By: Ayān Sule
The stock market has wiped out all its post-election gains. The rally that followed Donald Trump’s election in November – fuelled by the optimism surrounding a new, pro-business administration– basically never happened. To the casual observer of the stock market, a protracted decline over March, followed by a dip after Trump’s tariff announcements fuels anxiety painted by the memory of the 2008 Financial Crisis and the Great Recession that followed. Others, however, are wary of alarmist rhetoric, cautious to not allay fears of a crash and prompt a large-scale stock market sell off.
Dip 1: Inflated expectations, deflated tech?
Those that are less bearish – or believe that a market crash possibility is exaggerated – believe that the post-2020 AI boom exacerbated the overpricing of tech stocks. Following ChatGPT’s breakthroughs, firms building products for the AI ecosystem were allegedly in a bubble, where their valuations rallied to unprecedented levels, pushing chip-maker NVIDIA into trillion-dollar company status. This 12-figure valuation was partly derived by AI technologies’ dependence on the high computation power provided by NVIDIA manufactured GPUs, making NVIDIA a market leader. Such rallies were guided by optimism of the future value that could be unlocked in the economy if AI was to be mass-adopted in 5-10 years, rather than evaluating the stock prices according to the companies’ present-day activities. The suspicions of overpriced US Tech stocks were vindicated when a Chinese company, High-Flyer, released their new and competitive AI: DeepSeek-R1. an open-source Generative AI competitor to ChatGPT, which performed the same tasks as ChatGPT for a lower computational power and at a lower cost of input-output tokens. This tempered the AI fever in Silicon Valley and led to the first dip after Trump’s inauguration in the stock market mid-February. Many analysts call this dip a stock market “correction”- a scenario where the stock price of a company drops by 10% from a recent high. Investors realised that they were perhaps too optimistic of the future performance of US Tech stocks, and fuelled a sell-off based on the expectation that future profits would be outcompeted by similar Chinese AI technologies. The correction represented the reality that a Chinese company has offered a cheaper, more efficient AI that has the potential to diminish future US Tech Sector earnings. In short, the lower present value of Tech stocks reflects the reality of a more competitive AI market which is not solely driven and dominated by ChatGPT. This correction occurred amidst efforts by California-based tech giants pushing a bill to restrict development of AI to large AI developers during the Biden Administration.
However, this correction does not mean that a recession is inevitable, contrary to narratives in the media. In efficient markets, investors use publicly available information to accurately determine the fair price of stocks. Had the dip entered into overcorrection territory – or a 20% dip from fair value- concerns of a recession would have more weight to them.
Dip 2: Tarriffs
The key foundation for any efficient stock market is low uncertainty. During uncertain periods where there’s increased volatility in the stock market, such as political turmoil, or a war, there are fewer investors due to the increasing risks surrounding profitable returns on investments. Since World War II, the US stock market has operated under the certainty that US firms receive preferential access to markets in Europe, Japan and Canada. This is because of the goodwill that the US earned from defending Europe and helping rebuild in the aftermath through the Marshall Plan. Canada has been a close US trading partner due to their cultural proximity, and comparative advantages; Canada sells the US cheap energy, while the US exports agricultural goods to Canada. America’s closest allies have operated under a reciprocal relationship where US firms get better market access than other foreign firms in exchange for security, diplomatic support and exporting goods that they have comparative advantages in (i.e., goods that the US cannot as efficiently manufacture by themselves).
In his first month, President Trump has evaporated America’s goodwill with its allies by imposing tariffs. Trump firmly believes that America has been cheated in its relationships with its allies. Most of this worldview is shaped by a Republican deficit hawk ideology: American fiscal conservatives believe that America’s trade deficit (i.e. importing more goods than it exports) is bad for the American economy. Therefore, according to deficit hawks, America should cut imports and empower its manufacturers to export more goods. To cut these imports, Trump has imposed tariffs on the EU, Canada, Mexico and others in an attempt to arm-twist its allies into concessions for US goods, and higher NATO contributions. Trump also believes that the income from tariffs can be used to bridge the deficit.
