Did Trump Just Signal A Recession Call?
Donald Trump is not the most disciplined speaker. However, in several recent interviews, he has suggested that a Democrat victory will bring a recession or worse.
Is this just headline-grabbing political hyperbole, or is there substance to what he says?
“If I don’t win, you’re going to have a depression like in 1929,” he said during an exclusive sit-down interview with “Fox & Friends Weekend” co-hosts Rachel Campos-Duffy, Will Cain, and Pete Hegseth.
He repeated the line in a Mar-a-Lago presser a few days later.
If the stock market functions as a recession-sniffing dog, one would have to say Trump is wrong on recession. The market has been strong in the first half of the year, satisfied with slow growth, some improvement in inflation, and decent corporate earnings. While stocks have indeed struggled of late, they have not broken longer-term technical signals of price trends. Investor sentiment has dropped so sharply of late, that the CNN Fear and Greed Guage recently fell to an extreme low more indicative of a bottom than a top.
In short, the stock market does not seem to be acting right now as if we are on the tip of a recession.
For that reason, a lot of pundits have dismissed Trump’s statement as ignorant bloviating.
To be sure, the stock market recently has become very volatile and fell sharply. However, most experts think it was largely the fault of the unwinding of the Yen carry trade. The short version of this phenomenon is as follows: Speculators using massive leverage have been borrowing cheap Yen (falling exchange rate and much lower interest rates than the US) and using the proceeds to buy US stock futures positions. Japan has started to raise interest rates to battle inflation and support the plummeting Yen. This caught speculators off guard. Now their finance costs are rising sharply and they face foreign exchange risk (they borrowed cheap Yen and now face having to buy back expensive Yen).
The result was a short and violent shake-out in stocks as they closed out positions, but it is not clear if it was more than just a temporary unwind of speculative positions. If Japan backs off on interest rates, speculators may re-wind their speculative trades into the stock market.
If this analysis is correct, it also demonstrates that equity markets often move for reasons of liquidity and sentiment. These are internal factors, unrelated to the health of the general economy.
But defenders of the “yen carry trade causality” are missing a key point. Central banks around the world have been using extraordinary powers to fund their governments over the past 20 years using rates next to zero and central bank purchases of bonds and even stocks, and that has created an embedded practice of borrowing heavily with cheap money for all sorts of things by all sorts of people. That is distorting the stock market and the more stocks get forced fed central bank and government liquidity, the more detached it has become to real economic data. If that last statement is true, then the predictive value of the stock market has been seriously impaired.
The Japanese central bank owns currently about 55% of all Japanese government debt, about 7% of the stock market, and about 80% of the ETFs. You don’t think that has distorted their markets and by extension, those that use it for funding their speculative endeavors?
In truth, the Yen carry trade is just one of several deep distortions caused by reckless monetary and fiscal policy overstimulation.
Such constant use of stimulus and cheap money has speculators and many private individuals taking chances on things, that cannot not be sustained if the economy were to slow down. In a sense, the economy is now just as contorted out of shape as the stock market.
Debt has ballooned at all levels of the economy: government debt, corporate debt, housing debt, car loans, and credit card debt.
Inflation has risen to the highest levels in two generations, and those numbers don’t reflect asset inflation (stocks, bonds, real estate), which is not part of the “consumer” CPI.
Debt can be sustained if income rises faster than debt, but debt has been rising much faster than income and economic growth in general.
Most of the “growth” has been in healthcare and government jobs. Bloating up the government does not help the government carry its debt burden. What is needed is growth in the private, tax-generating part of the economy.
Conversely, a slowdown in the economy would bushwhack many people speculating on homes, stocks, and what have you, just like a shift caught those using the Yen carry trade. If the economy slumps, the revenue shortfalls would reveal almost the entire economy unable to service the excessive debt.
The scramble to get out of losing investments where financial leverage is prevalent, can make small problems into big problems. This can have a “trainwreck effect”, as one part of the economy slowing down slams into another. As collateral values backing speculative loans decline towards loan values, speculators risk “margin calls”, an immediate demand from creditors to pay down debt. This is the mechanism that can produce crashes, as recent market action demonstrates.
Central Banks have created a moral hazard where they have allowed politicians to spend without the necessity of either real need or political consensus. They have created an additional moral hazard in that markets believe the FED always has their back. After repeated bailouts, that is not unreasonable to conclude and complacency flourishes. Central banks have created a cycle of intervention, followed by distortions, that they require even more interventions.
