The Two Weeks That Will Be (27th April 2025)
1. The World Order
With the S&P500 and the VIX almost back to where they were before Trump’s “Liberation Day” you would be forgiven for thinking that nothing much had changed in the world in the last three weeks. You might simply conclude the US President tried something and then thought better of it after the markets forced his capitulation. Treasury Secretary Bessent’s speech on 23 April to the Institute of International Finance in Washington during the IMF/World Bank meetings should disabuse you of that notion. A revolution is taking place. It might not work, you might hate it, financial market participants might think it irrational, but it will be relentlessly pursued by the new US administration regardless. For them, standing still is not an option: the ‘status quo of large and persistent imbalances is not sustainable. It is not sustainable for the United States, and ultimately, it is not sustainable for other economies‘.
In case you weren’t clear who he was really talking about, Bessent explains: ‘China’s economic system, with growth driven by manufacturing exports, will continue to create even more serious imbalances with its trading partners if the status quo is allowed to continue.’
But the US has to change too: ‘China needs to change. The country knows it needs to change. Everyone knows it needs to change. And we want to help it change—because we need rebalancing too’.
What does this mean in practice? In the Q&A after his speech, Bessent outlined three things that he said drive the trade deficit:
- External trade policies – such as ‘tariffs, non-tariff barriers, currency manipulation, state subsidy of labour and means of production‘
- The US Budget Deficit – which ‘creates a demand suck, pushes up interest rates’
- And the level of the Dollar – ‘Everyone asked me, well what does a strong dollar mean? To me it means, policies in place to deserve capital flows and have confidence. But it doesn’t mean the price on the Bloomberg screen every day‘
Along with tariffs, cutting government spending and keeping the US at the centre of the financial system, Bessent also wants a focus on providing energy resources as ‘The sine qua non for economic growth is energy abundance.‘ He reiterates ‘economic security is national security‘, all of which ties into the Trump 1987 newspaper advert which exhorted ‘End our huge deficits, reduce our taxes, and let America’s economy grow unencumbered by the cost of defending those who can easily afford to pay us for the defense of their freedom’.
This is nothing short of a deliberate reboot of the world order. Trump isn’t just changing the rules of the game, he wants to change the game altogether. He’s smashed up the chess board and is now engaged in the classic game of luck and skill, where even bluffers can beat mathematical geniuses, Texas Hold ‘Em. And the Flop has only just been dealt. There is more to come.
Instead, the market seems to believe it was a game of chicken where Trump blinked once US Treasuries sold off sharply. There is talk of a ‘Trump put’ around 4.5% in US 10 year yields. It’s no surprise market participants reached for such a narrative. Every time severe volatility has hit financial markets in the past three decades, from LTCM to Lehman to Covid to LDI to Silicon Valley Bank, the authorities have stepped in, one way or another. This time round, Trump went nuclear on day one, got told the bomb had triggered a potential systemic market dislocation, and then said he would instead launch in ninety days against anyone who hadn’t put down their weapons. Except against China, they can have all the bombs now. For a market that has become accustomed to selling volatility on any spike because they’ll always be bailed out, this meant a return to FOMO BTD and worry about it in 90 days’ time.
This has reinforced the conditions that predicated the huge swings in the first place. The failure to buy insurance against a crash in the S&P500 left a huge gap in gamma hedging that perversely left a crash becoming far more likely. Despite what we have just seen, there is still an absence of owning insurance. The gap is still there. This means the risk of a market dislocation is still a problem – even more so if people now think we have had the crash and the Trump put exists.
Trump could come out tomorrow and say tariffs have been cancelled on a handful of countries he believes to have joined his gang. He could ratchet them up on those who haven’t engaged. And then cancel them hours later if a panic stricken leader begs for mercy. In the meantime, China could increase their tariffs on the US. The EU could slap tariffs on China to prevent dumping of cheap products. Vietnam could tighten up trans-shipments to stop Chinese products ending up in the US whilst also striking fresh trade deals with other Asian nations. There are a lot of players at the poker table. This means it will be a high stakes game with concomitant higher volatility.
This does not necessarily mean higher uncertainty. What we can be sure of is that the game is underway. Trump will execute his decades-old plan with extreme prejudice – until systemic risk rears its head. But even then, there will come a time when it suits him to run off the edge of the cliff, safe in the knowledge Delta Force will fly by in a Black Hawk to perform an audacious manoeuvre to scoop him up (for which read, QE or Yield Curve Control, or capital controls, or FX intervention). Because he can afford to take the risk. He’s 78 years old, doesn’t need to run for another term, holds all the political resources in his party (for now) and, most importantly, he thinks he will win. Because, as they say in The Apprentice movie, “whatever happens, you claim victory and never admit defeat”.