However, in the month of February, Trump has imposed tariffs on Mexico and Canada, only to abandon them, and later re-impose them in a test of strength. This brinkmanship has forced markets into the red, and fuelled uncertainty in key industries like agriculture, energy and manufacturing. America relies on agricultural imports and outsourcing automobile manufacturing to Mexico. This enables American consumers to purchase cheaper food, and vehicles. It is important to note that these are American vehicles produced by American manufacturers who outsource production to Mexico. This is based on a logic of comparative advantage, where Mexico’s demand for capital through foreign investment is matched with US demand for cheaper automobiles and agricultural produce.
Similarly, American energy infrastructure is tightly entangled with Canada’s oil and natural gas ecosystem. Imposing tariffs on Canadian imports will most likely make gas and electricity more expensive in the US, while US agricultural exporters will face reciprocal barriers for exporting into Mexico. The volatile uncertainty has placed doubts on the future success of America’s industrial backbone, leading investors to divest from firms exposed to tariffs.
Here’s Why Trump is Wrong About Tariffs
What Trump fails to consider is that America is not a corporation, its deficit is not “bad” or “good.” It is simply a fact of international trade. In firms, a large deficit in the form of many accounts payable is not a good sign, as it signals firms’ inability to meet their own financial commitments. Trump sees The United States of America as American Inc., a firm with many Accounts Receivable – i.e. it is due a tribute from its allies in an exchange for services that the country provides. However, international trade involves currencies that are printed by their originating countries. This currency is paid to a trading partner in exchange for goods.
If the United States has a current account deficit, its capital account will be in surplus (i.e. it exports more currency). The United States, by design, will always have a large capital account surplus, as the US Dollar is the world’s reserve currency. It is the fuel that lubricates the wheels of international trade, which accords America a high amount of control over the international trading system, power that has been unprecedented when compared to any other time in history. If the US Dollar is arbitrarily weaponized, countries may lose faith in the US Dollar and switch to an alternative form of currency to conduct international trade and plug their trade deficits.
America by design, cannot have a current account deficit because its large capital account surplus is the source of financial power. When Trump tries to make America’s balance of trade go into a current account surplus territory, its capital account will be in deficit, and the US Dollar could lose its centrality as the world’s reserve currency. Instead, countries could choose to hedge their US Dollar risk by buying reserves of other currencies with a large capital account surplus.
Trump’s Market Dip is a Feature, Not a Bug
To fix this dilemma, Steve Miran – one of Trump’s closest economic advisors has articulated a Mar-A-Lago Accord. Named after Trump’s exuberant waterfront property in Florida – and designed to be the winter White House– The Mar-A-Lago Accord is fashioned after the 1985 Plaza Accord. Signed at New York’s Plaza Hotel– infamous due to its feature in Home Alone 2 – where a Ronald Reagan era America agreed to devalue the US Dollar in a meeting with key European allies and Japan. The Volcker Shocks – or the economic policies of Federal Reserve Chair Paul Volcker – had sent the US Dollar soaring in the 80s, making it tough for American allies to do business with expensive American dollars. Devaluing the dollar meant that America’s goods could compete abroad for cheaper prices. Miran argues that the US Dollar is overvalued, and America needs to replicate the Plaza Accord, devalue the dollar and bring manufacturing back to America.
However, America cannot adjust the value of the dollar unilaterally, as this would cause a panic in the market. America needs to come to a multilateral agreement with countries that hold large-amounts of US Dollar reserves (China included) to devalue the currency. Such a large-scale agreement is unrealistic as American allies have grown skeptical of the Trump administration’s reneging of trade agreements, making American long-term commitments seem unreliable. Heightened concerns of a recession from Trump’s unpredictable tariff policy has sparked a dollar sell-off leading to a devaluation of the dollar.
It can be speculated that Trump’s stoking of recession fears is done by design, to intentionally lead to a weakened dollar. What Trump does not realize is that America cannot have it all: a weak dollar, tariffs, a current account surplus and preferential trade relationships. The reversal of an American-led system that has underpinned modern trade since the Bretton Woods Agreement in 1945 is increasing the unpredictability of the international system. While the rules of international trade were universally agreed upon, markets were more predictable and less uncertain. But with its largest benefactor playing a game of economic chicken, rewriting its rules and heightening uncertainty, a recession may not be off the cards after all.