Tariffs and the Mar-a-Lago Accord: What Trump Really Wants
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Welcome to Money for the Rest of Us. This is a personal finance show on money, how it works, how to invest it, and how to live without worrying about it. I'm your host, David Stein. Today is episode 515. It's titled, Tariffs and the Mar-a-Lago Accord, What Trump Really Wants.

It's been a rough year for U.S. stocks. They're down about 5% year to date, while global stocks ex-U.S. have gained almost 9%. Non-U.S. stocks have outperformed the U.S. market by 14 percentage points year to date.

Now, back in early February, when I was writing the monthly investment strategy report we do for Plus members and Asset Camp subscribers, I mentioned there was a lot of complacency in the markets. The VIX volatility index, which is a measure of fear, this is the implied volatility priced into U.S. S&P 500 stock options, in early February was at 15.5. Today, it's

It's up to 28.7%. The incremental yield or spread that investors demand on junk bonds, non-investment grade bonds in the U.S. in early February was 2.6%, near its all-time low. Now it's a half a percent higher, spread of 3.1%. This morning, President Trump announced online that he would increase the planned 25% tariff rate online.

on steel and aluminum coming from Canada to 50%. Trump said that was in retaliation to the export tax that Canada placed on electricity flowing into the U.S. There is more concern regarding a potential U.S. recession. On Fox News on Sunday, President Trump was interviewed and they asked him whether there was a risk of a recession this year. And he replied, I hate Trump.

to predict things like that. There is a period of transition because what we're doing is very big. In his State of the Union address, he said that there would be an adjustment period. Now, some of the major investment banks have increased their probabilities of a recession. JPMorgan Chase says a U.S. recession, 40% probability in 2025. That's up from a 30% probability at the beginning of the year.

Economist at Goldman Sachs raised their 12-month recession probability to 20%, up from 15%. When we looked at leading economic indicators in our most recent investment strategy report, the risk of a recession is still low globally and in the U.S., but it is increasing and will increase if the U.S. stock market continues to sell off. The new prime minister in Canada, Mark Corbyn,

Carney said in his victory speech, America is not Canada and Canada never, ever will be part of America in any way, shape or form. We didn't ask for this fight, but Canadians are always ready when someone else drops the gloves. So Americans should make no mistake in trade, as in hockey, Canada will win. There's a lot going on in Canada.

financial markets right now. So I spent some time this week researching what some of

of the Trump administration's economic advisors have said to better understand what the game plan is. Is there an underlying economic philosophy that is driving what can at times seem like capricious decisions? We're going to levy tariffs. We're going to take them off. We're going to delay the tariffs a month. I found two interesting pieces that I'll link to in the show notes that shed some light on how Trump views

views tariffs and their overall aim when it comes to trade, the U.S. dollar, and the global economic order.

The first is a fireside chat with U.S. Treasury Secretary Scott Bessett. This is from last October before the election, and it's from Simplifies Entering the Fall Thought Leadership Series. Second piece is a lengthy white paper by Stephen Moran. He's President Trump's nominee for chairman of the Council of Economic Advisors. The Council of Economic Advisors advises the president on macroeconomic issues.

matters. There's a chair and there's two other members. The white paper is titled A User's Guide to Restructuring the Global Trading System. Well, we have to keep in mind when it comes to trade and

and President Trump is he views tariffs as a negotiating tool to achieve both economic and national security aims. Scott Moran wrote, President Trump views tariffs as generating negotiating leverage for making deals.

Besson alluded to a process of escalating tariffs in order to de-escalate them. The idea of putting tariffs on in order to get rid of all the tariffs. And Besson, in looking at how he views tariffs or considers the Trump administration viewing it, now he's a part of the Trump administration, so presumably these are his views, is countries can be put into different boxes. Be the green box for those that have the most favorable treatment and red, less favorable. Well,

What are they judging it on? He said shared values, shared economy, shared defense, shared currency goals. In other words, if a nation is more aligned with U.S. interest, tariffs could be lower. But what is the goal? What are they trying to accomplish? From what I can see, one of the main goals is a weaker U.S. dollar so that U.S. manufacturing is more competitive.