2. The Fed
Trump is already gearing up to blame the Fed’s Powell for any fallout. Powell is trying to remain above the fray but the press conference at the FOMC meeting on Wednesday 7th May might as well be accompanied by Trump live-tweeting his every perceived intransigence. We know from his first term that Trump is not enamoured of Powell. And if interest rate cuts would cushion the Trumpian revolution, The Donald will continue to push for them. But will he push so far that he fires Powell? Sure, he just said “I have no intention of firing him” but, as Powell himself said recently, “life moves pretty fast”. It would be hard but not politically impossible to do:
- The Federal Reserve Act maintains that the Fed Chair can be fired “for cause”.
- Trump, like any CEO desperate to get rid of someone, could trump up what constituted cause.
- Constitutionally, it could be thrashed out in the courts whether the Federal Reserve is an independent agency beyond the reach of the executive branch.
- But while the court decides, the Chair would be left in an untenable limbo.
- ‘Advice and consent’ of the Senate would be required to appoint a replacement.
- And they might desperately appoint whoever Trump wanted in order to get the show back on the road.
- The Federal Open Market Committee could itself fracture with a majority of dissenters if anyone else became Chair
- Except that it is only convention which means a majority is needed for the Fed to take policy actions.
- Trump might change his mind
- Fire him on a Friday and reinstate him on a Monday.
And before we get to all of this, Powell might simply step down, for what he might claim is the good of the country. We think it is more than likely that Powell will be gone as Fed Chair before his term is up in May 2026.
This leaves next week’s FOMC meeting as the calm before the storm. Fed members are starting to point towards the possibility of a rate cut in June but maintain they need to see a meaningful change in the data. We will get the latest jobs report on Friday. This will be the first one to include the DOGE related job cuts as well as any private sector adjustments due to tariffs. Complicating the picture is that DOGE itself could be involved in reporting data to the Bureau of Labor Statistics. The forecasts for payrolls are therefore operating even more blind than usual – be ready for a shocking number. A negative payrolls print if DOGE reported huge layoffs would put more pressure on Powell.
3. The UK
Rachel Reeves must be pleased there is more focus on UK/US trade deals than on the latest shocking numbers from the UK. Public Sector Net Borrowing for the year came in at the third highest on record, because, as the ONS chief economist put it, “despite a substantial boost in income, expenditure rose by more… largely due to inflation-related costs, including higher pay and benefit increases.” It was also £15bn higher than the OBR themselves had forecast just a month earlier. Akin, one might say, to a black hole.
This led to the DMO publishing its revised Gilt issuance where it decided to allocate more to the short-end than the long-end and increased the overall issuance by £5bn. All of which is a reminder that simply meeting OBR forecasts of fiscal rules is something of an illusion which doesn’t change the fact that, as the new chair of the House of Lords Economic Affairs Committee, the Labour peer Lord Wood, put it, “10% of UK tax revenue is being spent on debt servicing“.
More borrowing will not improve that statistic although perhaps Bank of England rate cuts could help at the margin. We expect a rate cut when the BOE meet on Thursday 8th May with more and more MPC members having discussed the disinflationary impact of global tariffs, whilst business surveys are turning lower.
That will be too late to encourage voters in the local elections which take place on Thursday. Not that Labour feel too perturbed about what might happen, given the last time most councils were contested they were big wins for the Conservative Party. But they might feel perturbed in the aftermath, given Reform is expected to do well, particularly if they win any of the four mayoral races. Local elections are both the perfect moment for voters to voice discontent by choosing a protest party that they might not even back at a General Election AND for turnout to favour those keen on protesting. In short, it’s fertile ground for the Farage vote. The polling company More In Common have produced an interactive tool which shows how much the Mayoral results could change once altered for turnout. There are no less than four parties in contention for the West of England mayor – Labour, Conservative, Reform and Green:
And the reason voters are so fragmented? They’re angry and want someone to do something about it. They just don’t agree on who or what that is. This is a problem across the western world, created by the uneven distribution of outcomes caused by the pandemic, inflation and the technological revolution. First past the post systems, such as in the US and the UK, enable anyone who can nudge ahead of the others to be the winner who takes all. But it has left the UK with a Labour government that has a majority but not a mandate. And with each tweak to policy in the wake of an ever tighter fiscal straitjacket, the government gets into more of a mess. More In Common’s Luke Tryl explains that ‘Winter Fuel comes up in almost every focus group on this Government; so much that I think you could call it this Government’s original sin. Why? Four big themes reasons 1. Trust 2. Concern for vulnerable 3. Contribution 4. Encourages zero sum thinking’.
