Britain voted to “Brexit,” Donald Trump won the White House, and Italy shot down their pro-EU government, voting “no” to constitutional reform—2016 witnessed a populist revolt.
The upsurge in support for anti-establishment populists from all ends of the political spectrum has come at the expense of the political center, who have been in power across most of the West since the end of WWII.
So, what conditions have catalyzed this rapid surge in support for populism?
A Zero-Sum Game
Nine years from the 2008 financial crisis, the populi from the American Republic to Le Republic no longer feel the political status quo is serving their best interests.
A consequence of the generous immigration policies enacted across the West over the past half-century is that in certain areas of developed nations, natives are becoming a minority. The changing demographics are now creating animosity between natives and non-natives.
The backlash can be witnessed by how much emphasis was placed on immigration during June’s Brexit vote. It was also a central component of Donald Trump’s winning platform, with repeated chants of ‘’Build the Wall’’ showing his message resonated with large swaths of Americans.
However, changing demographics have been ongoing for decades, so why are we only now witnessing a backlash?
Cultural shifts have been brought to the forefront by the lingering post-financial-crisis economic woes, with a scarcity in employment creating a "zero-sum game" mentality. Populists have pounced on the anger directed toward anemic economic growth and real wages, using them to gain political victories.
Along with changing domestic landscapes, globalization has also contributed toward populist support.
As developed nations have signed up to free-trade agreements, many blue-collar manufacturing jobs have been offshored by corporations looking to cut costs. This has led to the loss of millions of such jobs in the last half-century, with the trend now being used by populists as proof globalization has failed developed nations.
With real momentum behind this populist uprising, what consequences could their policies have?
Populists have highlighted how globalization and free trade have decimated native industries in developed nations. There is no debating these trends have moved millions of jobs from West to East. However, the same trends have allowed consumers to purchase goods at lower prices and businesses to lower costs—a positive for economic activity.
Given how interconnected the world is today, tearing up trade deals and enacting protectionist legislation would severely disrupt global economic activity. Even in the 1930s, when it was much easier for countries to go it alone, protectionism was an economic disaster.
Corporations that have outsourced operations would be forced to either repatriate and raise prices, or face disruptions to their supply chains—a messy situation indeed. Also, I doubt the average American consumer, whom 69% of whom have less than $1,000 in savings, could afford a hike in prices.
Protectionist policies would also hit developing economies hard. China and other developing nations have benefitted greatly from globalization, gaining millions of jobs as a result. If corporations were to repatriate production, it would have a severe economic impact in these nations.
These policies also have the potential to cause a sovereign debt crisis. Given how much money has found its way into developing market debt in recent years, and how intertwined markets today are, it’s a concern for investors.
Populists have also been in favor of increasing fiscal spending. Whilst fiscal stimulus would boost economic activity in the short term, the debt must be paid back sooner or later. With debt/GDP ratios already elevated—with the average ratio over 90% in Europe—governments don’t have much capacity to increase limits.
Protectionist policies in Europe would also surely signal the end of the EU, since the "free movement of goods" is a founding principle of the common market. As you can imagine, the dissolution of the EU—and all that goes with it—would create a whole entanglement of problems.
Having explored the potential implications of populist policies, there is one hidden theme among the rhetoric that I do not see mentioned often.
A Wolf in Sheep’s Clothing
Although the populist movement is viewed as anti-establishment that puts forth people-first policies, they have promised more, not less government interference in many areas.
The introduction of protectionist policies and trade barriers would create a major compliance burden for businesses that have foreign operations. Even for those that are savvy enough to navigate the new hurdles, costs could be significantly raised by tariffs, thus impacting sales.
Calls for tighter controls on immigration and the need to monitor current illegals also carry a sinister side. Legislation similar to the Patriot Act, which intruded on many freedoms, could be passed in response to the current migrant crisis, or future acts of terrorism.
The “Nation First” mandate that populists carry also has consequences. Just like in George Orwell’s dystopian novel 1984, any “anti-nation” activities such as offshoring production or taking money out of the country could be strongly regulated or outlawed.
It’s also possible we could see introduction of more legislation like the Buy American Act, which although introduced to protect American jobs, actually ended up costing jobs.
Whilst the populist movement is certainly not a small-government one, there are some positives to arise from it.
Populists have shifted the emphasis from foreign to domestic policy. A secession of wars and years of foreign military intervention have cost developed nations big. This has created many unintended consequences, such as the current mess in the Middle East, in the meantime.
Instead of trying to act as policemen of the world, the populists are focused on getting domestic affairs in order. This is a major policy change from what has come in the last half-century and an extremely positive one.
Populists are also leading a wholesale rejection of political correctness, which has taken over Western media and education. I think most of us would enjoy not hearing about safe spaces and privilege anymore.
Having explored the possible implications of populism, how can we manage the risks and profit from the potential opportunities?
Ready for Takeoff
Whilst populist policies have many downsides, the evidence thus far suggests that markets have been positive about the change in policy. As we previously mentioned, there is now over $50 trillion in cash sitting on the sidelines, and we think it won’t take much for the market to “take off.”
After the recent election, many perceive the US as being in a more precarious position than Europe. However, Europe faces many serious problems—with major elections next year, failing banks, and a lingering migrant crisis, to name but a few.
Given this set of circumstances, and with an uptick in growth and inflation expected stateside, a large portion of that $50 trillion could flow into US markets. Even as I write in early December, the Trump rally continues. If investors are careful with their stock selection, focusing on quality, undervalued companies in sectors that look set to benefit from Trump policies, 2017 could be an excellent year.
Whilst we believe US markets look set to take off in 2017, given the legitimate concerns over the future of Europe—and the potential for financial repression coming from populist policies—it is prudent to proceed with some caution.
Positive post-election sentiment has caused hard assets, such as gold, to fall. However, the structural problems that exist in the economy are still present. Given the sharp pullback, now could be an excellent time to buy some gold and hedge against any unforeseen shocks.
And on that note, I will take my writing cap off for this week.
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Once again, thank you for reading.
Chief Analyst, RiskHedge