Populism is in the ascendancy in today’s political environment. Whether its rise is a result of the global financial crisis may be a subject for debate, but one thing is clear: populism thwarts long-term economic progression.
Loosely defined as any ideology that separates ‘the people’ from a ‘corrupt elite’, populism has existed in various forms over the last century. While it is often believed to be the preserve of the right, populism and democracy are not mutually exclusive: parties on both sides of the political aisle espouse populist platforms under the guise of being ‘anti-establishment’. On the left, one might find policies advocating for a diminished role of the private sector; on the right, more libertarian moves to reduce government regulation. Regardless, a common theme for populists across the political spectrum is the invocation of an existential crisis (either real or imagined) to justify the need for political unity. Typical policies include income redistribution, public spending increases, a rise in trade barriers and tariffs, tax cuts, restrictions on immigration, and a pro-nationalist or anti-global rhetoric.
Non-economic consequences of populism include increased polarisation across political parties, and criticism of outlets that seek to check power (such as the media) and other branches of government (such as the judicial system). In the extreme, a rise in scapegoating, civil unrest and human rights abuses may result, as leaders consolidate power and increase autocratic rule.
But what about the economic impact? Some items on the populist agenda can spur growth in the short term. Few would argue against an increase in spending on outdated public infrastructure, for example, or disagree with the notion that tax cuts can boost consumption and investment. However, populism has the potential to hinder growth, fuel inflation and result in a loss of competitiveness and productivity over the long term.
An increase in government spending – especially in the form of rising transfers and benefits, combined with tax cuts – can increase the budget deficit, the financing of which can crowd out private investment and potentially lead to higher inflation. Restrictions on migration can hamper worker mobility and have a similarly inflationary impact on wages from a mismatching of labour, skills and demand. Attempts to limit the independence of external agencies, such as a country’s central bank, can also lead to inflation as politicians run expansionary policies at the expense of fiscal discipline in order to fuel short-term growth.
Excessive taxation on incomes and capital can discourage labour and productivity-enhancing investment. Taxation on acquired or inherited wealth can lead to avoidance strategies and a shifting of assets offshore. Trade barriers can lead to the suboptimal use of resources under the show of protecting national security interests, when those same resources could have been used in more productive capacities.
Implications for global assets
One of the primary channels by which populism can affect financial assets is through protectionist policies. Countries that impose restrictions on foreign investment may end up limiting the investor base for global assets, resulting in inefficient price discovery and potentially lower valuations. Capital controls – whether designed to alter the composition, size or timing of foreign investments, and/or restrict capital flowing out of the economy – can be harmful to inward investment, particularly if foreign investors are uncertain about their ability to dispose of assets at their discretion. Uncertainty surrounding the conduct of monetary and fiscal policy, too, can weigh on investment decisions to the extent that inflationary policies can lead to destabilising currency depreciation, adding a source of additional risk to the investment.
Foreign capital matters
As trade continues to grow (and, indeed, has risen more rapidly than overall GDP), countries such as the US and the UK, which have run trade deficits for decades, should be mindful of their dependence on foreign capital for financing consumption. Trade deficits do not imply a lack of economic health, but rather a dearth of savings versus investment, which must be imported from abroad. Investment from overseas – which includes net purchases by foreigners of equities, corporate and government debt, and real estate, among other assets – plays a significant role in making up for the US and UK’s relative lack of national saving.