Moran wrote, a robust and well-diversified manufacturing sector is of renewed necessity. If you have no supply chains with which to produce weapons and defense systems, you have no national security. As President Trump argued, if you don't have steel, you don't have a

a country. The administration, from what I can see, believes that the U.S. dollar is too strong. Moran wrote, the root of the economic imbalances lies in the persistent dollar overvaluation that prevents the balancing of international trade. And this overvaluation is driven by inelastic demand for reserve assets. In other words, there's such demand to invest in the U.S. and hold U.S.

U.S. dollars, that pushes up the value of the dollar relative to other currencies. And the strong dollar makes U.S. exports more expensive and imports into the U.S. cheaper. And that hurts U.S. manufacturers. The U.S. is a reserve currency and the dollar, it is used foremost coming out of World War II as part of the Bretton Woods Currency Accord, which

where the U.S. was essentially willing to help out the world. It had the strongest economy, and the dollar would be the world's reserve asset, and the U.S. would help finance the recovery coming out of World War II. For the decades following World War II, as a reserve currency, other central banks could exchange U.S. dollars that they aggregated and exchange it worldwide.

with the U.S. Central Bank for gold. There was a fixed exchange rate between U.S. dollar and gold. One ounce of gold was worth $35, and the dollar was exchangeable into gold up until 1971 when the Nixon administration closed the gold window and central banks could no longer exchange dollar for gold because

because there were too many dollars and the price of gold and dollars kept going up and up. And then in 1973, the U.S. started allowing the U.S. dollar to fluctuate in value relative to other currencies. And that is the regime we've been in, floating currency exchange rates for most currencies. Some currencies are still pegged to the U.S. dollar, but the U.S. is still the reserve currency because much of global trade occurs in the U.S. dollar. The

The bulk of central bank reserves outside of the U.S., 60% are held in the U.S. dollar. Much of foreign borrowing is done in the U.S. dollars, including emerging market countries. Economist Paul Krugman says once a currency has established global dominance, that very dominance tends to become self-perpetuating. Making transactions in dollars is easier and cheaper because so many other people are using dollars.

Borrowing dollars tends to be cheaper because a lot of the world trade is invoiced in dollars, and the low cost of financing encourages diversification.

dollar invoicing. And so it's this perpetual cycle. The U.S. has the deepest financial market in the world, so it's easier to trade dollar assets. There's demand to invest and own U.S. dollars. And how do investors and companies and governments get access to U.S. dollars, those outside of the U.S.? The U.S. runs a trade deficit, a current account deficit. In order to get dollars out

outside of the U.S., the U.S. has to buy more goods and services from overseas than it sells to them. So dollars flow out of the U.S. U.S. has a capital surplus, which means more capital flows in to the U.S. to invest in the country, to buy government debt. And the flip side of that, the mirror image is a current account deficit.

That's a trade deficit plus some additional elements that are included in that. But most of the current account consists of trade and goods and services. Sometimes having that reserve asset is called an exorbitant privilege because due to the strong demand for U.S. dollar assets, it's

interest rates in the U.S. are lower than they would be otherwise. And given the depth of the financial markets, U.S. government can issue more debt than it would be otherwise without impacting interest rates because of this capital account surplus, this desire to invest

In the U.S. and U.S. households and businesses, because U.S. is running a trade deficit, the private sector is spending more buying goods and services than income that's coming in from selling goods and services overseas. The savings rate in the U.S. is lower than it is in other countries. And so capital is coming here to invest.

