Presentation - Populism & the Politics of Rage - the Case of the UK & US

Bank of Tokyo-Mitsubishi UFJ A member of MUFG, a global financial group
Populism & the Politics of Rage – the Case of the
UK & US*
Amir Khan
Economic Research | London Desk
November 2016
*Data sourced from Macrobond & IMF/World Bank unless otherwise stated

Coverage
► Politics of Rage I – Brexit
- Why it matters?
- Market reaction
- Likely implications (S-T & L-T)
► Politics of Rage II – Trump Victory
- Background
- Areas of concern
- Areas of comfort
- Taking stock & what next?
► Policy Implications & Gauging Spill-over Effects
2 Populism & the Politics of Rage – The case of the UK & US | November 2016

Politics of Rage I – Brexit

1. Why it matters? (i) – Business & trade concerns
*Scale ranges from 0 to 100, where 0 stands for no risk & 100 for the highest possible risk.
(Source) Deloitte CFO Survey Q3 2016
57
54
50
47
46
45
43
42
50
48
48
49
40
41
50
0 20 40 60
Effects of Brexit
Weak demand in the UK
Deflation & economic weakness in the
EA
Prospects of higher interest rates
Poor productivity/weak competitiveness
US presidential elections
Housing &/or other bubbles
Weakness or volatility in EMs
Chart 1: Riskscited by UK CFO's*
2016-Q3 2015-Q4

Why it matters? (ii) – Policy concerns
0
200
400
600
800
1000
1200
Jan/07
Jan/08
Jan/09
Jan/10
Jan/11
Jan/12
Jan/13
Jan/14
Jan/15
Jan/16
Chart 3: UK Policy Uncertainty Index spiked in the
aftermath of the Brexit vote
United Kingdom
World
(Index)

Why it matters? (iii) – Market concerns
0
5
10
15
20
25
30
Jan/16
Feb/16
Mar/16
Apr/16
May/16
Jun/16
Jul/16
Aug/16
Sep/16
Oct/16
Chart 4: Heightened market volatility was evident in the
UK in the run-up to the Brexit vote though it has
subsided somewhat recently
FTSE 100 Volatility
Index
GBP Volatility Index
(%)

Why it matters? (iv) – Staking stock
► Against the above backdrop, walking away is proving to be difficult.

2. Market Reaction (i) – Sterling took a pounding…
82.5
76.6
70
75
80
85
90
95
100
105
1 10 19 28 37 46 55 64 73 82 91
Chart 5:The falls endured by sterling are broadly
comparable to that seen after the global financial crisis...
Post brexit Post financial crisis
No. of days after Brexit/financial crisis
(Index rebased)
► Pound sterling has fallen to the tune of c.20%, which is broadly in line with what was seen in the aftermath of
the global financial crisis. Over a longer-time horizon, while there is a view that sterling has fallen to, or
below, it fair value, past experience suggests that it has scope to fall further.
1
1.2
1.4
1.6
1.8
2
2.2
2.4
2.6
2.8
1971
1974
1977
1980
1983
1986
1989
1992
1995
1998
2001
2004
2007
2010
2013
2016
Chart 6:...But it's too soon to say that the currency has
hit a bottom
+/-1 Standard
deviation
bands
(GBP/US$ Ex. rate)

Market Reaction (ii)…But UK stocks fared much better…
► After experiencing a sharp fall in the aftermath of the Brexit vote, UK equities have largely taken Brexit in
their stride & are firmly in positive territory since the vote was held. This is in sharp contrast to what we saw
in the aftermath of the global financial crisis.
109.7
80.9
60
70
80
90
100
110
120
1 10 19 28 37 46 55 64 73 82 91
Chart 7: UK equities have held up much better post-Brexit than
in the aftermath of the global financial crisis
FTSE-100 post-Brexit FTSE-100 post financial crisis
No. of days since Brexit/financial crisis
(Index rebased)

