One questions whether Trump can turn this around. The hit to his ratings comes at possibly the worst time, after we saw a period in July where certain polls put his odds of taking the presidency at a very competitive 49%.
Whether Trump can now swing this back in his favour from here will take a monumental effort, especially given the fact his popularity among minority voters is just so low. We continue to hear of senior Republican national security officials rallying together declaring Trump ‘lacks character, values and experience’ and ‘would put at risk our country’s national security and well-being’. Still, if the UK referendum taught us anything, it is that we always need to question the ‘what if’ and the subsequent implications on economics and financial markets.
A ‘tax revolution’
It does seem fitting that Trump has had to go on the offensive, this time not on an attack on Hillary Clinton or a minority group, but on economic policy and at what he has labelled as a ‘tax’ revolution. His proposal? No American business would pay a tax rate above 15%, which would be a sharp drop from the current levels of 35% and similar to the proposals made by George Osborne in the UK. Clinton hasn’t made any specific calls on reducing the corporate tax rate by such extremities, although it is interesting that she is looking to impose a tax on high frequency trading. One questions how this would be taken given she is being so heavily financed by Wall Street investment banks and hedge funds. Clearly, if the tax on high frequency trading ever saw the light of day, one has to question the impact on liquidity in financial markets, given 80% of daily flow through the NYSE these days is from high frequency transactions.
One has to question if the US economy can really recoup the lost revenue from Trump’s proposed 20 percentage point cut in corporate tax, but this is a potential vote winner as it is aimed at incentivising corporates to move operations from other low tax countries. However, if this policy ever saw the light of day it would surely be seen as a USD positive. The change in corporate tax is likely to be funded from tariffs imposed on countries such as Japan, China and Mexico, but Mr Trump is also proposing a one-off 10% repatriation tax for US corporates looking to bring offshore funds back to the US.
As a guide, we can look back to 2004 when we saw a ‘repatriation tax holiday’ temporally introduced, with corporates allowed to repatriate funds at a lower rate of 5.25% and as a result it’s no surprise that $362 billion made its way back to the US. In 2004 the level of USD inflows saw the Fed’s broad trade-weighted USD rally 6%, but keep in mind that the cash held in offshore funds now dwarfs the levels seen in 2004. So while this tax would invariable raise government revenue over a ten year period, one would subsequently expect the USD to rally as a consequence of USD capital flows. Donald Trump is also looking to eliminate the deferral of tax on foreign business income.
Trump adopting ‘trickle-down economics’
In terms of personal tax, Trump has a view to reduce the number of tax brackets to three from seven in what he feels is a more simplified structure. Clinton is keen to avoid changes to the tax brackets, while amazingly Trump is also looking to lower income tax to 25% (from 39.6%). Trump is seemingly going the path of the so-called ‘tickle-down’ economics and by boosting the bottom line of corporates and the higher earners, the hope is it feeds through to more prosperous times for the poor. Clinton is seemingly going the other way (in what is clearly a populist move) and has proposed a 4% surcharge on incomes over $5 million and is keen to bring in the ‘Buffet rule’, where income of $1million or more will pay a minimum of 30%.
Of course, the most controversial aspect of the campaign has been the proposals around international trade and immigration. Clinton is obviously taking a softer stance, although she is keen to impose tariffs on countries deemed to be ‘currency manipulators’, although at the time of writing she hasn’t actually labelled a country a ‘manipulator’ specifically. Trump has clearly made up his mind and has labelled China a manipulator of its currency on a number of occasions and is keen to withdraw from NAFTA (North American Free Trade Agreement) and the TPP (Trans-Pacific Partnership).
A Clinton win, Democrat-controlled Congress best for risk assets
It’s no surprise to see the MXN (Mexican peso) as the weapon of choice to express a view on the election given Mexico’s sizeable trade with the US. Of course, if we do get a Clinton presidency and a Democratic controlled Congress (which is the high probability outcome) then we should see the MXN enjoy a strong relief rally – put USD/MXN on the radar. It would also be the best scenario for risk associated assets (like equities), as markets would like the idea that proposed reforms would actually stand a chance of being passed.
The other higher probability scenario would be the ‘status quo’, with Hilary Clinton winning the presidency, amid a Republican-controlled House. It’s this environment that should hold the most limited impact on financial markets.
The big risk, and the effective ‘Brexit’ moment comes if we get a Republican president and Congress, which seems unlikely but would cause not just an aggressive sell-off in the MXN, but one suspects there will be a tidal wave of negativity towards emerging markets more broadly. Even US equities would find sellers easy to come by on a heightened view of a downturn in US economics, while gold would do nicely from the uncertainty.
The next event
The real fun and games starts on 26 September with the first presidential debate at Wright State University, followed by a second on 4 October. One suspects that if Trump does claw back some much needed ground, then we should see traders react.