Predictions are hard, especially about the future of the Trump administration.
Will his team of economic nationalists, who want to impose tariffs and increase infrastructure spending, get their way, or will it be his gang of economic conservatives, who want to cut taxes for the rich, cut spending for the poor, and deregulate Wall Street? Yes. Donald Trump, you see, isn't so much ideologically flexible as he is ideologically fluid. He has no idée fixe other than appearing strong, especially in the eyes of cable TV pundits. Sometimes that will mean going along with what congressional Republicans want — gridlock is for the weak — but most of the time that will mean getting congressional Republicans to go along with him. Which is to say that we should take his policy promises both seriously and literally. He's going to try to do what he's said he will, no matter how inconsistent those things might seem together.
What, then, might be the economic consequences of the president-elect's tax cuts, tariffs and deregulation? Well, as we'll get to in a minute, they sure seem like they would raise the odds of a financial crisis happening overseas, and maybe here too. It's a story about the dollar and housing.
The first thing you need to know is that the rest of the world has borrowed a lot of dollars the last eight years. About $4 trillion, to be exact. Since 2008, dollar loans to non-bank borrowers outside the United States have gone from $6 trillion to almost $10 trillion, with emerging markets making up the majority of that increase. Their dollar debts, according to the Bank for International Settlements, have actually more than doubled during this time from $1.7 trillion to $4.5 trillion. And that makes them particularly vulnerable to the vicissitudes of the currency markets. Think about it like this. If you borrow in dollars but earn most of your money in something other than the dollar, then your debts will get harder to pay back any time the dollar increases in value — which it really has the last two and a half years. Indeed, on a trade-weighted basis, the dollar has shot up 26 percent against a broad basket of currencies since the middle of 2014.
That should only continue under President Trump. Why? Well, the Federal Reserve's latest minutes show that it thinks Trump's tax cuts, if they happen, will force it to raise rates faster than it thought it would just a few months ago. Otherwise, the Fed worries, the economy might start to overheat a little. So that means our interest rates should be even higher compared to the rest of the world's than they already are, which, in turn, should push the dollar up even more than it has already gone.
It's hard to say when, but at some point emerging market borrowers are going to have trouble paying back their dollar debts if the dollar keeps going up — especially if we put up tariffs that make it harder for them to earn dollars in the first place. A country like Brazil, which is currently mired in its greatest recession since the 1930s and has borrowed the second-most dollars of any emerging market, might have to choose between an even worse economic crisis and a financial crisis. That is, it could keep propping up its currency at the cost of growth, or it could let it fall against the dollar and see its borrowers default.
Even China might not be immune. It has the ugly combination of the highest dollar debt in the developing world and a currency that has been sliding against the greenback for over a year now. In the worst case, it might have to bail out a bunch of borrowers who can't handle the combination of a stronger dollar, a slightly weaker economy and tariffs that take away some of their export markets.
It wouldn't be that different from the Latin American debt crisis in the early 1980s. Then, like now, poorer countries had gone on a dollar borrowing binge. And then, like now, a surging dollar made those debts harder to pay off — until they couldn't be. That not only sent those countries into a lost decade, but also almost brought down the American banks that had lent them so much money.
Although it's not just Brazil and China that might cause some sort of crisis. It's us too. That's not, though, because the dollar might get too strong, but rather that the mortgage market might get too crazy. Trump, you see, has said that "it's so hard to get mortgages nowadays" that we need to get rid of the post-financial crisis rules restricting them.
This is one place where he agrees with GOP orthodoxy. Against all evidence, conservatives have insisted that it wasn't Wall Street, but really the government that caused the housing bubble — basically Reagan über alles — and have been looking for ways to neuter the newly created Consumer Financial Protection Bureau as a result.
The problem, of course, is that going back to a Wild West mortgage market only invites the kind of abuses we saw 10 years ago, particularly when there's pent-up demand for new housing that could easily turn into a bubble.
Past, in other words, really might be prologue. Trumponomics might just be Bushonomics on steroids. A financial crisis waiting to happen.