London house prices are “falling at the fastest rate in almost a decade” according to major property lender, Nationwide. And almost 40% of new-build sales were to bulk buyers at discounts of up to 30%, according of researchers, Molior. As the CEO of builders Crest Nicholson told the Financial Times:
“We did this sale because we knew we would otherwise have unsold built stock.”
They probably made a wise decision to take their profit and sell now. There are currently 68,000 units under construction in London, and nearly half of them are unsold. Slower moving builders will likely find themselves having to take losses in order to find a buyer.
London is a series of villages and the issues are different across the city:
Nine Elms, SW London. This $15bn (US$20bn) transformation has been ‘an accident waiting to happen‘ for some time. It plans to build 20000 new homes in 39 developments at prices of up to £2200/sq ft. Yet 2/3rds of London buyers can only afford homes costing up to $450/sq ft – thus 43% of apartments for sale have already cut their price.
West End, Central London. This is the top end of the market, and was one of the first areas to see a decline. As buying agent Henry Pryor notes:
“Very few people want to buy or sell property in the few months leading up to our monumental political divorce from Europe next March, which is why 50% of homes on the market in Belgravia and Mayfair have been on the market for over a year. Yet there are people who have to sell, whether it be because of divorce, debt or death, so if you have money to spend I can’t remember a time since the credit crunch in 2007 when you could get a better deal.”
NW London. Foreign buyers flooded into this area as financial services boomed. Rising bonuses meant many didn’t need a mortgage and could afford to pay £1m – £2.5m in cash. But now, many banks are activating contingency plans to move some of their highly paid staff out of London ahead of Brexit. Thus Pryor reports buying a property recently for £1.7m, which had been on the market for £2.25m just 2 years ago.
W London. Also popular with foreign buyers, even areas such as Kew (with its world-famous Royal Botanic Gardens) have seen a dramatic sales volume decline. In Kew itself, volume is down 40% over the past 2 years. And, of course, volume always leads prices – up or down. Over half of the homes now on sale have cut prices by at least 5% – 10%, and the pace of decline seems to be rising. One home has cut its offer price by 17.5% since March.
Outer London. This is the one area bucking the trend, due to the support provided by the government’s ‘Help to Buy’ programme. This provides state-backed loans for up to £600k with a deposit of just 5%. As Molior comment, this is “the only game in town” for individual purchasers, given that prices in central London are out of reach for new buyers.
The key issue is highlighted in the charts above – affordability:
- The first chart shows how prices were very cyclical till 2000, due to interest rate changes. They doubled between 1983 – 1989, for example, and then almost halved by 1993. In turn, the ratio of prices to average earnings fluctuated between 4x – 6x
- But interest rates have been relatively low over the past 20 years, and new factors instead drove home prices
- The second chart shows the impact in terms of first-time buyer affordability and mortgage payments. Payments were 40% of take-home pay until 1998, but then rose steadily to above 100% during the Subprime Bubble. After a brief downturn, the Quantitative Easing (QE) bubble then took them back over 100% in 2016
The paradigm shift was driven by policy changes after the 2000 dot-com crash. As in the USA, the Bank of England decided to support house prices via lower interest rates to avoid a downturn, and then doubled down on the policy after the financial crash – despite the Governor’s warning in 2007 that:
“We knew that we had pushed consumption up to levels that could not possibly be sustained in the medium and longer term. But for the time being if we had not done that the UK economy would have gone into recession… That pushed up house prices and increased household debt. That problem has been a legacy to my successors; they have to sort it out.”
