Via Stephen Stanley at Amherst Pierpont Securities:
The Treasury market reacted this morning to a very cursory comment by Treasury Secretary nominee Steven Mnuchin that the average maturity of the debt should be extended since interest rates are likely to be low for a few more years. This comment seems like more of an excuse than a reason for the market’s move to me, but I thought it might be helpful to summarize and unpack some of the comments that Mnuchin and the Commerce Secretary nominee Wilbur Ross made on their morning TV circuit, as they constitute the most detailed remarks we have on a number of economic issues from the incoming Administration since the election.
First, Mnuchin made clear that the Trump Administration’s top two priorities will be tax reform and regulatory relief. He gave a few key points on Trump’s tax plan. It will include a “big” middle class tax cut, but high-income households would come out roughly neutral, trading lower marginal rates for fewer deductions. The broad concept is to simplify the code by collapsing from 7 brackets to 3 and broadening the tax base (i.e. fewer deductions). Mnuchin was actually more enthusiastic about reforming the corporate tax code. He was pretty firm on a 15% top marginal rate (down from 35% now), and insisted that corporate tax reform would lead to a significant boost to jobs and growth. The goal, as reported elsewhere, is to put out an overall tax plan that is close to revenue-neutral after accounting for the positive impact of higher growth on tax receipts (i.e. “dynamic scoring”). Democrats will certainly reprise the old “giveaways for the rich/trickle-down Economics” critique, but it sounds like the tax plan will be sold as follows: the individual tax code reform will mostly benefit the middle class directly while boosting growth by lowering marginal rates and simplifying the code (which would reduce the time and resources wasted on tax compliance – do not underestimate the grass-roots political appeal of simplification if it is sold properly), while reforming the corporate tax code will be portrayed as a massive stimulus for the economy (while Democrats will portray it as a giveaway to robber barons).
There is no doubt that the incoming Administration will take a starkly different tone with how it interacts with business. We can generally expect a much friendlier and collaborative approach. Mnuchin said that the Administration will not always agree with business, but it will always listen. On Dodd-Frank, Mnuchin emphasized, falling back on his banking experience, that some of the new framework might be kept, but the key theme will be getting rid of anything that is preventing banks from lending. Again, Mnuchin and Ross may be viewed as Wall Street financiers, but the tone I heard was much more of a Main Street vibe. Mnuchin also specifically talked about making financial regulation simpler, citing the Volcker Rule as an example of a policy that is far too complicated. I could envision a regime where capital standards are set quite high and then regulators are told to leave the banks alone as long as they are holding sufficient capital.
On trade, Ross took the lead. He emphasized that the Administration is not going to be protectionist. He noted that there is “smart trade” and “stupid trade” and the U.S. has been doing too much of the latter. He noted that big regional trade deals are bad, because each counterparty “picks you apart” in turn and by the end of the process, you have given away too much. He and the Administration will instead try to rely more on bilateral trade deals. He also specifically mentioned, in the context of the Carrier announcement, that the most important reason that U.S. firms move production to Mexico is that it has better trade deals with many of our trading partners than we do and thus it is cheaper to ship goods into, say, Europe from Mexico than it is from the U.S. He aims to change this. More generally, a Trump Administration intends to use the immense leverage of the biggest economy in the world to pry open foreign markets. There may be threats of tariffs, etc., as there were during the campaign, but Ross claimed that tariffs would be a last resort and more of a negotiating tool.
Mnuchin was asked on CNBC about the Fed. He gave what I viewed as a polite “good job” assessment of Chair Yellen, but not a hearty endorsement. Ross seemed polite but even more tepid in his support for Yellen. Mnuchin said that filling the two open Fed Board spots will be a high priority. Sounds like Trump intends to leave Yellen alone until her term ends but replace her at that point.
On Treasury debt, as noted above, Mnuchin suggested that the Treasury may try to borrow more in the long end. He was asked whether the Treasury would consider a 50-year and/or 100-year bond, and he said something to the effect that he would look at everything. For the Treasury market to respond to this was in my view an overreaction. This issue is a much more micro question. Mnuchin (and Trump and Ross and the rest of Trump’s policy team) have probably largely made up their minds about where they want to go with taxes, regulation, trade, etc. But an issue like Treasury debt management, with all of its technicalities, will be largely decided down the chain of command from Mnuchin. My guess is that Mnuchin has not had a detailed briefing from the current debt management team and thus has only a cursory knowledge of the pros and cons of issuing, say, a 50-year Treasury bond. To date, Treasury officials have shown no appetite to bring such an instrument, mainly because demand would be limited, which means a) that it would be another esoteric, illiquid, non-benchmark product (the Treasury already has 2 of those in TIPS and FRNs) and thus b) that it would not be large enough to move the needle in terms of borrowing costs, average maturity, etc. That is not to say that Treasury may not shift course once the undersecretaries and assistant undersecretaries are in place and have had an opportunity to properly study the question, but Mnuchin’s comments today should not be viewed as a signal of an imminent change.
I want to end on a topic that, in contrast, has gotten far less attention than it deserves. Mnuchin noted on Fox Business this morning that Fannie Mae and Freddie Mac should leave government control and that the incoming Administration “will get it done reasonably fast.” He noted that government ownership of Fannie and Freddie displaces private mortgage lending. He suggested that the GSEs should be restructured and privatized, not eliminated (as some Republicans in Congress have proposed). In any case, I believe that there is a very real chance that the structure of the residential mortgage market will change noticeably over the next few years. Mnuchin is uniquely knowledgeable to have a say in this discussion, as he headed a consortium that bought IndyMac from the government, restructured it, and sold it off as a profitable enterprise. So he knows a little something about the mortgage market.
I have a much larger and more comprehensive piece in mind going through the major elements of the Administration’s policy proposals and how they would change the economic (and perhaps Fed policy) outlook. If all goes well, I hope to be able to pull that together over the next few weeks.