There was a podcast episode that I'll link to where Paul Diggle, chief economist, and Luke Bartholomew, deputy chief economist at Aberdeen, they're an investment, big global investment firm. They said, it's important to note that the strong demand for U.S. assets keeps the dollar elevated, and that strong dollar squeezes U.S. exports and encourages imports. And in that sense, you can think of it as creating the current account deficit. With

which is the natural, necessary mirror image of the capital account surplus that comes from being the reserve issuer. And in particular, it's the manufacturing sector that tends to suffer the most from that strong dollar. It's the most

trade-exposed part of the economy. And they point out then that when there's an economic weakness or a recession, it's U.S. manufacturing that's hit the most because that's when there's a flight to quality, the dollar strengthens, and U.S. manufacturing base becomes even less competitive on a price basis. Now, there are other benefits to being the reserve currency. Moran refers to it as financial equity.

extraterritoriality. He says the reserve asset, the U.S. dollar, is the lifeblood of the global trade and financial system. And it means that whoever controls the reserve asset and currency can exert some level of control on trade and financial transactions. The U.S. can apply sanctions against

against other countries and businesses, frees them out of the SWIFT system, the system used for transferring currency flows. And it can use that power to exert pressure on countries to achieve the U.S.'s foreign policy aims. This financial reserve asset gives the U.S. power when it comes to geopolitical issues.

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Now, here's the problem that Moran and Besson and others see. With the U.S. having been the reserve currency for decades, the U.S. GDP, the size of its economy as a percent of global GDP has shrunk. Back in the 60s, it was 40% of global output, the VAT.

the value in dollars of what is produced. Now, for the past decade or so, it's been around 26%. Moran writes, as the United States shrinks relative to global GDP, the current account or fiscal deficit it must run to fund global trade and savings pools grows larger as a share of the domestic economy. Moran

Moran says not only does the U.S. have to run a trade deficit, but it also runs a budget deficit, which means the government spends more than it takes it in tax revenue and that finances that through government bonds. But these deficits get larger as a percent of the global economy, the burden. He continues, therefore, as the rest of the world grows, the consequences for our own export sectors and overvalued dollar incentivizing imports be

becomes more difficult to bear and the pain inflicted on that portion of the economy increases. He says eventually the U.S. will get to a tipping point where the deficits get so large that inflation

investors start to get worried about potential default, the loss of the reserve asset. We can see that and we will see that if it happens in terms of higher interest rates and a wider term premium, the additional compensation investors demand for uncertainty.

Moran finishes his thought saying the paradox of being a reserve currency is that it leads to permanent twin deficits, a budget deficit and a trade deficit, which in turn lead over time to an unsustainable accumulation of public and foreign debt that eventually undermines the safety and reserve currency status of such large debtor economy. That's what they're worried about.

And that's what they want to change. Now, in reading critiques of this paper, some have suggested, well, the number of individuals in the U.S. involved in manufacturing, in other words, the manufacturing share of employment, it's down in the U.S., but it's down in all areas around the world because manufacturers becoming more

more efficient, more productive, using more robotics. There are fewer people globally that are involved in manufacturing. And even if you see a graph of the dollar strengthening or weakening, the manufacturing share of employment has continued to fall. If we look at manufacturing as a percent of GDP in the U.S., it was 13.2% in 2004. It

20 years ago, now it's 10.6%. But China's share, the share manufacturing as a percent of GDP has also gone down 32% in 2004, 28% today. In fact, the percentage point drop is larger in China than it is in the US, but it's still close to 28%, so much higher, which is why Besson says we're trying to make China rebalance. China over manufactures and deprives

It's household sector. Households under consume. If you push them to rebalance, then that will lead to more U.S. manufacturing. What Moran and others want is the U.S. to be more competitive in

in high value manufacturing. They're not trying to reshore low value industries like textiles. They admit that Bangladesh will always have a competitive advantage when it comes to producing textiles. But there are other more complex manufacturing that they truly believe

a weaker dollar will help in that being the reserve currency has hurt the competitiveness of U.S. manufacturing. So even though manufacturing in terms of total employment has gone down around the world due to greater efficiencies, there's still the belief that

that the U.S. can be more competitive if the dollar was weaker, and it needs to be more competitive for national security reasons, to be producing things. And that's their belief, that these deficits, budget deficit, the trade deficit need to be brought down.

