Some still cling to growth optimism, rooted in recent trade agreements negotiated by US President Donald Trump’s administration: the “phase one” deal with China and the revised free-trade agreement with Canada and Mexico. But while those agreements are far better than they would have been had Trump stuck to the hardline positions he once defended, they do not represent an improvement over the situation that prevailed before he took office; if anything, their net impact is likely to be negative.
Consider the “phase one” deal with China: not only does it leave in place high tariffs; it also remains fragile, owing to a lack of credibility on both sides. In any case, its impact is likely to be limited. China may not be able to deliver on its promise to purchase an extra $200 billion worth of goods from the US, and even if it does, that is unlikely to translate into higher US exports. Instead, those exports will simply be diverted from other customers.
While global recessions are exceedingly difficult to forecast, the odds of one – particularly one characterized by less than 2.5% growth, a threshold set by the IMF – now seem to have risen dramatically. (Unlike advanced-economy growth, global growth rarely falls below zero, because developing countries have higher average trend growth.)
So far, US investors seem unconcerned about these risks. But they may be taking too much comfort from the US Federal Reserve’s three interest-rate cuts last year. Should the US economy falter, there is nowhere near enough room for the Fed to cut interest rates by 500 basis points, as it has in past recessions.
Even if a recession does not materialize in the near term, Trump’s approach to trade may herald the end of the era when steadily rising international trade (as a share of GDP) buttressed global peace and prosperity. Instead, the US and China may continue on the path toward economic decoupling, within the context of a broader process of de-globalization. COVID-19 did not place the world’s two largest economies on this path, but it could well hasten their journey along it.
Jeffrey Frankel, a professor at Harvard University's Kennedy School of Government, previously served as a member of President Bill Clinton’s Council of Economic Advisers.