In investment as in life, what goes unsaid is often more important than what is said.
Long-term watchers of the Federal Reserve know to look at every last word of every statement from a Fed governor — which is why a succession of Fed speeches and interviews on Monday and Tuesday were taken as doubling the chances that the central bank raises US interest rates at its next meeting. Fed-watchers understood the code, and so the dollar gained while bond yields rose.
Then President Donald Trump embarked on his first speech to Congress. Reading the text, it is almost as though the single most important sentence for the future of the markets was missing.
He said that his economic team was “developing historic tax reform” (making clear that the task was not complete) that would “reduce the tax rate on our companies so they can compete and thrive anywhere and with anyone”.
Then he complained: “Many other countries make us pay very high tariffs and taxes — but when foreign companies ship their products into America, we charge them nothing or almost nothing.”
This sounded like the cue for announcing his support for a border tax adjustment — a radical reform of the tax code that would tax goods according to their destination and effectively tax imports higher than exports. Some describe the idea, backed by Paul Ryan, the speaker of the House, as a tariff by another name but its political appeal is obvious. Such a tax would penalise big importers, protect US manufacturers, and put upward pressure on the dollar. It would also offer an opportunity to raise revenue from somewhere, to pay for an expensive laundry list of other commitments (“big” tax cuts, $1tn for infrastructure, and a defence build-up).
As Mr Trump moved on to complain that Harley-Davidson’s motorcycles are taxed at 100 per cent in one jurisdiction, his move towards a border tax adjustment seemed even clearer. “I am not going to let America and its great companies and workers, be taken advantage of any longer. They have take advantage of our country — no longer.”
Then, it was as though the next sentence, signing up to try to achieve fairer trade through the tax system, had been excised. Instead, the president moved on to his (surprising) plan to try to introduce a merit-based immigration system, which he said would protect American jobs. Merit-based immigration, a new, difficult and potentially time-consuming proposal to put before Congress, came into the speech just where the border tax adjustment seemed to belong.
What to infer? Republicans are obviously divided on the issue, and it would appear that Mr Trump’s team is as well. Although the logic of his position seems to point to a border tax adjustment, the president is not (yet) prepared to lead on it. Without presidential leadership, it will not happen.
Earlier in the week, the president told state governors that tax reform would not be possible until a healthcare reform had been settled. That appears to have been good guidance. While everyone is growing accustomed to the president’s lack of detail, he cannot continue in this way for much longer without losing investors’ confidence.
This opens a possible market nightmare scenario: the administration allows itself to be bogged down in a needless and wasteful attempt to keep its promise to repeal Obamacare without taking away anyone’s coverage, and thus precludes itself from any meaningful tax reform this year. Immigration reform — generally unpopular with big businesses — takes up time that might have been spent trying to deal with the tax code or building infrastructure. Tax reform and fiscal stimulus, once taken as givens for a Trump presidency, do not happen in his first year, as his political capital fritters away. Meanwhile, the Federal Reserve goes through with raising rates.
This is not the stuff of which the “Trump trade” has been made. However, that nightmare scenario is still on balance unlikely and the initial market reaction was very muted. That is because the Trump trade — a belief that the world economy is switching decisively towards reflation and away from deflation — depends on more than Mr Trump.
Bond yields hit a bottom last July and started to rise even when the expectation was that Hillary Clinton would win the presidency. China embarked on stimulus once more, helping metals prices to rise. Europe’s economy is showing clear signs of recovery (from a low base).
The trends that could cause the Federal Reserve to raise rates, such as rising wage inflation, were already in evidence before Mr Trump took office. Tuesday’s data on inflation, house prices and consumer confidence all showed an economy in improving health. While the Trump administration has done nothing to add to that yet, it has done nothing to impede that growth either.
Positive economic momentum (despite the president’s rhetoric about inheriting a mess), does give the administration more time to piece together its economic plan and move it through Congress. It would be unwise to wait to test the market’s patience for too long, and the president will have at some point to fill in the missing sentence about the border tax adjustment.
For now, at least one currency benefits from lack of specifics. Traders in the Mexican peso noticed that another sentence went unsaid. The familiar commitment to build a wall along the border with Mexico was in there. But the follow-up applause line from the campaign, to make Mexico pay for it, was absent. That might explain why the peso strengthened as the speech concluded.
Mr Trump’s words do not appear to have moved the market that much. But for some, at least, his silence was golden.