Market Reaction (iii) …Helping to ensure that a 2008-style market panic
was avoided
While the outcome of the Brexit vote was unexpected, its actual impact has been rather muted so far relative to
what we saw in the aftermath of the global financial crisis. Why?
► No systemic banking collapse or freezing up of the interbank money markets
► Early & decisive central bank action
► Smooth political transition in the UK following resignation of PM Cameron
► UK still a member of EU until Article 50 invoked
► The fall of the currency seen as a “shock absorber”

3. Implications (i) – Near-term impact has been contained…
► Contrary to expectations, the real economy has continued to hold up well, with PMI surveys firmly in positive
territory. Meanwhile, the buoyancy of retail sales remains intact.
30
35
40
45
50
55
60
65
Jan/07
Jan/08
Jan/09
Jan/10
Jan/11
Jan/12
Jan/13
Jan/14
Jan/15
Jan/16
Chart 8:PMI surveys have bounced backafter the
Brexit vote...
Services Manufacturing Composite
(Reading >50 denotes expansion)
-4
-2
0
2
4
6
8
Jan/07
Jan/08
Jan/09
Jan/10
Jan/11
Jan/12
Jan/13
Jan/14
Jan/15
Jan/16
Chart 9:...While retail sales continue to retain their
upward trend
Retail sales
12-month moving average
(%, y/y)

Implications (ii) …With Q3 GDP growth confounding expectations
0
0.1
0.2
0.3
0.4
0.5
0.6
Actual BoE forecast
Chart 10: Q3 GDP has surprised on the upside
(%, q/q)

Implications (iii) – Beyond the immediate-term the outlook remains rather bleak…
► Once Article 50 is invoked, the impact of UK’s decision to leave the EU will start to be more keenly felt. In
fact, most international forecasters think that growth will take a hit over the long-run as result of Brexit.
► Elsewhere, market expectations of future inflation have also started to spike upwards.
-7.8
-7.5
-5.1
-3.5
-3.2
-8 -6 -4 -2 0
LSE
HM Treasury
OECD
CBI/PWC
NIESR
Chart 11: Estimates of long-term effects of Brexit on
growth
(% change in GDP compared with remaining in the EU)
1.1
1.15
1.2
1.25
1.3
1.35
1.4
1.45
1.5
1.55
1.5
1.7
1.9
2.1
2.3
2.5
2.7
2.9
3.1
3.3
Jan/16
Feb/16
Mar/16
Apr/16
May/16
Jun/16
Jul/16
Aug/16
Sep/16
Oct/16
Nov/16
Chart 12:UK five year breakeven inflation rate vs.
sterling exchange rate
Market implied Inflation (%, LHS) GBP/USD (RHS)
UK Brexit
vote

Implications (iv)….Though the impact at the global level is set to be negligible
0
1
2
3
4
5
EMs World Adanced countries
Chart 13: Despite Brexit the IMF's global growth
projections for 2017 have not been materially affected
Pre-Brexit
Post- Brexit
(%, y/y)

Politics of Rage II – Trump Victory

1. Background – We’ve been here before
► A lot of parallels can be drawn between the election of Trump & Brexit.

Areas of concern
Going by what Trump has said during the campaign, the following are some areas of concern:
► Trade policy
► Immigration
► Fed independence
► Expansionary fiscal policy & its impact on US public finances

Areas of comfort
► The US political system has sufficient checks & balances which should prevent very extreme policies.
► With both the presidency & Congress now in Republican hands this could help to reduce “policy gridlock”
that was evident under the Obama administration.
► The US economy is in good shape & Trump will not want to reverse this.
► Trump’s expansionary fiscal plans, with their focus on tax cuts & infrastructure spending, could be beneficial
for growth & help to arrest low productivity growth in the US economy.

