economists. Another type of reasoning states that in a number of areas the Trump administration is now, albeit in a brutal and populist fashion, pushing the US in a direction that was nevertheless unavoidable, considering the country's relatively
weakened economic position. Corporatist tendencies that assign a greater role to cooperation, for both better and worse, between business and government may also become a trend. We have already seen such tendencies in the UK.
To summarise, Trumponomics is certainly not the solution to the global economic problems we now face, but it may very well raise challenging questions and move the discussion forward by revealing weaknesses and dead-ends in once-predominant approaches. But it is still too early to say whether we are facing a paradigm shift similar to the breakthrough of active fiscal policy in the 1930s, the collapse of the Bretton Woods system in the early 1970s or the breakthroughs of the neo-conservative era including
financial deregulation and inflation targeting.
This is an extract from the February issue of the Nordic Outlook. To read more about this as well as latest economic forecasts, download the entire report (pdf) or read the press release.