In short, recent government stimulus, using almost $7 trillion, has occurred during “prosperity,” and frequently via legislation passed on extremely narrow political margins, such as tie-breaking votes by the Vice President in the Senate.
This stimulus is without historical parallel.
In constant or inflation-adjusted dollars, the stimulus exceeds the deficits of World War I, World War II, and 30 years of deficit spending combined.
With an economy so hooked on monetary steroids, any attempt to slow down the deficits risks a recession, which in turn risks another wave of spending and intervention to try to mitigate the recession.
Trump added significantly to the deficit in his first term. To be fair, some of that was because he was misled by Dr. Fauci and Dr. Birx into shutting down the economy via the lengthy COVID lockdown.
On the one hand, Trump succeeded at substantial de-regulation, and the economy surged, but he failed to get anywhere near a balanced budget.
While he bears responsibility for that, having to act in the moment on the “best medical advice in the world”, and the press hounding him, it is hard to see him having any other choice. We now know that medical advice was wrong but he did not know that then. But what followed was purely Democrat efforts to use the crisis for redistribution and the Green New Deal.
In short, between two Obama terms and another Obama/Biden/Harris term, the Democrats own this economic bubble.
In that regard, there is a lot more evidence of trouble than just Trump’s assertions.
We have been through an historic round of interest rate increases. There is a time lag before they have their full effect and we are now in the time frame for pain to reveal itself. History shows that fireworks begin when the cuts are forced on the FED. It means they will be behind the curve once again.
The economic numbers are now beginning to weaken. New job postings are down, unemployment has risen enough to trigger the Sahm rule, a good predictor of recession.
The Sahm Rule signals a downturn once the unemployment rate increases 0.5 percentage points above its previous 12-month low.
The leading economic indicators have been trending down for more than a year. The latest from the Conference Board:
“The decline continued to be fueled by gloomy consumer expectations, weak new orders, negative interest rate spread, and an increased number of initial claims for unemployment. However, due to the smaller month-on-month rate of decline, the LEI’s long-term growth has become less negative, pointing to a slow recovery. Taken together, June’s data suggest that economic activity is likely to continue to lose momentum in the months ahead. We currently forecast that cooling consumer spending will push US GDP growth down to around 1 percent (annualized) in Q3 of this year.”
In real or inflation-adjusted numbers, that is no growth at all.
Meanwhile, the yield curve has been inverted for record length. This indicator has been one of the most reliable predictors of coming recession.
Delinquency rates on credit card debt and car loans are starting to rise sharply and are now at the highest level in a decade.
Consumer spending is starting to slow, especially for discretionary items. This means people are having to cut back and focus on essentials. Remember, consumer spending is 70% of GDP.
More evidence of weakening consumer demand comes from a recent CNN poll which finds almost 40% of Americans now are worried about just paying their bills on time.
Industrial production is down.
Dr. Copper is signaling economic softening. Copper prices are called Dr. Copper because of their past predictive abilities. When prices rise or fall on something so universally used in a modern economy, it often provides better signals than Ph.D.s.
The supply of homes in the Southeast is way up, indicating we have shifted from a seller to a buyer market. Housing markets are the most challenged since the 1980s, according to the Wall Street Journal.
Commercial real estate and the exposed mid-sized banks remain vulnerable.
Stocks are historically robustly valued, discounting an almost fairy tale ending to this story. What if that is not the outcome?
In short, a highly leveraged economy is a vulnerable economy. Vulnerable to the natural rhythm of the business cycle and vulnerable to external geo-political events that tend to heat up during a period of electoral confusion and weak leadership.
Financial leverage also exaggerates any shifts in both markets and the economy. That is why speculators use it. However, in a slump, the leverage comes back to haunt those who use it.
This economic vulnerability exists whether or not you think Trump is a fool or a genius.
The election of the most left-wing ticket in our history could bring on a wave of new taxes and regulations, just the thing required to further destabilize a foundering economy choking on debt.
The risk of war is much higher than normal, and the chance of policy error by central banks is much higher than normal.
In terms of the international economy, neither Japan nor China are in great shape, and neither is Europe.
Yes, the economic data is noisy and often contradictory. But like the coming of autumn, an economic chill is in the air. Risks are substantial and need to be considered.
Trump may be making the statements for political gain, but that does not mean in the end he will be wrong.
Photo credit: Gage Skidmore