At long last, the US elections are over. Like many others, I was surprised by the outcome, which was a sharp reminder that we live in an unpredictable world, where it is often unclear if a low-probability event occurred, or whether we simply miscalculated the odds. Here are some thoughts from the first few days:
1) Equity market reaction: I was taken aback by the stock market's swift reversal. I had assumed - correctly, though only briefly - that market participants would be unnerved by an unanticipated outcome. There are many possible reasons for why equities recovered sharply, but perhaps the most likely is that the market learned quickly from the post-Brexit bounce. This could be a function of human learning or machine learning. It's an interesting and open question as to whether markets will "learn" faster in the future through technology - and how smart humans may be able to trade against outcomes that are superficially similar but different at a deeper level.
Another possibility is that companies believed to benefit from a Trump administration, e.g. fossil fuel producers, are a larger component of indices than those poised to suffer. It's interesting to note that the oil producers ETF, XOP, has gone up roughly 4% since Nov 9 even as crude oil has declined in the same period. It's hard to know if this is because oil stocks have high beta to a rising market, or if traders are making a Trump-specific bet on US hydrocarbons.
2) Is slow growth to blame? The flood of political commentary over the past few days has come up with many reasons for Trump's victory, and the reality is some combination of all the factors. But it's hard not to wonder if a faster recovery would have forestalled some of the economic concerns in battleground states. The irony, though, is faster growth could have been achieved by more aggressive monetary and fiscal policy - both of which Republicans fought tooth and nail against.
3) Trump's Keynesianism: Lars Christensen has an excellent take on how monetary and fiscal policy could interact in a Trump administration (see Parts 1 and 2). Lars notes that higher Treasury yields signal market expectations of increased inflation from fiscal stimulus without monetary offset. He also points out that it potentially sets up a fascinating conflict with Yellen's Fed likely to apply the brakes if inflation increases too much. It's even more complicated than that, I think. Let's not forget that Yellen's term runs out in 2018. Before this, I would have said that a Republican administration would appoint someone like John Taylor, who might be more hawkish than Yellen or Bernanke. But Trump might be keen to appoint someone more sympathetic to his economic plan (Lars uses a Nixon/Burns analogy). That would be completely at odds with Republican rhetoric for the past 8 years, so I think it sets up a really unpredictable dynamic between the President, the Fed and conservative factions of the Republican party. It's pointless speculating too much at this point, but it's bound to be interesting for students of macroeconomics and political economy. Proponents of rules-based frameworks like nominal GDP targeting may even find themselves arguing as hawks, which would also be a departure from the past 8 years.
4) Infrastructure: Early market expectations are betting on infrastructure being a crucial part of Trump's fiscal platform. It goes without saying that infrastructure can add to GDP without adding value. From a financial perspective, infrastructure should only be built when it has a positive net present value (NPV). A creative and forward-looking administration should be able to find many positive-NPV infrastructure projects. Infrastructure does not just have to mean bridges and roads, of course. It can refer to the electrical grid, cybersecurity, energy efficiency, community health centres and many other worthwhile things. But it's pointless to talk about positive NPVs, since I suspect these many of these decisions will ultimately be political ones. As the new president might say: Sad!