Darker prospects for Asia as trade deals come under threat

Singapore

IT'S like waking up to a bad dream. Defying the odds, Republican Donald Trump has won the race for the White House, an upset for the political establishment. Betting markets gave him just a 25 per cent chance of occupying the White House, suggesting that recent polls once again failed to gauge the depth of opposition to mainstream politics, and dissatisfaction with elements of globalisation.

The Republican Party also retained its majority in the House of Representatives and the Senate. Polarisation has been evident and extreme; even legislation such as Obamacare and the Dodd-Frank Act were carried with zero Republican votes.

Mr Trump's win heralds a period of greater uncertainty in US policy. His lack of governing experience, inability to build relationships with congressional leaders of either party, and inconsistent policy pronouncements during the race make it hard to predict how he will act in office.

Some investors have raised concerns that his election would mark a deterioration in global trade relations. During the campaign, the property tycoon pledged a tougher stance in trade talks with key trading partners such as Mexico and China as well as a review of US commitments to global security institutions. Mr Trump also promised a clampdown on illegal immigrants, and his policies, if implemented, have the potential to cause a contraction in the US labour force.

Risk-off in Asian capital markets

Darker prospects may loom for Asia which has for decades been a major beneficiary of the US's bias towards free trade and market access. Mr Trump's proposals to impose a 35 per cent trade tariff on China and renegotiate or repudiate existing trade agreements such as the Trans-Pacific Partnership and various free trade agreements could, according to the Peterson Institute, limit US trade growth for a few years.

Therefore, Mr Trump's victory has immediately thrust Asia into the spotlight. The immediate reaction over the short term would be a risk-off in the Asian capital markets with the exception of the Japanese yen, which should benefit from the safe haven trade.

In Asia, the main transmission mechanism is probably via the forex (hence domestic rates) and equity markets, with specific performance most probably determined by the volatility of the underlying currency and its dependence on global trade. This would make high-volatility currencies (eg the Australian, New Zealand and South Korean units) and export-oriented currencies (eg the Singapore dollar, Malaysian ringgit and Thai baht) more vulnerable.

Asia ex-Japan equities could potentially trade down to 1.3 times price to book value (P/BV), which is -1 standard deviation from the 10-year average of 1.7 times, from its current level of 1.4 times. Asian credit spreads would probably widen marginally by 10 to 20 basis points on the back of a broader market risk-off environment. Fundamentals for issuers with substantial trade relations with the US may also deteriorate over time. In the near term, China, with its capital restrictions and more tightly controlled forex and interest rate regimes, will probably suffer less volatility relative to the rest of emerging Asia.

Over the medium term, a Trump administration would probably become more critical of the forex policies of China, Taiwan, Korea and Japan. These countries have been placed on the US Treasury's "Monitoring List" for potentially engaging in unfair trade practices.

The renminbi is likely to be the centre of attention, as the president-elect has promised to label China a currency manipulator, due to China's interventionistic approach in its currency regime. However, pushing China to intervene less in the forex markets at a time when it is facing capital outflows could ironically lead to faster yuan depreciation. On the other hand, we see upside risk for the yen, South Korean won and Taiwan dollar. A Trump administration would exert pressure on these countries to allow their currencies to appreciate.

Deeper and more pernicious threat

How would that affect Singapore? The impact on Singapore goes beyond the superficial, short-term volatility of the financial markets. Given the threat of increased US trade protectionism, export-oriented Asian markets such as Singapore, Thailand and Malaysia would be susceptible from both a currency and equity standpoint, while domestically-focused markets such as India, Indonesia and the Philippines would probably be relatively more defensive.

But a deeper and more pernicious threat to Singapore and other export-oriented economies may come via the shift in globalisation, which is one of the most important undercurrents in today's global economic landscape, with implications for growth, earnings, income equality and balance sheets. World exports as a percentage of gross domestic product peaked in 2014 and is now declining, having rose from 8 per cent of world GDP to almost 20 per cent at its height.

Given the seismic shocks of Mr Trump's election victory last night and Brexit in June, it is difficult to argue that globalisation will continue in its current form. Mr Trump's victory might embolden populist movements globally, especially in France and Germany, where crucial elections will be held in 2017. Anti-trade, anti-immigration and the increasing costs of cross-border business transactions are likely to remain core topics of political discourse over the coming years. The future has just gotten a tad more uncertain.

This article was first published on November 10, 2016.
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