UBS On-Air: Paul Donovan Daily Audio 'Real slowdown risks'
The desk interprets recent comments from President Trump as undermining the independence of the Federal Reserve, suggesting that this external pressure may lead to broader market weakness and an economic slowdown, particularly since the slowdown is more risk-related than credit-cost motivated. Per the full note from UBS, Trump's push for lower interest rates could fuel inflationary pressures without improving consumer spending capabilities due to potential income erosion from tariffs. This signals a crucial shift in consumer and corporate behavior amidst increasing economic uncertainty.
What the desk is arguing
The desk contends that the anticipated US economic slowdown is primarily a function of rising risks rather than elevated borrowing costs. President Trump's recent advocacy for lower interest rates reflects a potential political interference in monetary policy that financial markets have reacted negatively to, with resultant asset depreciation. According to UBS’s commentary, the uncertainty from Trump's trade policies is escalating the risk profile for consumers and investors alike, leading to a reduction in spending and investment as individuals weigh the effects of inflation versus credit costs.
Moreover, the expected surge in inflation, spurred by tariffs, is poised to decrease real disposable income without effectively boosting corporate revenue. This scenario could push real interest rates into negative territory, complicating the financial landscape for borrowers, as the primary factors influencing credit expenditure are shifting away from rate levels towards increased risk premiums. The environment hints at a troubling cycle where inflation does not correlate positively with earning potential for consumers or businesses.
Where it sits in our coverage
Current consensus targets for USD pairs indicate a strong divergence, with our target set at 1.075, ranging from a low of 1.04 to a high of 1.12. Notably, jpmorgan aligns its forecast at 1.10 for March 2026, whereas bofa has a more cautious stance with a target of 1.04 for the same tenor. This positioning outlines a mixed outlook where the recent bearish sentiment may shift expectations significantly in the near term.
How other firms see it
Several firms align with the view that rising market risks due to geopolitical pressures and policymakers' interventions could hamper economic growth. For example, jpmorgan and hsbc share concerns over inflation impacting real economic activity. Conversely, bofa remains skeptical about the extent of the slowdown, indicating a potential underestimation of resilient consumer behavior.
Key intersections to observe include the USD/CAD dynamics resembling the Federal Reserve’s cautious rate approach alongside broader inflation metrics influencing expectations for USD. Watch also for clues regarding the Fed’s response to both external and internal pressures as influencing factors in FX trajectories.
How firms align with this view
Aligned with the desk view
Contrary positioning
Key takeaways
- 01Trump's call for lower rates raises concerns about Fed independence, impacting market confidence.
- 02The impending US economic slowdown is more about risk proliferation than credit costs, challenging historical norms.
- 03Inflation driven by tariffs may not benefit consumer income, complicating the debt repayment landscape.
- 04Divergences in FX targets reflect uncertainty and varied perceptions of future economic conditions.
Market implications
Investors should monitor the USD's performance against major currencies, particularly USD/CAD, for reactions to Fed communications and developments in inflation metrics. Also, consider the potential for market adjustment should Trump's inflationary policies manifest more broadly.
Risks to this view
Key risks include a faster-than-expected economic recovery that stabilizes consumer incomes and confidence, counteracting anticipated inflation impacts. Additionally, if the Fed articulates a strong commitment to interest rate policies independent of political pressure, it could reshape market expectations and trajectories.
Good morning, this is Paul Donovan, Chief Economist at GBS Global Wealth Management. It's six o'clock in the morning London time on Tuesday the 22nd of April. US President Trump again urged the US Federal Reserve to cut interest rates in comments yesterday.
Financial markets seem to regard this as a threat to the independence of the US central bank and US assets weakened accordingly. The US is heading for an economic slowdown this year and there's a clear risk of a severe slowdown or a recession. However, it is nearly impossible to argue that the cost of credit is behind this.
Trump's policies will almost inevitably result in higher inflation that will lower consumers' spending power and the erratic nature of policy means that uncertainty and risks about the future are increasing. The decision to borrow money in order to purchase goods or to invest is a decision that has to balance the cost of credit with future risk. Consumption and investment will slow if the cost of credit is too high or if future risk is too high.
In this case, the US slowdown is going to be driven by risk, not credit costs. The coming Trump inflation surge does, on paper, lower real inflation-adjusted interest rates. Indeed, the US real Fed funds rate could easily turn negative this year.
However, that does not necessarily help borrowers. Negative real interest rates are a stimulus if consumer or corporate income growth rates are higher than the cost of borrowing money. That means it will become easier and easier to pay back debt.
However, the first wave of Trump's inflation surge is likely to be because of the direct effect of trade taxes. Tariffs do not increase consumer income, they take away from disposable income, and they do not increase corporate income because companies do not get the tax revenue of higher prices, the government does. If there are second-round inflation effects, with US manufacturers and US retailers raising prices using tariffs as a convenient excuse, then there will be higher corporate income, which would make borrowing cheaper in real terms.
But consumers still do not benefit in that scenario, and the uncertainty of erratic policy is likely to weigh heavily on the US economy. Erratic policy is likely to weigh heavily on companies' investment decisions. As more central banks speak today, ECB President Lagarde will be on television later.
A television appearance does invite questions about the idea of central bank independence, but also other issues. The euro has seemingly gained some reserve status as questions swirl around the position of the dollar, but the euro is not as well suited on some measures to take on that role. Whether the ECB can diverge from the Fed in terms of policy, with the ECB clearly having an incentive to cut rates, is also pertinent.
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