USD: Sharp sell-off in the near-term if Donald Trump is elected as President – MUFG

Lee Hardman, Currency Analyst at MUFG, suggests that it is still feasible that the Donald Trump could be elected as President which would trigger a much larger market reaction.

Key Quotes

“We would expect the US dollar to weaken more materially against the major other currencies especially the yen as a higher political risk premium is priced into US assets. A sharp US equity market sell off would reinforce demand for the yen which would benefit as well from heightened concerns over a rise in protectionist trade policies under President Trump. As a result, we would expect USD/JPY to break below the 100.00-level. The Japanese authorities would be even more wary about intervening to dampen yen strength.

The election of Donald Trump as President would prompt the market to seriously question whether the Fed will follow through with their current plans to resume rate hikes in December. A sharp US equity market sell off and tightening of US financial conditions if maintained until mid-December could prompt the Fed to delay resuming rate hikes until next year providing another potential reason for a weaker US dollar in the initial aftermath of the election result. The Fed will also be watching closely to see if there is any negative impact on the US economy from the pick-up in political uncertainty which could weigh on business confidence.

Beyond the near-term, economic policies under President Trump could become more supportive for the US dollar. He plans to run significantly looser fiscal policy promising large tax cuts for businesses and households and an increase in infrastructure spending. The Tax Foundation has estimated that Donald Trump’s tax plans will increase national debt by between USD4.4 trillion and USD5.9 trillion over the next decade. He has spoken of a USD1 trillion building programme. Looser fiscal policy should help to support growth at least initially and increase upside risks to inflation helping to lift US yields. It could prompt the Fed to speed up the pace of monetary tightening offering a more favourable policy combination for the US dollar.

Another potential positive for the US dollar under President Trump relates to the likelihood of another foreign earnings repatriation flow, incentivised by a favourable tax rate, like in 2005 when the Homeland Investment Act by President Bush fuelled large repatriation flows from abroad. According to the NBER, HIA 2004 prompted a repatriation flow of USD 300bn in 2005, although it estimated that over 90% of that money ended up in the hands of equity holders rather than being invested as planned. Donald Trump has proposed a one-time 10% tax on all foreign profits currently deferred.”