The dollar needs to be weaker. And the way that you do that is you reduce the trade deficit and you also reduce the capital surplus. Make the U.S. less compelling to invest in. Fewer flows into the U.S. because you need to shrink both because they're the mirror image. The trade deficit needs to decrease and the capital surplus needs to decrease. And they're using technology.

tariffs as the tool to help accomplish that. Moran says it's easier to imagine that after a series of punitive tariffs, trading partners like Europe and China become more receptive to some manner of currency accord in exchange for a reduction of tariffs. Using the tariffs to inflict pain on

on trading partners in order to get them to take actions to strengthen their currency and lead to a weaker dollar so that U.S. manufacturers become more competitive. Now, Moran refers to a currency accord. The Bretton Woods was a currency accord, and these accords

There are agreements regarding currencies and exchange rate, and they usually name it wherever the accord was struck. So Bretton Woods was in New Hampshire. In 1985, there was the Plaza Accord.

in which the Reagan administration negotiated with UK, France, Germany, and Japan to strengthen their currencies and weaken the U.S. dollar. Because U.S. dollar had appreciated from 1980 to 1986, it appreciated everything.

86%. U.S. dollar index, Dixie, was at 160.4. Now we're at 103.9. And the trade deficit as a percent of GDP in 1985 was 3%. So we had that trade deficit. There was a budget deficit and a very strong dollar. And they worked together to weaken the dollar primarily by those countries raising their interest rates and reducing the spread between U.S. interest rates and the

the interest rates of the trading partners. Things are different today, though. The currency exchange markets were much smaller. It's much more difficult to impact currency rates. And one of the challenges to this is that tariffs tend

typically lead to currency appreciation for the country running the trade deficit. It doesn't weaken it. And that's what we look at the tariffs placed in 2018, 2019 on China, tariffs between 10 and 50 percent and more than 300 billion dollars of imports from China. The Chinese renminbi weakened and U.S. dollars strengthened. And that offset the cost to U.S. consumers and businesses of the tariffs because the

the dollar strengthened. And even though tariffs were applied, if they were added to the cost of goods because of the strengthening dollar, it helped to offset that. And there's a lot of disagreements about tariffs. In our strategy report, we talked about one of the big issues is how much of the tariffs will be absorbed by the exporter, how much will be passed on to the importer, and how much will that importer pass on those higher costs to the consumer? Will this

higher prices be a one-time thing or will it continue to contribute to inflation? There's disagreement on that. I saw there's one study by an economics firm that believed full-size pickup trucks in the U.S. would be $9,000 higher if Trump administration moves forward with 25% tariffs on Mexico and Canada and now with 50% tariffs on perhaps Canadian steel.

What is the true impact of tariffs? How negative is it? I'll link to a blog post by the Federal Reserve Bank of New York where they looked at the cost of those 2018-2019 tariffs. And they said one of the costs you don't see that they captured was the stock market fell 11% during the days that tariffs were announced. And they tried to isolate that. Their analysis showed that it wasn't just fear, it was

companies that were most impacted by the tariffs, their stocks were revalued downward because their cash flows would be less because having to pay more for inputs into what they sold or what they manufactured. And they felt that the negative welfare impact of

tariffs, those tariffs placed against China 2018-2019 was negative 3%. So their view was tariffs are negative. The Trump administration sees it as a negotiating tool that according to Besson, they would like to not have any tariffs, but they want to accomplish their foreign policy and economic policy aims, which is

is a smaller trade deficit, a smaller capital surplus, and a weaker dollar so that the U.S. can be competitive in manufacturing because that will help its national security. How

How then, if there's going to be a currency accord, some have called it the Mar-a-Lago Accord after the Trump resort property in Florida, how to get trading partners or even trading competitors, political competitors like China to agree to strengthen their currencies?

