The short-term implications of the new Trump administration for the US and the EU economies are potentially wide ranging. This column argues, however, that the ramifications in the medium to long term promise to be even more pervasive. From a domestic perspective, we may witness a gradual shift of the US corporate system to crony capitalism. For the EU, it represents a wake-up call. The short-term and especially the longer-term effects will depend on the EU’s ability to reconcile its internal and external agendas.
The return of Donald Trump to the White House will have major domestic US and international implications for the global map of political and economic power. In this column, we will focus on (i) the impact of an economic policy that will be centred on economic nationalism, deregulation, tariffs, and tax cuts; and (ii) the economic implications for the EU. We will focus in particular on the interplay between the short-term impact and the medium- to longer-term effects, and on the factors that are likely to trigger major disruptions and have lasting consequences.
The US: Trump has ‘room for experimentation’
In spite of US voters’ negative perception, Trump is inheriting a buoyant economy. US GDP in 2024 likely grew by 2.8% and, before the elections, most forecasters expected that, in a ‘no policy change’ scenario, growth would be above 2% in 2025 and 2026. Moreover, under the same assumptions, inflation would move to 2% (if not below) by the end of 2025, while the unemployment rate would remain below 4.5% (European Commission 2024: 167, IMF 2024: 35).
This implies that the new administration will have ‘room for experimentation’, as the inner contradictions in Trump’s announced policies will be concealed in the short term by the favourable economic situation. The IMF in its October 2024 World Economic Outlook (IMF 2024: 24-27) estimated that, if implemented, Trump’s policies – i.e. the imposition of a minimum 10% tariff on trade (with retaliation from its trading partners), curbing of net immigration flows, and the extension of the tax cuts expiring in 2025 – would lead to a fall in US GDP growth by about 1 percentage point relative to the baseline scenario in 2025 and a further half a percentage point decline in 2026, with a relatively small impact on headline inflation (+0.2 percentage points in 2025). Some economic simulations carried out by private financial institutions have a higher inflationary impact. Still, even in those simulations, US inflation in 2025 would remain below 3%. Therefore, even in this extreme scenario, the US economy would suffer neither a recession nor a significant acceleration of inflation. It is not excluded that if only part of the Trump’s programme materialises (for example, only some of the announced tariffs are imposed and immigration policies are less drastic than announced, while new tax cuts are introduced), the short-term growth outcome could even be slightly positive (Goldman Sachs 2024). However, in such a scenario, the federal budget deficit, which is already above 6% of GDP in 2024, will increase further, creating the need for strong fiscal consolidation, delaying monetary easing, and leading to lower growth down the road.
As nobody knows at this stage how and to what extent Trump’s policies will be implemented, one of the main outcomes of the new administration will be pervasive and persistent uncertainty, which will affect both the US economy and, as a consequence, its trading partners.
The US: Heading towards crony capitalism
Still, the most consequential implications for US capitalism of Trump’s policies and practices will emerge in the medium to long term. As Philippon (2019) has documented, in recent years large corporations in the US have enjoyed monopolistic market positions that have weakened competition. Trump’s interventions will lead to monopolistic positions being strengthened even further by allowing a lax enforcement of the antimonopoly law. Over time, these developments could trigger a return to the ‘Gilded Age’, with the rise of powerful corporations that monopolise markets, stifle competition, and amass vast wealth and power. There are clear signs that proximity of companies to the new incumbent will become the key to having regulations removed (for instance, in the field of cryptocurrencies and in the fossil fuel sector), getting protection from foreign competition through tariff policies, benefitting from exemptions from the tariffs policies, and obtaining generous flows of public resources in many fields, including defence.
The Trumpian dream of an economy with few rules and regulations but with public spending to be disbursed according to criteria of political proximity affiliation may become reality. As shown also by Ferriani et al. (2024), financial markets seem to have already incorporated such a scenario, seen in the soaring valuation of cryptocurrencies as well as the big jump in the value of the stock market of companies that generously contributed to Trump’s campaign (Figure 1).
Figure 1 Stock market valuations of politically connected US companies
The prospect of crony capitalism dominated by a class of ‘innovative rentiers’ closely intertwined with the political power could become reality. While this could have a positive effect on the stock valuation of well-connected companies, it would also have a negative impact on productivity, growth, and citizen’s welfare, and in the medium to long term it would undermine US economic dynamism and exacerbate income and wealth inequalities.
The EU: How to address the US tariff threat
In the absence of a comprehensive agreement between the new administration and the European Commission – unlikely at this stage – the EU may be hit by US tariffs well before the mid-term elections. The automotive sector seems particularly at risk, given the large trade imbalance between the EU and the US (Table 1), which would aggravate its crisis.
