Hello, I'm Eric Robertson, Global Head of Research and Chief Strategist at Standard Chartered. And I'm Madhur Jha, Global Economist and Head of Thematic Research, also here at Standard Chartered. Welcome to Macro Freestyle, our monthly podcast series where Madhur and I will identify and explore topics that are likely to be most impactful and relevant for financial markets and the global economy.
I'm delighted to welcome you all to the first episode in our podcast series, Macro Freestyle. This month, we discuss whether market perceptions of U.S. exceptionalism are changing and whether this is justified. So let's dive straight in.
Eric, markets seem to be starting to question U.S. exceptionalism in all its manifestations. What do you think is driving this change in perception? I think there's two sides to the coin here.
U.S. exceptionalism, I think, has gotten a lot of attention because of the strength of U.S. asset markets, the resilience of the U.S. economy, and frankly, the strength of the dollar. The retracement in the dollar since the highs in January, I think, has caught a number of people off guard and is forcing people to ask questions about U.S. exceptionalism. But I think it's also a little bit overstated.
The U.S. economic data is still fairly resilient, and in fact, markets have reduced the number of rate cuts that they're expecting for the Fed. We now only expect two cuts this year. But it's really this retracement in the dollar and the outperformance of some global equity markets by a slim margin that's calling this exceptionalism theme into question.
So then I think what we have to look at is, is there an external story? In other words, is it improving expectations for other parts of the world? We have seen a little bit of a shift in sentiment in China.
China's equity markets are performing well. There's renewed optimism about China tech and maybe even the private sector. There's a growing view that Europe may actually perform better than expected this year, partially because of the hope for fiscal stimulus.
There's some hope around the German elections coming up and maybe a change in tone regarding economic policy. The conclusion I would draw is that the full reversal of U.S. exceptionalism is overstated. There have been some subtle tweaks in the narrative and the consensus, but so far, it's very early days.
And so do you think that the consensus is starting to shift regarding the relative economic and financial performance across Europe, U.S. and China? I think it's starting to shift because, frankly, people have become a bit frustrated with some of the themes that were widely held at the start of the year. People had very high expectations for how quickly tariffs would be implemented.
People had very high expectations for U.S. interest rates going lots higher, either because of tariffs or because of fiscal stimulus. And as we all know, these programs take time to execute. And we've seen that with tariffs, as you and the rest of the team have written about and commented on.
If you were to ask me where do I think there is a real potential shift in the economic narrative, I think China is worth looking at. There is increasing evidence, in our opinion, that fiscal stimulus is potentially a higher probability outcome in China, and that will certainly help. There are some early signs that perhaps the leadership in China is warming up again towards the private sector.
Europe is a little bit different and where I think maybe the optimism is a little bit overdone in the short term. The European elections in Germany specifically, I suspect, will lead to a marginal shift towards a growth focus. But I'm not convinced you will see big bang fiscal stimulus.
I also think that all of the optimism around a Russia-Ukraine peace settlement has lots of uncertainty attached to it. So while I'm a little bit more optimistic on China, I'm probably still relatively pessimistic on Europe. And I guess that prompts me to want to ask a question back at you, Madhur, which is, we've seen a little bit of a shift in these narratives and the consensus, as you've correctly pointed out.
My view is that the markets were impatient with regards to tariffs. But I wanted to ask you, what's your view on where we stand on the tariff story? Is there a more benign narrative taking place or is it just taking a little bit longer to play out?
Markets have definitely breathed a sigh of relief that there's been a lot of announcements, but there hasn't actually been any implementation so far. But I think you're quite right, Eric, in maybe cautioning against being over-optimistic on what's actually been happening. Tariff action is likely to pick up from the second quarter.
And I would highlight maybe two broad areas of concern on the tariff front first. I think markets seem to be assuming that universal tariffs are completely off the table because they haven't been announced so far. But having seen statements from U.S. trade representatives, from the president himself, I think it would be quite premature to assume this.
And these could very easily come back into play, especially if we start to see a stronger disinflation trend in the U.S. More importantly, as you rightly said, what are we expecting in terms of tariff action over the coming months? The most important announcements that we've had so far clearly relate to reciprocal tariffs.