- The 2000 stock market collapse and subprime’s low interest rates led many to see property as safer than shares. They created the buy-to-let trend and decided property would instead become their pension pot for the future
- The 2008 financial crisis, and upheavals in the Middle East, Russia, and parts of the Eurozone led many foreign buyers to join the buying trend, seeing London property as a “safe place” in a more uncertain investment world
- Asian buyers also flooded in to buy new property “off-plan”. As I noted in 2015, agents were describing the Nine Elms development as: ” ‘Singapore-on-Thames’. Buying off-plan was the ultimate option play for a lot of the buyers [who are] Asian. You only need to put down 10% and then see how the market goes. A lot of buyers are effectively taking a financial position rather than buying a property”“
But now all these factors are unraveling, leaving prices to be set by local supply/demand factors again. Recent governments have taken away the tax incentives behind buy-to-let, and have raised taxes for foreign buyers. As the top chart shows, this leave prices looking very exposed:
- They averaged 4.8x earnings from 1971 – 2000, but have since averaged 8.7x and are currently 11.8x
- Based on average London earnings of £39.5k, a return to the 4.8x ratio would leave prices at £190k
- That compares with actual average prices of £468k today
And, of course, there is the issue of exchange rates. Older house-owners will remember that the Bank of England would regularly have to raise interest rates to protect the value of the pound. In 1992, they rose to 15% at the height of the ERM crisis. But policy since then has been entirely in the other direction.
Nobody knows whether what will happen next to the value of the pound. But if interest rates do become more volatile again, as in 1971-2000, cyclicality might also return to the London housing market.
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2000 should have been the natural end of the BabyBoomer-led economic SuperCycle. The oldest Boomer (born in 1946) was about to leave the Wealth Creator 25 – 54 age group that drives consumer spending and hence economic growth. And since 1970, Boomer women’s fertility rates had been below replacement level (2.1 babies/woman). So relatively fewer young people were joining the Wealth Creator generation to replace the Boomers who were leaving.
But instead, central banks decided that demographics didn’t matter. They believed instead that monetary policy could effectively “print babies” and create sustainable demand. So instead of worrying about financial stability – their real role – they aimed to stimulate the economy by boosting financial asset prices – primarily shares and housing markets.
London’s housing market was a key target as the Bank of England’s Governor told Parliament in March 2007:
“When we were in an environment of global economic weakness at the beginning of the decade, it meant that external demand was declining… We knew that we had pushed consumption up to levels that could not possibly be sustained in the medium and longer term. But for the time being if we had not done that the UK economy would have gone into recession… That pushed up house prices and increased household debt. That problem has been a legacy to my successors; they have to sort it out.”
But instead, when the Subprime Bubble burst, policymakers did even more stimulus via Quantitative Easing (QE).
The chart of London house prices since 1971 (in £2017) therefore shows 3 distinct phases:
- 1971-1999. Prices were typically Cyclical – (1) up 51%, down 31%; (2) up 37%, down 15%; (3) up 109%, down 43%. But they averaged around 4.8x average London earnings
- 2000-2007. Central banks panicked after the dotcom crash and kept interest rates artificially low – creating the Subprime Bubble as prices rose in more or less a straight line, till they were up 196% from the previous trough
- 2008-2017. The market tried initially to return prices to reality, and they slipped 10%. But then central banks rushed to flood it with liquidity and created the QE Bubble, causing prices to soar 46%
Now, however, the Stimulus Bubble is ending and a “perfect storm” is developing as 3 key myths are exposed:
The end of the ‘London is a global city’ myth. The house price/earnings ratio averaged 4.8x between 1971-1999. But it then took off into the stratosphere to reach 11x today, as the myth grew that Londoners weren’t relevant to the housing market. Instead, it was said that London had become a “global city” where foreigners would set the price.
Chinese and Asian buyers boosted this myth as vast new apartment blocks were sold off-plan in the main Asian cities – often to buyers who never even visited their new “home”. But the myth ended last year when China introduced severe capital controls – capital outflows collapsed from $640bn in 2016 to just $60bn in 2017.
The scale of the this retreat is overwhelming as The Guardian reported recently:
“The total number of unsold luxury new-build homes, which are rarely advertised at less than £1m, has now hit a record high of 3,000 units, as the rich overseas investors they were built for turn their backs on the UK due to Brexit uncertainty and the hike in stamp duty on second homes….
“Henry Pryor, a property buying agent, says the London luxury new-build market is “already overstuffed but we’re just building more of them. We’re going to have loads of empty and part-built posh ghost towers. They were built as gambling chips for rich overseas investors, but they are no longer interested in the London casino and have moved on.””
The end of the buy-to-let mania. Parents of students going away to college began this trend in the mid-1990s, as they bought properties for their children to use, rather than rent from poor quality landlords. After the dotcom crash, many decided that “bricks and mortar” were a safer bet than shares, especially with the major tax breaks available.
