Restructuring the Global Trading System
It’s getting a little hairy out there, and it feels like we may be just getting warmed up.
Unless you’ve been living under a rock since the beginning of the year, it’s becoming increasingly obvious that we appear to be at the early stages of one of the most significant global restructurings of trade, economic alliances, and geopolitics that we’ve seen in at least the last 50 years.
Most of the underlying issues being addressed today, however, have been decades in the making. But for those not following every nuanced machination of geopolitics on a daily basis, the current chaos may seem to be coming out of nowhere.
That said, and staying as apolitical as possible, it’s important to understand where we are and where we’re likely headed.
To do so, we need to understand the thinking behind the thinking of those making the biggest moves (yes, the current Trump Administration).
That thinking stems directly from one of President Trump’s top advisors, Stephen Miran of Hudson Bay Capital Management.
In November of last year, Miran and Hudson Bay published a 40-page deep dive addressing what they see as the causes of the current economic imbalances that are being addressed, as well as a solution set to restructure the global trading system.
For the business owners and financial sponsors we work with here at High Line Advisors, the importance of understanding the impact of these generational upheavals cannot be overstated - after all, at the core of this restructuring is a plan to bring manufacturing and critical industrials back to the United States. So for this issue of RE/shore, I’m going to break down the report into a very high level ‘Key Takeaways’. If you find you have an extra few hours of spare time, the link to the full report is here.
The opening excerpt:
“The desire to reform the global trading system and put American industry on fairer ground vis-à-vis the rest of the world has been a consistent theme for President Trump for decades. We may be on the cusp of generational change in the international trade and financial systems.
The root of the economic imbalances lies in persistent dollar overvaluation that prevents the balancing of international trade, and this overvaluation is driven by inelastic demand for reserve assets. As global GDP grows, it becomes increasingly burdensome for the United States to finance the provision of reserve assets and the defense umbrella, as the manufacturing and tradeable sectors bear the brunt of the costs.” - A Users Guide to Restructuring the Global Trading System, Hudson Bay Capital, November 2024
The root of economic imbalances is identified as persistent dollar overvaluation, driven by inelastic demand for reserve assets (the "Triffin world"). This overvaluation harms U.S. manufacturing and the tradeable sector. As global GDP grows, the burden on the U.S. to provide reserve assets and a defense umbrella increases.
Tariffs are presented as a familiar tool that can provide revenue and, if offset by currency adjustments [a VERY important piece to the puzzle], have minimal inflationary or adverse side effects. Currency offset implies that the tariff is ultimately financed by the tariffed nation through a decline in their real purchasing power. Tariffs are likely to be intertwined with national security concerns and could be implemented in graduated steps and scales to maximize leverage. The experience of the 2018-2019 tariffs suggests that currency offset is possible, leading to minimal inflation at the consumer level, although microdata studies offer differing perspectives on price pass-through. Optimal tariff theory suggests that moderate tariff levels could even be welfare-enhancing for a large economy like the U.S.
Currency policy aimed at correcting the undervaluation of other nations’ currencies presents a different set of tradeoffs and potential implications. While multilateral approaches like the Plaza and Louvre Accords have historical precedent, current global economic conditions make it difficult to secure cooperation from major players like Europe and China. A potential "Mar-a-Lago Accord" could link security zones with the funding of U.S. debt through the term-out of reserve holdings.
Unilateral currency adjustment strategies exist, despite common beliefs to the contrary. Tools like the International Emergency Economic Powers Act (IEEPA) could be used to impose user fees on foreign official holders of Treasury securities, disincentivizing reserve accumulation. Accumulating foreign exchange reserves by the U.S. is another unilateral option, but it carries its own risks and costs. Cooperation from the Federal Reserve would be crucial for mitigating volatility in either unilateral or multilateral currency approaches. This would effectively disincentivize holders of USDs to hold them as reserve assets, decreasing demand for USDs and effectively devaluing the USD.