Now these announcements themselves are a pretty significant departure from what we have seen previously in terms of U.S. trade policy since the time of the GATT coming into force in 1947. So really quite a significant shift from what we've been used to. And while we are still waiting for more details on how these tariffs will be implemented, I think it is quite important to recognize that the scope of the potential trade measures from the U.S. is actually very large because they are looking not just to offset tariff differentials, but also trying to impute a cost, a tariff equivalent to the non-tariff measures, such as export subsidies, such as FX policies, and even quite controversially the value-added tax.
And I think the inclusion of these non-tariff barriers will be quite significant in understanding which economies are likely to be targeted. Because if you look at just tariff differentials, then it is the EM economies that are likely to be under the scanner, like India, like Thailand, because they tend to impose much higher tariffs on the U.S. than developed economies do. But these are not the largest trading partners for the U.S.
And if you look at the U.S. objectives of trying to achieve some sort of trade deficit reduction or trying to improve revenue generation, then matching higher EM tariffs is not really going to be having a significant impact. So what the U.S. administration, I think, is really keen to do is trying to get a number for non-tariff barriers so that they can actually impose higher tariffs on their key trading partners, such as the euro area and China. And that's where I think the real risk lies.
Economists have been happy that China action has been slow in terms of U.S. tariffs on China, but I think that is going to be accelerating over the coming months. Actually, a lot of the groundwork for tariff action was already done during the first Trump administration. So we could see quite a few very quick measures being announced once these studies are completed by the end of March.
Which brings me to my next question for you, Eric. How do you think we should be thinking about the potential reaction of policymakers in those countries and regions that are likely to be the targets of Trump's tariff and geoeconomic policies, especially in emerging markets in China and Europe, because they seem to be quite targeted by these policies? I think we can break it down into sort of three buckets, monetary policy, fiscal policy and reciprocal trade policy.
Reciprocal trade policy is the most complicated because it really depends on what the Trump administration puts on the table. For monetary and fiscal, I think it's a little bit more straightforward. There is, in my opinion, significant potential for fiscal stimulus in China.
The key question is not whether it's available, but whether they choose to pursue it. Monetary policy is already extremely loose. There's excess liquidity in the domestic economy in China.
So it really comes down to fiscal. Europe is more complicated. Europe I think needs fiscal stimulus.
They need to see an improvement in domestic investment, industrial production, et cetera. But there's the question of fiscal space. The stability and growth pact guardrails dictate that there's relatively limited additional borrowing that they can pursue to fund this fiscal stimulus.
And so I think what's going to happen over the next couple of months is that the markets will get very excited about the potential for fiscal in Europe and then ultimately be disappointed. And then it comes back to the European Central Bank to deliver economic support. And that's a big driver of our view that the ECB will need to cut interest rates more aggressively than what the markets are currently pricing in.
For EM, there's an additional complication, and that's their currencies. If the dollar remains strong and we were to see renewed weakness in EM currencies, that's going to make central bank decisions much more difficult and complicated for these economies. If their currencies are weakening, the risk of imported inflation goes up.
If they were to ease monetary policy further, that might exacerbate the currency weakness and you get a negative feedback loop. So I think there is a risk in a world of dollar strength where the ability to support their domestic economies is restrained or impaired because of concerns or sensitivities towards that imported inflation. And I guess turning it back to you, what are you thinking about with regards to these policy questions?
What are the things that markets need to get right? What are the questions that people need to ask themselves and really try to answer in the immediate future to set the stage for the rest of the first half of 2025? I think a lot of it ties into what you've already actually been saying, Eric.
I think the uncertainty surrounding these trade policies is likely to act as a drag on sentiment and on growth. And the focus will be on which economies have relative policy space to offset the impact from these uncertainties. Now one possible tool, which you've already mentioned really, is FX weakness because FX moves are seen to be a safety valve during periods of uncertainty.
The belief is that an economy can offset tariffs by allowing its currency to weaken, which will support export competitiveness. But I think there's a risk to assuming that this will happen. This is quite complicated by the prevalence of global supply chains and the predominance of the US dollar in trade invoicing.