Banks were delighted to lend against an asset that was supported by the Bank of England, finding it far more attractive than lending to a business that might go bust. And so parents held on to their investments after their children left college – further reducing the amount of housing available for young people to buy. But as The Telegraph reports:
“Buy-to-let investors now face tougher conditions. A weakening housing market, tough new legislation and the tightening of affordability checks by lenders are but a few problems causing landlords to run for the hills. According to the National Landlords Association, 20% of landlords plan to sell one or more of their properties in the next 12 months.”
Interest rates will never rise. Of course, the key to the Subprime and QE Bubbles was the Bank’s decision to collapse interest rates to stimulate the economy. Monthly payments became much more affordable – and ever-rising prices meant there was no longer any need to worry about repaying the capital.
But some people still couldn’t afford to buy even on this basis, and by 2007 around 30% of mortgages were “interest-only” with no capital repayment at all. These buyers should have been forced sellers when the Subprime Bubble burst; prices would then have returned to more normal levels. But instead, the Bank of England stepped in again, as the Financial Times has reported:
“During and after the 2008 financial crisis Britain’s mortgage lenders took a more tolerant approach to non-payers through the use of forbearance ….at the height of the housing market troubles in 2011 Bank of England research suggested that as many as 12% of all UK residential mortgages were in some form of forbearance. This helped prevent the downturn from developing into a 1990s-style crash, the Bank suggested.”
PRICES WOULD FALL 60% IF THE HOUSE PRICE/EARNINGS RATIO “REVERTS TO MEAN”
All “good things” come to an end, of course. And the London property bubble is probably no exception. Its 3 key drivers are now all reversing, and there seems little sign of any new factors that might help to keep the bubble inflating.
The risk is that interest rates continue to rise, forcing many owners to sell and bursting the Stimulus Bubble. UK 10-year rates have already trebled from their 0.5% low in Q3 2016. Most rates seem likely to go much higher now the 30-year downtrend has been broken, as I discussed last week.
Today’s high prices will also make it difficult for sellers to find local buyers, as the number of homes being bought/ sold each year has fallen 25% since the 2007 peak. Most young people cannot afford to buy. And if many people do decide to sell, potential buyers might panic, causing the slump to continue for many years – as happened before 2000.
Nobody knows how low prices might go, if they start to fall. But ‘reversion to mean’ is usually the best measure. If this happened, today’s average London home, selling at 4.8x earnings, would cost £193k – a 60% fall from 2017’s average price of £475k. This figure also highlights the risk that policymakers’ denial of demographic realities has created.
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“Average UK wages in 2022 could still be lower than in 2008”
UK Office for Budget Responsibility
While Western stock markets boom under the influence of central bank money-printing, wages for ordinary people are not doing so well. So it is no wonder that Populism is rising, as voters worry their children will be worse off than themselves at a similar age.
The chart above is the key to the story. It shows births in the G7 countries (Canada, France, Germany, Italy, Japan, UK, USA) since 1921. They are important as until recently, they represented around 50% of the global economy. Equally important is the fact that consumer spending represents 60% – 70% of total GDP in each country.
As the chart shows, the absolute number of consumers saw a massive boost during what became known as the BabyBoom after the end of World War 2:
- The US Boom lasted from 1946 – 1964, and saw a 52% increase in births versus the previous 18 years
- The Boom lasted longer in the other G7 countries, from 1946 – 1970, but was less intense
- In total, there were 33 million more G7 births in 1946 – 1970 versus the previous 25 years
- This was the equivalent of adding a new G7 country the size of Canada to the global economy
Today’s dominant economic theories were also developed during the BabyBoom period, as academics tried to understand the major changes that were taking place in the economy:
- Milton Friedman’s classic ‘A Monetary History of the United States’ was published in 1963, and led him to argue that “inflation is always and everywhere a monetary phenomenon”
- Franco Modigliani’s ‘The Life Cycle Hypothesis of Saving‘ was published in 1966, and argued that consumers deliberately balanced out their spending through their lives
Today’s problem is that although both theories appeared to fit the facts when written, they were wrong.