to allow for the U.S. dollar to weaken. They're using tariffs to sort of force them to do that. But the easiest way to do that is like they did in 1985. It's adjusting interest rates. U.S. rates come down. Other countries' rates go up. But China doesn't want to raise their interest rates. Their economy is not booming. Europe the same way, although Germany last week announced plans to majorly expand defense spending and infrastructure spending and

interest rates there went up almost a half a percent in a week. So now they're 2.9% on the 10-year government bond. Back in 2021, it was almost negative and a half percent. And so we've seen the dollar weaken since its high right before the Trump administration

inauguration, it's down about 5%. But if we look at the levels that would really be needed for U.S. to become more competitive for exports and manufacturing, we're talking a 30% depreciation in U.S. dollars, down back to where it was in 2011. And that could be accomplished by adjustments in

interest rates, but that would be some type of multilateral agreement with Europe. But it doesn't just have to be interest rates. Moran suggested that the U.S.'s European partners could liquidate its bond holdings, its government treasuries that it holds, and sell dollars. So they sell dollars to buy their own currency that helps strengthen their currency. They own treasuries

treasury bills. Now, the risk is that impacts interest rates. And so he suggests that they could liquidate their bond holdings, sell dollars, but they could also, with the remaining holdings, buy 100-year bonds that the U.S. could issue, the military could issue, and the agreement would be, buy these long-term bonds in exchange for we continue to provide security to Europe.

And so by forcing them to sell their short-term bonds, sell dollars, buy their currency, and buy these 100-year bonds, that will extend out the duration and hopefully keep U.S. longer-term interest rates down. And as part of that, they would put in swap agreements with the Federal Reserve. So if a country needed to get access to cash, they could take that 100-year bond, use it as collateral, and then borrow from the Federal Reserve. So that's

So that's one option, force, compel, tariff countries to sell some of their shorter-term treasury bonds and sell dollars. Another would be to apply a user fee to use the International Emergency Economic Powers Act passed in 1977 and use that and start charging countries a fee for owning treasury bonds. Essentially, it's an interest rate cut. But

but to discourage them from buying debt. Now, that's sort of a far out approach. But the whole idea is tariffs lead to a strengthening currency for the country trying to bring down its trade deficit. But at the same time, the Trump administration wants a weaker dollar. So they're going to have to use unorthodox methods. And there's risk to that. The biggest risk is U.S. stock market sells off as it is.

currently doing and the dollar weakens that it's currently doing. And so there's a negative wealth impact where wealthier households and middle class households feel the pinch as their 401k balances go down. And so they get risk averse and start stop spending. And the U.S. enters into a recession.

And then there's non-U.S. investors that have the double whammy of a falling U.S. stocks and a huge amount of inflows for this capital surplus has gone into U.S. stocks. So the stock market's falling and the U.S. dollar is weakening, which means when those returns are translated into the euro or the yen, the returns are even lower. And so those...

investors start selling assets, leading to even more downward pressure on stocks and upward pressure on interest rates. There could be outflows from U.S. investors as they tilt more toward investing overseas because valuations are cheaper and their currencies are strengthening and potentially their economy is doing better because those nations aren't trying to reduce their trade deficits. We could get an escalating trade war, as we're seeing tit for tat, geopolitical conflict, perhaps more inflation.

So reorganizing the financial order to try to maintain some of the power of the reserve currency, but also weakening the currency, that's not easy to do, which is why Besson said it's a 10-year project. They say they're going to do it slowly, but there is risk to continuing the way it has been. And I agree, there is risk to continuing.

maintaining these huge deficits, the trade deficit and the budget deficit, and the need to reduce them. It's just how much collateral damage there'll be as part of that process, because this is something that has evolved over decades. And it could take a decade for it to reverse, but Trump administration is trying to do it.

using tariffs as a negotiating tactic, but it is fraught with risk. We'll see how this evolves. We'll continue to monitor it, but that's what the Trump administration wants. Weaker dollar, smaller deficits, but also they still want the dollar to become a reserve currency. They just...

want, they sort of want it all. And they feel like they're deserving for it all because they're providing security, military security for much of the world. We'll see how it goes. That's episode 515. Thanks for listening. You may be missing some of the best money for the rest of us content. Our weekly Insider's Guide email newsletter goes beyond what we cover in our podcast episodes and helps elevate your investment journey with information that works best in written and visual formats.

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