By: Tim McDonald
Part 1 – The Economic Landscape
The Art of the Deal
As Zig Ziglar famously wrote: ‘selling is not something you do TO someone, it’s something you do FOR someone’, a prescription to be borne in mind as you prepare to sell your business. You’ve worked hard to build your business and you know its value to you. Now you must find someone to whom its value is even greater. To arrive at that outcome means putting yourself in the buyer’s shoes.
In a 3-part article that begins here, we will examine how you can do that and how the Trump presidency will affect your ability to sell your business over a reasonable time frame and at a fair price. In this first part, we will look at how the economic environment is likely to change after Trump is sworn in.
Can Trump bring manufacturing jobs back to America?
U.S. manufacturing employment reached its highest level of 19.5 million in 1979 and has declined by about 7 million, since then.
However, overall employment has increased at a greater rate than adult population growth and 60 million jobs have been added in the service-providing industries. It is true that some service jobs such as the ones in retail, leisure and hospitality pay less than the typical manufacturing job. But 62 percent of new service sector jobs pay the same or more. These include financial, professional and business service jobs, jobs in the wholesale industry, in construction, and in the education and health services sectors. As a result of the jobs growth, the unemployment rate at the end of November 2016 was 4.6 percent.
Improvements in labor productivity due to new technology have decimated factory jobs. In the seven years since the Great Recession, U.S. manufacturing output has risen by about 20 percent. Yet, factory jobs have increased by just 5 percent. More work is being done with less workers. And those same technological advances are also driving the job creation and GDP growth in other sectors. Still, the loss in manufacturing jobs has hit blue collar workers hard. Many of the higher paying service sector jobs require a college degree.
Can Trump grow the economy?
The biggest driver of economic growth is technology and the operation of the free market. Technology increases productivity. We get more done with less. Lower costs, generally, lead to lower prices. Allowing the market mechanism to operate unimpeded spurs competition, which, in turn, leads to innovation. Yet, from what we have seen so far, Mr. Trump favors an interventionist approach to economic issues. This sort of approach can backfire particularly if it means impeding the implementation of new technology to preserve jobs.
In the 1960s, harvesting California’s 2.2 million tons of tomatoes required about 45,000 workers. By the 1980s, development of an oblong tomato and improvements in mechanization were threatening to reduce the number of workers required. Faced with pressure from the farm workers’ unions in California, the Carter administration pulled funding from research into the use of mechanical harvesters. Nevertheless, there was no stopping the technology. By 2000, it took only 5,000 workers to harvest a much larger 12-million-ton tomato crop.
Government can influence economic outcomes through fiscal policy and monetary policy. Fiscal policy falls under the ambit of Congress, which controls the public purse, and the Administration. Mr. Trump has promised to invest a trillion dollars in America’s aging infrastructure and it appears that with a Republican Congress, this may be soon forthcoming. However, similar initiatives under the Obama administration were shot down in the Senate. An amendment to the 2016 budget bill that would have earmarked $478 billion for infrastructural upgrades and improvements was voted down by Republicans because it was to be paid for by closing a number of corporate tax breaks.
Mr. Trump has promised to cut the top corporate tax rate from 35 percent to 15 percent, saying such a move will fuel investment and economic growth. That seems to be a widely held view. Back in 2010 the Heritage Foundation came to a same conclusion after its models showed the U.S. economy growing faster over 2011-2020 if the top rate was reduced from 35 percent to 25 percent.
However, a recent Fed study has thrown water on that notion, concluding ‘we find little evidence that corporate tax cuts boost economic activity, unless implemented during recessions when they lead to significant increases in employment and income’ And analysis by the Center for Economic and Policy Research has shown ‘the absence of any relationship between profits and investment.’ Indeed, high profits may indicate lack of competition, the very thing that spurs investment and innovation.
Can Trump affect monetary policy?
Monetary policy is aimed at establishing price stability, full employment and stable economic growth and is under the purview of the Federal Reserve System, the board of which consists of seven governors. Candidates are nominated by the sitting president but must be confirmed by the Senate. At present, there are only five governors because the Republican-controlled Senate Banking Committee has refused to hold hearings on nominees to fill the vacancies.
Trump may lay the philosophical groundwork of future monetary policy since he will get to fill nominations for the existing two vacancies on the Board. In addition, he will have the opportunity to nominate a new chairman and vice-chairman in 2018, when Janet Yellen’s and Stanley Fischer’s chair roles come to an end. (They both will continue as governors after 2018.)
In a phone interview with CNBC early in 2016, Trump said he would replace Yellen because she is not a Republican. However, he opined, “She’s a low-interest-rate person; she’s always been a low-interest-rate person. And I must be honest, I am a low-interest-rate person. If we raise interest rates, and if the dollar starts getting too strong, we’re going to have some very major problems.”
How will Trump affect international trade?
Both conservatives and liberals agree. International trade is good. Free trade has been, in the words of the Heritage Foundation, ‘the basis of America’s wealth’. The Economist has written ‘Freer trade was one of the engines of the prosperous decades following the Second World War, in America and beyond.’ Consequently, anything that restricts international trade such as scrapping trade deals because of lost jobs is a remedy that will prove worse than the ailment.
Manufacturing jobs have been lost to China. It has been estimated that between 2000 and 2007 ‘trade with China destroyed nearly 1 million U.S. manufacturing jobs.’
The U.S. is certainly in a stronger position to negotiate since the net trade balance between the two is presently in China’s favour. However, imposing tariffs will restrict the volume of Chinese goods by raising prices and may result in retaliation, which could include tariffs or other measures.
For example, China mines 93 percent of the world’s rare earth minerals and controls more than 99 percent of the world’s supply of these prized rare earths. In 2010, it blocked exports of rare earth metals to Japan after Japan detained a Chinese fishing trawler captain for alleged illegal fishing. In any event, Mr. Trump can not go it alone. Unless there is a national emergency, the law will only allow him to impose a tariff of 15 percent on all imports, and only for as long as 150 days. To go further, he will need Congress.
Will a Trump presidency make investors more willing to take risks?
Risk appetite – the willingness of investors to bear risk – depends on our natural risk averse nature and the degree of uncertainty that we perceive. Both variables change over time and affect each other. Risk appetite varies as investors respond to episodes of financial distress and macroeconomic uncertainty. In periods of uncertainty, investors will require higher excess expected returns to hold each unit of risk and risk appetite will be low. Excess expected returns are the returns over and above what is normal for that level of risk, bearing in mind that the possibility of returns on an investment only come at the expense of taking on risk.
One common proxy for market risk is the VIX index, which shows the expectations of market 30-day volatility. The VIX is sometimes referred to as the “fear gauge” and its “normal” range is between 20 and 30. Values above 30 signal fear; values below 20 indicate complacency.
Throughout 2016, the VIX has trended downwards. In the first quarter, it was in normal territory but fell to about 14 by March 31. In the second quarter, lows of 14 and 15 were maintained but June saw a huge run up that spiked at 24 in the last week of June. The third quarter witnessed new lows of 12 and 13. In the last quarter, it has never risen above 25.
Speaking in very broad terms, a high VIX means that investors are willing to pay more for risk protection and thus indicates a lower risk appetite. A low VIX means higher appetite for risk.
Look out for Part 2