We cannot blame them, as nobody during the 1960s realised the extraordinary nature of the BabyBoom. The word “BabyBoom” was only invented after it had finished, in 1970, according to the Oxford English Dictionary.
Friedman had no way of knowing that the number of US babies had risen by such an extraordinary amount. As these babies grew up, they created major inflation as demand massively outgrew supply. But once they entered the Wealth Creator 25 – 54 age cohort in large numbers and began working, supply began to catch up – and inflation to fall.
Similarly, Modigliani had no way of knowing that people’s spending began to decline dramatically after the age 55, as average US life expectancy during the BabyBoom was only around 68 years.
But today, average US life expectancy is over 10 years higher. And as the second chart shows, the number of households in the 55+ age group is rocketing, up by 55% since 2000. At 56m, it is fast approaching the 66m households in the critical 25 – 54 Wealth Creator cohort, who dominate consumer spending:
- Each Wealth Creator household spent an average of $64k in 2017, versus just $51k for those aged 55+
- Even this $51k figure is flattered by the large number of Boomers moving out of the Wealth Creator cohort
- Someone aged 56 spends almost the same as when they were 55. But at 75+, they are spending 47% less
- Older people already own most of what they need, and their incomes decline as they approach retirement
Unfortunately, today’s central bankers still base policy on these theories, just as Keynes’ warned:
“Practical men who believe themselves to be quite exempt from any intellectual influence, are usually the slaves of some defunct economist. Madmen in authority, who hear voices in the air, are distilling their frenzy from some academic scribbler of a few years back”.
The result is seen in the third chart from the Brookings Institute. It highlights how labour’s share of income has collapsed from 64% in 2000 to 57% today. The date is particularly significant, given that the oldest Boomers (born in 1946), reached 55 in 2001 and the average US Boomer became 55 in 2010.
- Fed Chairman Alan Greenspan tried to compensate for this paradigm shift from 2003 by boosting house prices – but this only led to the 2008 subprime crisis which nearly collapsed the global economy
- Since then, Fed Chairs Ben Bernanke and Janet Yellen have focused on boosting the stock market, as Bernanke noted in November 2010:
“Higher stock prices will boost consumer wealth and help increase confidence, which can also spur spending. Increased spending will lead to higher incomes and profits that, in a virtuous circle, will further support economic expansion.”
But fewer Americans own stocks than houses – only 54% versus 64% for homes. So “printing babies” cannot work.
The real issue is that the dramatic increase in life expectancy has created a paradigm change in our life cycle:
- It is no longer based on our being born, educated, working, retiring and then dying
- Instead, we have a new stage, where we are born, educated, work, and then retrain in our 50s/60s, before working again until we retire and then die
This transition would have been a difficult challenge to manage at the best of times. And having now gone in the wrong direction for the past 15 years, we are, as I warned last year, much closer to the point when it becomes:
“Obvious that the Fed could not possibly control the economic fortunes of 321m Americans. Common sense tells us that demographics, not monetary policy, drive demand. Unfortunately, vast amounts of time and money have been wasted as a result. The path back to fiscal sanity will be very hard indeed.”
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“There isn’t anybody who knows what is going to happen in the next 12 months. We’ve never been here before. Things are out of control. I have never seen a situation like it.“
This comment from former UK Finance Minister, Ken Clarke, aptly summarises the uncertainty facing companies, investors and individuals as we look ahead to the 2018 – 2020 Budget period. None of us have ever seen a situation like today’s. Even worse, is the fact that risks are not just focused on the economy, or politics, or social issues. They are a varying mix of all of these. And because of today’s globalised world, they potentially affect every country, no matter how stable it might appear from inside its own borders.
This is why my Budget Outlook for 2018 – 2020 is titled ‘Budgeting for the Great Unknown’. We cannot know what will happen next. But this doesn’t mean we can’t try to identify the key risks and decide how best to try and manage them. The alternative, of doing nothing, would leave us at the mercy of the unknown, which is never a good place to be.