The sequencing of policies is important, with tariffs likely preceding any significant shift in dollar policy (which is what we’re seeing today). Tariffs can provide negotiating leverage and revenue, and their effects are relatively better understood than major changes to dollar policy.
The restructuring of the global trading system could lead to a stronger demarcation between allies and adversaries, with differentiated trade and currency terms. It could also increase implied volatility in currency markets and spur efforts to find alternatives to the dollar, although the success of such alternatives remains uncertain.
The goal of these policies is to improve the competitiveness of American manufacturing, increase industrial plant, and reallocate aggregate demand and jobs to the U.S. This is often linked with national security considerations, viewing the provision of reserve assets and a security umbrella as interconnected.
Fiscal devaluations, achieved through combinations of tariffs/export subsidies or consumption tax increases/payroll tax cuts, can have similar economic effects to currency devaluations, highlighting the interconnectedness of tax and currency policies. The focus on competitiveness makes it unlikely that the Trump Administration would support increases in domestic tax rates.
The essay essentially argues that the U.S. has several tools at its disposal to restructure the global trading system, with tariffs being a first step.
Originally, the paper believed that because of the risk of market volatility, the administration would employ gradual implementation (which has not been the case) and to seek cooperation from trading partners or the Federal Reserve to mitigate these risks (these are still TBD).
The ultimate aim is to address the economic imbalances stemming from the dollar's reserve currency status and improve America's economic and national security standing.
On Friday, newly minted U.S. Treasury Secretary Scott Bessent sent out these two tweets, which are quite telling:
TRUMP'S TARIFF POLICIES HAVE BEGUN PROCESS OF REORIENTING OUR INTERNATIONAL ECONOMIC RELATIONS.
ACCESS TO CHEAP GOODS IS NOT THE ESSENCE OF THE AMERICAN DREAM. WE ARE IDENTIFYING NON-TARIFF BARRIERS, LAWS THAT UNFAIRLY APPLY FINES TO U.S. EXPORTERS.
It would appear, at least in the first few months of this new administration, that ‘Made in America’ is about to make a huge comeback… no matter the cost or market volatility.
American manufacturers, commercial & industrial services, and companies that are operating in the built economy are looking at generationally strong tailwinds over at least the next four years.
My two cents: the volatility we’re currently seeing in the markets is less about a structural shift and more of a fear response to the news. In the short to medium term I think we continue to see a weakening dollar, lower oil prices (with OPEC+ opening up and keeping inflation lower than most people seem to believe), and lower yields (a good thing for the treasury department as they have ~$10 trillion in debt to refinance this year).
If you want to keep pulling on this thread, here’s a fascinating article exploring the parallels between the Nixon era of geopolitical and geoeconomic restructuring, and what Trump is trying to pull off.
“Nixon entered the White House as the world was undergoing a fundamental reordering. In his first report to Congress, he observed that the pattern of international politics was changing. As he saw it, the challenge of statesmanship was to understand the nature of that change, define America’s goals as it unfolded, and set policies to achieve them.”
More large-scale industrial investments coming back to the U.S.
On Monday, it was announced that TSMC would invest an additional $100 billion over the next four years to expand its manufacturing operations in the United States.
This is building upon a prior $65 billion commitment from TSMC to build three new fabrication plants in Phoenix, AZ.
“The investment signifies a pivotal shift in the global semiconductor landscape, with profound implications for U.S.-Taiwan relations, domestic manufacturing, and technological sovereignty. President Trump has lauded TSMC's investment as a significant boost to national security and economic prosperity, emphasizing the critical role of semiconductors in modern technology.” - Velina Tchakarova
Right on the heels of Trump announcing a new "United States Office of Shipbuilding” to boost America’s defense industrial base, including commercial shipbuilding and military shipbuilding, another large-scale announcement was made:
Automobiles: Honda to produce next Civic in Indiana, not Mexico, due to US tariffs, sources say.