FX MONETARY POLICIES
sorts will be passed, the Fed will be tightening more than the markets are currently pricing.
We can actually see an economic scenario in a few months where some
economists will actually Chart 4 – Small business and consumer sentiment
boost. Some companies are already complaining that they cannot find skilled labour at the right price. Any fiscal boost now could tighten the labour market even further, thereby increasing the risks of a significant increase in the rate of inflation in the years ahead.
Te fact is that nobody knows what effect the tax proposals will have on the economy. However, claims made by the administration that the growth the tax plan will create will pay for the tax cuts is probably just wishful dogmatic thinking. The likelihood is that the tax plan will simply increase the Federal Government deficit.
So let’s try and bring these thoughts into some sort of conclusion here.
42 FX TRADER MAGAZINE October - December 2017
Despite a still lacklustre GDP performance, it is clear from surveys that small businesses (the true job creators in America) and consumers appear pretty content with the current state of affairs. Perhaps Trump’s deregulation drive and tax proposals are indeed just what the country needed – unleashing the animal spirits. If so, then we would expect inflation to start rising and the Fed will most likely continue to tighten monetary policy, via both balance sheet reduction and rising rates.
In fact, many economists expect to see a mini cycle low for inflation right about now, and for the Fed’s 2% target to be reached in the first half of next year. We concur with this, and assuming a tax plan of
be getting quite excited about a real pick-up in growth. The rebuilding post two devastating hurricanes along with tax reform and a cyclical pick-up in inflation could make the data look pretty decent heading into the first half of next year. As far as our bigger picture view goes, we hold some reservations. We think that the Fed will continue to tighten. We worry that many households will see rising costs offset a good amount of the tax cut. We worry that the incentive structure of large quoted corporations is wrong and that they could choose to squander a large part of their tax gains on financial engineering. We think that the tax bill will only increase debt, which is already proving to be a headwind to growth, and just as off balance sheet liabilities are coming home to roost.
So in short, we can see some short term excitement over the economy, but no major long term benefits, perhaps even rising costs and inequality. If the Fed do continue to tighten policy, they will simply keep going until something in the financial markets breaks – a good old fashioned policy error. If the
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