RISING INTEREST RATES COULD SPARK A DEBT CRISIS
Central banks assumed after 2008 that stimulus policies would quickly return the economy to the BabyBoomer-led economic SuperCycle of the previous 25 years. And when the first round of stimulus failed to produce the expected results, as was inevitable, they simply did more…and more…and more. The man who bought the first $1.25tn of mortgage debt for the US Federal Reserve (Fed) later described this failure under the heading “I’m sorry, America“:
“You’d think the Fed would have finally stopped to question the wisdom of QE. Think again. Only a few months later—after a 14% drop in the U.S. stock market and renewed weakening in the banking sector—the Fed announced a new round of bond buying: QE2”
• And the Fed was not alone, as the chart shows. Today, the world is burdened by over $30tn of central bank debt
• The Fed, European Central Bank, Bank of Japan and the Bank of England now appear to “own a fifth of their governments’ total debt”
• There also seems little chance that this debt can ever be repaid. The demand deficit caused by today’s ageing populations means that growth and inflation remain weak, as I discussed in the Financial Times last month
China is, of course, most at risk – as it was responsible for more than half of the lending bubble. This means the health of its banking sector is now tied to the property sector, just as happened with US subprime. Around one in five of all Chinese apartments have been bought for speculation, not to be lived in, and are unoccupied.
China’s central bank chief, Zhou Xiaochuan, has warned that China risks a “Minsky Moment“, where lenders and investors suddenly realise they have overpaid for their assets, and all rush together for the exits – as in 2008. Similar risks face the main developed countries as they finally have to end their stimulus programmes:
• Who is now going to replace them as buyers of government debt?
• And who is going to buy these bonds at today’s prices, as the banks back away?
• $8tn of government and corporate bonds now have negative interest rates, which guarantee the buyer will lose money unless major deflation takes place – and major deflation would make it very difficult to repay the capital invested
There is only one strategy to manage this risk, and that is to avoid debt. Companies or individuals with too much debt will go bankrupt very quickly if and when a Minsky Moment takes place.
THE CHINA SLOWDOWN RISK IS LINKED TO THE PROPERTY LENDING BUBBLE
After 2008, it seemed everyone wanted to believe that China had suddenly become middle class by Western standards. And so they chose to ignore the mounting evidence of a housing bubble, as shown in the chart above.
Yet official data shows average incomes in China are still below Western poverty levels (US poverty level = $12060):
• In H1, disposable income for urban residents averaged just $5389/capita
• In the rural half of the country, disposable income averaged just $1930
• The difference between income and expenditure was based on the lending bubble
As a result, average house price/earnings ratios in cities such as Beijing and Shanghai are now more than 3x the ratios in cities such as New York – which are themselves wildly overpriced by historical standards.
Having now been reappointed for a further 5 years, it is clear that President Xi Jinping is focused on tackling this risk. The only way this can be done is to take the pain of an economic slowdown, whilst keeping a very close eye on default risks in the banking sector. As Xi said once again in his opening address to last week’s National Congress:
“Houses are built to be inhabited, not for speculation. China will accelerate establishing a system with supply from multiple parties, affordability from different channels, and make rental housing as important as home purchasing.”
China will therefore no longer be powering global growth, as it has done since 2008. Prudent companies and investors will therefore want to review their business models and portfolios to identify where these are dependent on China.
This may not be easy, as the link to end-user demand in China might well be further down the supply chain, or external via a second-order impact. For example, Company A may have no business with China and feel it is secure. But it may suddenly wake up one morning to find its own sales under attack, if company B loses business in China and crashes prices elsewhere to replace its lost volume.
PROTECTIONISM IS ON THE RISE AROUND THE WORLD
Trade policy is the third key risk, as the chart of harmful interventions from Global Trade Alert confirms.
These are now running at 3x the level of liberalising interventions since 2008, as Populist politicians convince their voters that the country is losing jobs due to “unfair” trade policies.
China has been hit most times, as its economy became “the manufacturing capital of the world” after it joined the World Trade Organisation in 2001. At the time, this was seen as being good news for consumers, as its low labour costs led to lower prices.
But today, the benefits of global trade are being forgotten – even though jobless levels are relatively low. What will happen if the global economy now moves into recession?
The UK’s Brexit decision highlights the danger of rising protectionism. Leading Brexiteer and former cabinet minister John Redwood writes an online diary which even campaigns against buying food from the rest of the European Union:
“There are many great English cheese (sic), so you don’t need to buy French.”