And just to put it into context, global supply chains means that the biggest exporters in most economies are also the biggest importers. So FX weakness tends to be a double edged sword. It doesn't really give you the same benefits as you would get if you were just an exporter.
So just allowing your currencies to adjust is not enough. And focus will turn to whether you have, as you very correctly said, fiscal and monetary policy space. Central banks are likely to find it quite challenging to be able to balance the growth concerns against concerns about imported inflation.
And as a result, they might not be able to ease policy quite as much as they would like, especially if the Fed rate remains high. And so the focus will very much turn to who has the fiscal policy space, which economies are likely to see their fiscal profiles improving, and which are more domestically dependent in terms of funding of their debts and deficits to be able to support the domestic demand story. And I think markets will be paying a lot of attention to that.
Obviously, the final point I would want to conclude with is obviously uncertainty not just brings challenges, but also opportunities. And we are likely to see an acceleration in the reorientation of global supply chains as a result of tariff and trade policies. So South-South trade is really becoming a very important driver of global trade.
And new corridors of trade are emerging, whether it's Asia to the Middle East, Asia to Latin America. And I think markets would be quite prudent to watch closely which economies are able to tap into these emerging trade corridors. We've already got evidence that China is really increasing its greenfield investment in other parts of the world so as to be able to diversify supply chains.
So clearly, there are challenges and things that markets will have to watch in terms of policy space, fiscal policy, monetary policy, but then there's also opportunities that continue to exist. Going back maybe to the FX policy for a minute and its relation to trade. What are your thoughts, Eric, on how the US dollar fits into the broader discussions around tariffs and US exceptionalism?
Are we likely to see a lot more discussion around de-dollarization, for example? I think the dollar story gets muddled in a sense that people confuse the shorter term cyclical discussion on the dollar with the longer term structural question of dollar supremacy. In the short term, let's call it the next couple of quarters, maybe even the next year or two, the dollar is going to be driven by cyclical factors, relative growth, relative inflation, interest rate differentials, and obviously tariff policies.
And in spite of all of the discussion around tariffs, the thing that we have to remember is that if you look within the G10 at least, the US dollar is the high yielding currency. And that is set to remain the case, I think, for a while because we're seeing fairly aggressive monetary easing from a number of other economies, but we're actually seeing the market unwind rate cut expectations for the Fed. So by the end of 2025, I think we'll find that the US dollar is still the high yielding currency within the G10 and rate differentials globally are still dollar supportive.
In the structural story, there's lots of questions around whether there is a desire amongst global sovereigns, global corporates, global reserve managers to diversify away from dollars. Now we have seen meaningful diversification away from dollars from the reserve managers, in other words, the world's global central banks. And so that has certainly been a theme.
But the idea that the dollar will be abandoned, whether for trade or other purposes, I think is very misguided and very misleading. The dollar is still the dominant currency in terms of global trade, as reflected by payments on the SWIFT platform. The dollar is still the largest currency for invoicing and related matters.
And as you've correctly pointed out, when we look at supply chains globally, the dollar is still the currency that people use. Now, will alternatives crop up? Absolutely.
RMB has emerged as an alternative and a very viable one. The internationalization of RMB is a real story. But I view it as parallel financial ecosystems rather than one versus the other.
And so I think de-dollarization as a story is overstated. Now, could the dollar depreciate over the course of the first quarter? Sure.
That's been part of our forecast, actually. But as you point out, I think tariff risk will come back quite aggressively in the second quarter. And I think that's where we need to be mindful of a return of dollar strength.
So again, complicated by virtue of the fact that there's a short-term story and a long-term story. That is really fascinating. And I'd love to continue to talk more about this.
But I think that's all we've got time for this month. Thank you so much, Eric. And thank you, everyone, for listening.
Speak to you again next month. Thank you for listening to Macro Freestyle, our monthly podcast series on all things macro. Please do join us again for next month's edition.
This podcast is provided for informational purposes only. It does not constitute a personal offer, recommendation or solicitation to enter into any transaction or adopt any hedging, trading or investment strategy. Nor does it constitute any prediction of likely future movements in rates or prices.
All related disclosures and disclaimers can be viewed in the link in the description accompanying this podcast.