Seven economic challenges facing the new US President

Planning is easy of course. But, as leaders almost always find out, once in office, the job consists mostly of putting out fires. On his first day in office, the new President will find seven economic challenges that he will have to put out before he can advance to bigger plans.

Seven economic challenges facing the new US President

1. Inflationary pressures

Despite better-than-expected numbers last week, US inflation is at 2.9%, almost 1% above target. It could have been higher if not for Chinese economic weakness. But numbers from last week suggest at least an economic rebound in China. The success of the previous stimulus measures could prompt the government to do more, which could reduce China’s deflationary effect on the world. Mr Trump’s tariff plan is inherently inflationary. Over the long term, it may bear fruit, but over the short term, it could put significant pressure on consumers and markets. To be sure, equity and bond markets celebrated slightly better than expected core CPI numbers out of the US. However, that reaction is more about a market looking for a positive catalyst and less about an actual improvement in inflation.

2. Bond market jitters

Since September, borrowing costs have risen by around 1 percentage point in many developed markets. This is already causing or accentuating political strife in France and Britain. Part of the responsibility should be borne by the Fed. The US central bank surprised markets in September by performing a double rate cut, sending a message that it would follow a loose monetary policy going forward. In the months that followed, economic data improved and Mr Trump’s aggressive trade agenda got the “go-ahead” from American voters, which cast doubts on the Fed’s loose policy message. Last September, markets priced in five to six rate cuts in 2025. Now, they are barely pricing in one to two.

3. Higher interest rates

As a result, the new President may have to contend with high interest rates. In the past month, the Fed has communicated that it does not intend to significantly reduce rates. Some market participants are talking about rate hikes. Higher rates will increase borrowing costs not just for consumers but also for the government. Already, interest payments for the biggest global economy are at 4.5%, eating away with nominal GDP growth (4.6%). Higher interest rates on debt mean less fiscal space or bigger deficits. The latter will mean even higher yields for US bonds (thus even less fiscal space). The IMF is expecting US debt-to-GDP to be at 131% by the end of the decade. The Republican Party has a lot of “fiscal hawks”, so the new President could find resistance to borrowing more and be forced to sacrifice part of his agenda.

4. The great debt roll

Within 2025, especially in the second half, $7tn of debt will have to be rolled over. This is nearly a quarter of all US debt (almost 21 times the entirety of Greek debt). A choice of higher deficits to fund extra spending needs could create a supply glut, leading the US to borrow at higher rates for longer maturities, further upsetting bond markets and accelerating US debt accumulation.

5. A debt ceiling battle may test the President’s limitations

The last budget moved the conversation for the “debt ceiling” literally on the first days of the new Presidency. Technically, the US can’t issue new debt since the beginning of the year, but the US Treasury has some wiggle room to make sure the government doesn’t run out of money for a few days. We believe that the debt ceiling battle may be contentious, but will likely end in an increase, much like it has in all the previous 50-odd times. However, Congress will likely ask for something in exchange, which is also typical in such discussions. The more protracted the debate and the bigger the President’s concessions, the more limits and checks to Presidential powers.

6. Momentum-less and unready equity market

Despite last week’s rebound, after what markets considered to be a positive inflation read, equity momentum has waned. Since equity markets began pricing in Mr Trump’s win, the tech sector, seen as a beneficiary, has again ploughed ahead, giving the impression of a roaring stock market. From mid-September, the “Magnificent 7” have advanced by 25%. But the rest of the US large caps are up 4%, more than half of which in 2 days. In the US, stocks are directly important for consumers, as 401Ks (the American version of a SIPP), are inextricably linked to the stock market. Mr Trump scores himself on stock market performance. Trading at 27x its earnings, this market does not seem to have priced in either persistently high rates or the effects of sharp hikes in tariffs.

7. A thin house majority and a “thirsty” party

In the past, the debt ceiling, budgets etc would not have been considered an issue when the party was in control of both chambers of Congress and the Presidency (not to mention the conservative proclivities of the Supreme Court) and the caucus was strong and united. But the Republican majority is very thin, and all it takes is a few congress members to derail a legislative agenda. The situation is accentuated by the incoming President’s practice of giving top positions to allies, instead of seasoned Congress members. This means that legislators, especially strong incumbents, have little to lose by pressuring the administration, stalling agendas, pushing for amendments etc

In conclusion

A look at the above would suggest that President Trump’s problem is mostly centred around trade wars, which will, all other things being equal, mean higher interest rates at a time when fiscal space is limited, even for the United States. Mr Trump who is well-back by businesses, is weighing (“pitting” rather) the US businesses and the Office of the President’s power against that of all political foes, trade partners and bond markets. The prevailing narrative is that it is possible to impose tariffs without significantly increasing inflation, and that competitiveness is possible with a stronger US Dollar. That the global political and business world will agree to everything without much resistance and that geopolitical issues will be resolved through the threat of force. Voters, politicians and a large part of the Press, as well as some analysts, stand behind this narrative. The reaction of bond markets suggests that not everyone believes in these outcomes. Will Mr Trump be able to convince bond investors too? And will he seek to emulate Roosevelt’s assertive use of his presidential office to bring markets to heel? That is the biggest economic question of 2025.

George Lagarias – Chief Economist

Market update

The UK market experienced a rise, with UK large cap stocks increasing by about 3.1%. This strong performance was part of a broader positive trend in European markets, which has also seen a rise of 3.1%. One of the key drivers behind this optimism was the UK inflation numbers which came at 2.5%, which was lower than the 2.6% expectation by economists. This decline in inflation raised hopes that the Bank of England might cut interest rates soon. However, GDP growth remained relatively slow, and retail sales fell during the crucial holiday shopping period.

US stock indexes rebounded – seeing an increase of 3.3% in GBP terms, with value stocks outperforming growth shares. Core inflation rose modestly in December, providing some optimism that the Federal Reserve is making progress in reducing inflation, which keeps the possibility of future rate cuts open.

Chinese equities rose as the economy showed signs of improvement despite deflationary pressures. China's GDP growth exceeded expectations in the fourth quarter, driven by strong industrial production and retail sales. EM equities saw a +1.5% increase in GBP terms.

Hawkish signals from the BoJ increased expectations of a potential rate hike, which strengthened the yen but weighed on export-heavy industries. The BoJ maintained a tightening bias, indicating that rates could be raised if economic conditions improve. However, concerns about US economic policies may delay a rate hike until later in the year.

Bond yields saw significant declines - in the US, the 10-year Treasury yield dropped by 14 basis points (bps) and UK by -18 bps, predominantly as a result of the inflation report.  

Macro news

Headline CPI inflation fell from 2.6% to 2.5% YoY in December (below the consensus expectation of 2.6% but in line with the Bank of England's forecast). Services inflation declined from 5% to 4.4%, dragged down by a sharp 19.5% MoM decline in air fares prices.  Core inflation, which excludes volatile energy and food items, slowed from 3.5% to 3.2%.

Monthly UK GDP rose 0.1%MoM in November (below consensus forecasts of 0.2%). Services activity rose by 0.1%, led by a recovery in consumer-facing services. Construction rebounded by 0.4%, but manufacturing continued its contraction with a decline of 0.3% MoM. Forecasts point to 0% QoQ sa growth in the final quarter of 2024.