And now Reeves has been restricting disability benefit in the pursuit of meeting a fiscal rule she will almost certainly have already broken, even without the market and economic volatility unleashed by Liberation Day. Mervyn King didn’t mince his words in a recent House of Lords debate on the Economic Affairs Committee report on the National Debt: “The Chancellor defended a rolling horizon by arguing that it avoids the need to make sharp policy adjustments in response to small changes in the forecast. Yet in her Spring Statement, only a few weeks ago, the Chancellor did exactly that: cutting spending in order to meet a change in the OBR’s point forecast for 2029-30… Although the OBR discusses risks to the outlook several years ahead, it presents just one precise number to which the chancellor is supposed to respond, and it does so every six months. This is no way to manage public spending… We owe it to our grandchildren to take seriously the challenge of reducing the national debt“.
What is the alternative? Our CEO Helen Thomas discussed this with the Institute for Government’s Gemma Tetlow and NIESR’s Adrian Pabst in a recent webinar. All were agreed that the current system could and should be reformed.
4. The EU
Reeves might be happier to have the reserve currency that’s causing so much consternation to Bessent and Trump, rather than perpetually fearing the anti-Trussian bond vigilantes. Germany, rather than the UK, seems to be a prime beneficiary of moves out of US Treasuries, given their debt to GDP ratio is almost half that of the UK. So far nobody seems too perturbed that the Euro is more than just Germany, encompassing the 112% debt to GDP ratio of France or 135% for Italy. It also famously includes Greece, who took their fiscal medicine and have now announced a stimulus of 1bn EUR in benefits for lower-income families and public investment after reporting a budget surplus of 1.3% of GDP.
The Stability & Growth Pact which tries to force all Eurozone countries into the same debt and deficit rules had recently been revised to bring EU member states back to sustainable debt paths. On Wednesday, the ECB will publish a bulletin on ‘Euro area countries’ medium-term fiscal-structural plans under the revised Stability and Growth Pact – a review’ which should provide a reminder of which countries are managing to stick to the rules better than others. But those rules now have something of a spanner in the works. Germany had been advocating for them to be as tight as possible but the post-election rush of blood to the head of Friedrich Merz on reforming the German debt brake means it is Germany that might break the new rules. A new paper by the think tank Bruegel calculates that if Germany proceeds with its pledge to spend EUR 150bn from its infrastructure fund by 2029, ‘the current EU fiscal rules, even after the activation of the NEC offered by the European Commission, will not allow any of this spending, unless it is offset by fiscal savings elsewhere’.
Furthermore ‘EU fiscal rules also constrain the new German golden rule for security spending. While it can benefit from European Commission flexibility for increased core defence spending, it will need to cut additional security spending (or offset it with savings)’. Handelsblatt warned of double standards if Germany, having forced tighter budget rules on Eurozone states, then breaks or fudges them.
And support for these radical new measures isn’t even guaranteed. On Wednesday the results of the SPD membership vote on the new coalition deal will be announced. It’s unlikely that the coalition deal won’t be approved but it could be closer than the new government might like. The youth wing of the SPD, Jusos, has already said it will vote against the deal, particularly due to its strict immigration rules, and they represent around 12% of party members. They want the coalition deal renegotiated but have been warned by Party Chair Lars Klingbeil ‘There will be no second round. If this fails, there will be new elections or a minority government’.
Merz is on track to become Chancellor on 6th May but his tenure will not be an easy one.
5. Earnings
The story of earnings season so far has been companies withdrawing guidance, deeming the outlook too uncertain. This is a neat trick to pull, as it avoids overpromising and underdelivering, but it means there is less information in earnings releases than usual. Instead we will focus on the backward looking data so that we can deduce which companies are going into the Trumpian-new-world-order shock from a stronger base than those who are not. We will also have to parse the data for those who are recording the pull forward of activity in advance of tariffs. But there will be winners from the huge realignment that is about to take place, as much as all of Trump’s opponents will want markets to focus on the losers. We will be watching:
- Tuesday – consumer bellwethers Coca-Cola and Starbucks
- Wednesday – Mag7 behemoths Microsoft and Meta
- Thursday – Ditto Apple and Amazon
- Thursday 8th May – Anheuser Busch as a multinational crossing tariff zones