Table 1 EU new car imports from the US and new EU car exports to the US (in millions of euros)
Source: Eurostat
This, together with the uncertainty generated by Trump’s trade policies, will slow economic growth and prolong the ongoing EU economic stagnation. Already in 2023 and 2024, euro area growth was lacklustre (0.4% and 0.8%, respectively) and forecasts indicate only a small strengthening in 2025 and 2026 (1.3% and 1.6%, respectively) (European Commission 2024). However, the IMF expects that a 10% tariff imposed by the US as well as the trade policy uncertainty and the tightening of financial conditions that would ensue would take away 1 percentage point of growth in the period 2025-2026 (IMF 2024: 26). The weakness of the EU’s negotiating position with the US is shown by the large bilateral trade surplus (€156 billion in 2023), making it highly vulnerable to US protectionist policies as, in a tit-for-tat escalation, it would have more to lose (Figure 2).
Figure 2 EU trade in goods with the US
During the first Trump administration, to avoid a trade war and more specifically new tariffs on EU cars, then European Commission President Jean-Claude Juncker met with President Trump and committed the EU to purchasing more US goods, in particular liquified natural gas (LNG) and soybeans. The ‘Juncker strategy’ of 2018 worked at the time. EU imports of LNG and soybeans rose significantly: LNG imports increased manyfold, albeit from a very low base (see Figure 3), while imports of soybeans more than doubled in the 12 months that followed the Trump-Juncker meeting, reaching an astounding 70% of the market share (up from 36% the year before). On its side, the US did not escalate trade tensions by imposing additional tariffs on EU cars.
Figure 3 US LNG exports by destination
Data: US EIA (* = end-year projections on data until October 2024).
Based on declarations by high-ranking EU officials, the EU may come to the negotiating table with a proposal to buy more US goods (weapons, LNG, agricultural products), as in 2018, whilst standing ready to retaliate in the event of a unilateral application of new tariffs. The increase in imports from the US this time would include not only LNG and agricultural products, but also military equipment. However, this move is unlikely to significantly reduce the EU trade surplus vis-à-vis the US. In the aftermath of the Juncker-Trump deal, the EU bilateral trade surplus with the US continued to rise, and therefore the first Trump administration did not achieve the trade rebalancing it was looking for. This would likely be the outcome this time around as well: first, there are limits to how much LNG and agricultural products the EU can buy from the US and, as some observers have argued, the US armament industry may not be able to supply Europe adequately (Burlikov et al. 2024); second, the US and EU growth differentials and the recent appreciation of the dollar will probably lead to an increase of EU net exports to the US. The new administration could then double down on its requests to the EU to buy even more American products or face new tariffs.
In such a case, retaliatory measures will also be put on the table from the EU side. This would be highly risky, as we have seen before that in a trade war, the EU would be in a weak negotiating position. Therefore, a forceful and credible display of retaliatory measures is also needed (Garcia Bercero et al. 2024). To work as a deterrent against a new trade war, retaliatory measures should be designed to hit where it matters most for Trump, namely the stock market valuation of key supporting enterprises.
Should the EU choose to confront the US in the case of a threat by the Trump administration to impose a major tariff hike, it would be essential that its member states remain united and let the Commission negotiate without trying to strike deals behind its back. If the member states face the new administration in a scattered order, they will pay a heavy economic price. Moreover, the political spillovers could be even more disruptive, as the EU would fragment, which would give rise to bitter disputes among the member states.
The EU: Reconciling domestic and external agendas
Whilst the immediate policy reactions to increased US tariffs imply difficult trade-offs, the desirable direction of travel for the EU in the medium term is clearer. If the EU wants to navigate the new global environment, it must reconcile its domestic and external agendas.
On the external side, the EU should build coalitions to counter the drift towards protectionism. It should show that it is ready to take up the challenge of forging free trade agreements with countries and regions of the Global South (in this respect the ratification – or not – of the agreement with Mercosur will send a crucial signal) and developed countries (e.g. the final ratification of the agreement with Canada, CETA), while continuing to supply global public goods (the green transition, pandemic prevention, support for the Bretton Woods institutions while making them more representative). This coalition-building would enhance the resilience of the European economy, making it less sensitive to trade tension with the US (and China).
On the domestic front, the EU should do its own homework (independently of the risk of a trade war with the US) and change its growth model, making it more reliant on the domestic components of demand and less on net exports. In this regard, the Draghi and Letta Reports have provided very useful blueprints for the direction in which the EU should be headed (Draghi 2024a, Letta 2024). While it is unlikely that the transformation of the EU growth model will lead to a balanced trade position with the US, by enhancing ‘indigenous’ growth, it would make the European economy more resilient and hence less vulnerable to external threats (Draghi 2024b, Buti and Messori 2023).
It remains to be seen whether the ‘political capital’ exists in the EU to pursue such an ambitious strategy.
Source : VOXeu