No family tries to grow all its own food, or to manufacture all the other items that it needs. And it used to be well understood that countries also benefited from specialising in areas where they were strong, and trading with those who were strong in other areas. But Populism ignores these obvious truths.
• President Trump has left the Trans-Pacific Partnership, which would have linked major Pacific Ocean economies
• He has also said he will probably pull out of the Paris Climate Change Agreement
• Now he has turned his attention to NAFTA, causing the head of the US Chamber of Commerce to warn:
“There are several poison pill proposals still on the table that could doom the entire deal,” Donohue said at an event hosted by the American Chamber of Commerce of Mexico, where he said the “existential threat” to NAFTA threatened regional security.
At the moment, most companies and investors seem to be ignoring these developments, assuming that in the end, sense will prevail. But what if they are wrong? It seems highly likely, for example, that the UK will end up with a “hard Brexit” in March 2019 with no EU trade deal and no transition period to enable businesses to adjust.
Today’s Populist politicians don’t seem to care about these risks. For them, the allure of arguing for “no deal”, if they can’t get exactly what they want, is very powerful. So it would seem sensible for executives to spend time understanding exactly how their business might be impacted if today’s global supply chains came to an end.
POLITICAL CHAOS IS GROWING AS PEOPLE LOSE FAITH IN THE ELITES
The key issue underlying these risks is that voters no longer believe that the political elites are operating with their best interests at heart. The elites have failed to deliver on their promises, and many families now worry that their children’s lives will be more difficult than their own. This breaks a century of constant progress in Western countries, where each generation had better living standards and incomes. As the chart from ipsos mori confirms:
• Most people in the major economies feel their country is going in the wrong direction
• Adults in only 3 of the 10 major economies – China, India and Canada – feel things are going in the right direction
• Adults in the other 7 major economies feel they are going in the wrong direction, sometimes by large margins
• 59% of Americans, 62% of Japanese, 63% of Germans, 71% of French, 72% of British, 84% of Brazilians and 85% of Italians are unhappy
This suggests there is major potential for social unrest and political chaos if the elites don’t change direction. Fear of immigrants is rising in many countries, and causing a rise in Populism even in countries such as Germany.
“Business as usual” is always the most popular strategy, as it means companies and investors don’t have to face the need to make major changes. But we all know that change is inevitable over time. And at a certain moment, time can seem to literally “stand still” whilst sudden and sometimes traumatic change erupts.
At such moments, as in 2008, commentators rush to argue that “nobody could have seen this coming“. But, of course, this is nonsense. What they actually mean is that “nobody wanted to see this coming“. The threat from subprime was perfectly obvious from 2006 onwards, as I warned in the Financial Times and in ICIS Chemical Business, as was 2014’s oil price collapse. Today’s risks are similarly obvious, as the “Ring of Fire” map describes.
You may well have your own concerns about other potential major business risks. Nobel Prizewinner Richard Thaler, for example, worries that:
“We seem to be living in the riskiest moment of our lives, and yet the stock market seems to be napping.”
We can all hope that none of these scenarios will actually create major problems over the 2018 – 2020 period. But hope is not a strategy, and it is time to develop contingency plans. Time spent on these today could well be the best investment you will make. As always, please do contact me at firstname.lastname@example.org if I can help in any way.
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We are living in very uncertain times, where the only certainty is that there is no “business as usual” option for the future. One sign of this is that the extraordinary has become ordinary :
□ The FBI appear convinced Russia’s government targeted last year’s US elections: US President Trump and his former FBI head have since accused the other of lying about the issue
□ UK premier Theresa May has just lost an election she had expected to win by a landslide, and is now engaged in a probably futile attempt to remain in power
We have not seen political chaos on this scale since the 1970s. Yet unlike the 1970s, markets continue to bury their heads in the sand, in the mistaken belief that the central banks will always be able to ensure that prices never fall.