Taking Stock & what next?
► Contrary to expectations, market reaction to the Trump win was sanguine, in part reflecting the conciliatory
tone which Trump adopted in his acceptance speech.
► Going forward, two things are worth watching: i) any change in tone form the President-elect; and ii) who he
appoint to key portfolios within his government.
*Change in Treasury yields is expressed in percentage points
0
0.4
0.8
1.2
1.6
S&P 500 Exchange rate 10-year Treasury yield*
Chart 14: Three day performance of different US asset
classes in the aftermath of Trump's victory
(% change, unless stated otherwise)

Policy Implications & Gauging Spillover Effects

Policy Implications (i) – Post-crisis policy framework under scrutiny

Policy Implications (ii) – New focus on fiscal policy
► After doing most of the heavy lifting since the financial crisis, monetary policy appears to
have reached its limits.
► New emphasis has shifted towards a more activist fiscal policy stance in both the US &
UK, with a key focus on infrastructure investment.
► Implications for interest rates: “lower for longer” mantra has given way to a belief that
rates will have to rise faster than markets are currently contemplating, especially in the
US.

Spillover (i) – EU will need to reconfigure itself post-Brexit
> Brexit to remove obstacles to further EU integration
> Common deposit insurance, fiscal union etc.
Confrontational UK exit Amicable UK exit
> Brexit would be a "long, costly, messy divorce" > Swift negotiations of future UK/EU relations,
> EU to defend its interests, set disincentives for in good atmosphere
others to follow the UK > UK integration to remain at a high level
> Damage to the UK would be bigger, but the EU > UK might continue to contribute to the EU
would also suffer budget
> UK payments to the EU budget would cease
EU disintegration
> Brexit as a "dangerous precedent"
> Strengthening of nationalistic, secessionist parties
> Absence of UK in EU policy debate would lead to a weakening of
EU governance
> EU disintegrating, more member states leaving, damage to EZ
> Major damage to financial market/private confidence
Closer EU integration

24
Spillover (ii) – Populist movements are being emboldened
Key election/political events ahead in 2016/17
Low/moderate Moderate High
Italy: 4 Dec referendum on
constitutional reform – a “No”
vote undermines PM Renzi
& benefits the Eurosceptic Five-
Star Movement. “No” vote is
in the lead, a wide margin loss
could trigger early elections.
Austria – Re-run of presidential
election (4 Dec) could vote in a
Eurosceptic head of state (albeit
a mostly ceremonial role)
Germany: Federal elections Sept/Oct 2017.
Mainstream coalition govt likely to win, but the
result of the far-right AfD needs to be closely
monitored.
France: Presidential elections Apr/May
2017. Possible good result for National
Front’s Marine Le Pen in the 1st round.
Unlikely to win run-off, though outcome
is rather uncertain.
Netherlands: Mar 2017 General
election could see a strong result
from Geert Wilder’s far-right PVV,
but unlikely to be able to form a
govt.
Populism & the Politics of Rage – The case of the UK & US | November 2016

Spillover (iii) – US to become more inward-looking
Key areas to watch:
► US commitments under NATO in question.
► Global regional security – APAC, MENA etc.
► Iran nuclear deal.
► UN funding/climate change.
Consequences:
► Relations with traditional US allies in the MENA/APAC region likely to be adversely affected.
► The global community’s efforts to reset relations with Iran may take a knock.
► Conversely, Russia is set to benefit with Trump looking to bolster ties with that country.

Spillover (iv) – Backlash to global trade (protectionism)
Campaign promises:
► To slap tariffs of ~45% on goods emanating from the likes of China.
► To revise/dismantle the NAFTA trade agreement.
► To repatriate jobs created by US companies abroad.
Constraints:
► However, the Republican party is traditionally a free trade supporter and within this context political buy-in
from the wider party will be required to push through such policies.
► Additionally, pursuit of such policies will be negative for growth both for the US & global economy.

Q&A

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Presentation - Populism & the Politics of Rage - the Case of the UK & US