The problem is two-fold:
□ Most investors and company executives grew up during the BabyBoomer-led economic SuperCycle. They have never known a world where growth disappointed, and where political stalemate led to major economic crises
□ Central bank policies have made the underlying situation worse, not better. They have artificially boosted the value of financial assets (stocks, houses and commodities) whilst creating vast amounts of debt that can never be repaid
Even worse is that a generational divide has opened up in both the US and UK, as most assets are owned by older people. Younger people instead find themselves burdened by high levels of student debt, and facing a future where weekly earnings are no longer rising in inflation-adjusted terms.
KEY AREAS OF TRUMP’S AGENDA HAVE FAILED TO MOVE FORWARD
It was clear when President Trump came to power that we had reached the end of “business as usual“. He immediately set about creating major disruption in global trade patterns:
□ He cancelled the TransPacific Partnership which would have linked 11 Pacific countries with the USA
□ He also notified Congress of his intention to renegotiate the North American Free Trade Agreement
□ More recently, he announced his intention to withdraw from the Paris Climate Change Agreement, COP-21
Unsurprisingly, push-back is now developing against these dramatic changes. On COP-21, powerful opponents such as Michael Bloomberg have begun to co-ordinate moves by several key states, cities and companies to instead “do everything that America would have done if it stayed committed” to the Agreement.
Trump’s other major policy move – the lifting of restrictions on the development of fossil fuels – is also seeing push-back, this time from the markets. Oil prices are already back to pre-election levels, and are likely to go much lower as new US production comes online.
Trump’s position is also weakened by his failure to recruit a large team of highly skilled people, capable of promoting his agenda with all the relevant stakeholders. So far, he has only nominated 83 people to fill the 558 key positions in his Administration that require Senate confirmation. In the Dept of Commerce, only 7 of the 21 key positions have been nominated; in Energy, only 3 out of 22; in Treasury, only 10 out of 28.
As a result, the US now seems likely to face political stalemate. Trump clearly has a mandate to push through his changes. But every day that passes makes it less likely that his key policy objectives – healthcare/tax reform and infrastructure spending – can be implemented.
The problem is simple – every new President has only a short “window of opportunity” to implement his policies, as their post-election momentum soon starts to disappear. By Labor Day (4 September), legislators are refocusing on next year’s mid-term elections. Their ability to make the compromises necessary for major legislation soon disappears, once the “losers” from any change make their voices heard.
MAY’S ELECTION FAILURE CREATES AN OPENING FOR CORBYN
Last Thursday’s election result confirmed my analysis back in October that:
“In the UK, where most pundits regard the populist Labour Party leader, Jeremy Corbyn, as unelectable due to his radical socialist and pacifist agenda, it would only take a breakdown in the Brexit negotiations for his chances of gaining power to rapidly improve.”
The breakdown duly occurred with May’s decision to adopt a “hard Brexit”. May, like Trump, relied on a small group of advisers and failed to recruit the team needed to push through her ambitious agenda of total EU withdrawal. The result, as I noted last month, was that the “UK risked crashing out of EU after election without a trade deal“.
This stance created fertile ground for Corbyn as he mobilised large numbers of young people to vote for the first time. They quickly realised that their future was at stake, given that the Brexit negotiations are due to start on June 19.
May will clearly try to hang on – but she is unlikely to succeed for very long. Corbyn’s move to propose giving EU citizens full rights after Brexit could easily be the straw that brings May down, as leading Tories such as Ken Clarke and others would no doubt vote with him.
As in the US, political stalemate is likely to develop. Brexiteers no longer have a mandate for a “hard Brexit”, where the UK would leave the EU without access to the Single Market and Customs Union. But neither can Remainers easily reverse the formal EU exit process, which will see the UK leave the EU by March 2019.
MARKETS ARE IN A METASTABLE STATE
Markets cannot continue to ignore these developments for much longer. They are in what scientists would call a metastable state. The detail of the next move is uncertain – and the only certainty is that the status quo is untenable:
□ There is no going back to the SuperCycle: the Western world faces a demand deficit due to its ageing population
□ Equally, there is no obvious and easy route forward, until policymakers focus on the “impact of the 100-year life”
As a result, markets will soon be forced to rediscover the negative impact of political stalemate. Probably Winston Churchill’s famous comment after the Allies’ victory at El Alamein in 1942 best describes the position:
“Now this is not the end. It is not even the beginning of the end. But it is, perhaps, the end of the beginning.”