Like many developed economies, both the US and UK operate with ongoing fiscal deficits, requiring them to consistently issue government bonds to fund public spending. In times of uncertainty and market volatility, it’s crucial to stay grounded in economic fundamentals to help investors avoid decisions driven by emotion, bias, or stress. With that in mind, here are five key insights about the economy investors need to know.
1. The US Dollar Remains a Reserve Currency
The recent shift in US trade policy has brought about higher tariffs on both adversaries and allies. This fundamentally alters economic relationships and raises concerns for investors. At the heart of this transformation lies the US dollar, which remains the primary global reserve currency. For any government to move away from the US dollar, an alternative currency would need to offer comparable levels of confidence and be suitable for their goods and services needs without being radically affected by currency fluctuations.
A country’s infrastructure (roads, education, judiciary etc.), plays a crucial role in determining its currency integrity. Emerging economies, however, face the dual challenge of financing the development of this infrastructure while also paying for the necessary skillset to do this. Although tariffs reduce trade and cause exchange rate volatility, the US dollar is unlikely to lose its reserve status within most investors’ timeframes. Abandoning the dollar would risk adversely compromising the very development emerging economies seek to achieve.
2. Trade Instability Fuels Inflation
When tariffs raise import costs, inflation often follows as businesses pass these costs on to consumers. Efforts to boost domestic manufacturing can also drive-up expenses, from labour to materials. Even if trade tensions ease, higher prices are likely to persist due to local production and stronger supply chains.
It is in the US’s interest to stabilise trade policy quickly. Otherwise, its aggressive, go it alone policy risks escalating into conflict – with the US betting on slowing rivals’ growth while outpacing them in recovery. That’s a dangerous gamble and one that the US is unlikely to win.
3. Cash Interest May Lag Inflation
Cash interest may lag inflation as bond markets grow more competitive amid doubts about US growth. Such conditions diminish the appeal of holding large amounts of cash. In times of high inflation, cash offers minimal returns and gradually loses its purchasing power.
While short-term interest rates may rise, they can still lag inflation, particularly if markets doubt the US economy’s ability to meet its targets. This means bond yields must rise to attract investors and reflect higher perceived risks. This competition makes it harder for cash to keep up with inflation, as demand for liquidity grows to support economic development.
In theory, a country that lowers living standards and reduces import reliance can better control inflation on its local goods and services.
4. Western Investors Have Limited but Predictable Options Under US Policy
For US and UK investors, the consequence of US economic policy is unavoidable. US sanctions and financial restrictions limit global investment choices, making it harder to diversify or identify promising companies in emerging markets.
While free market capitalism is declining and US policy appears unpredictable, it’s still more transparent than investing in regions exposed to US sanctions. Therefore, sticking to time-tested investment principles and investing in regulated products is the best way to protect investors.
5. The US is Pushing Unilateralism to Slow the Rise of Foreign Industry
Choosing a unilateral trade path shows the US is willing to act alone to protect its industries and slow competing economic blocs. While this may benefit some sectors in the short-term, it creates uncertainty for global businesses facing changing rules and export limits.
Ironically, bringing manufacturing back to the US, by relocating from lower cost countries, is likely to require immigration, because the US lacks the skilled workforce to fill many of those roles.
So How Should Investors Navigate US Tariffs?
Relying solely on cash is not effective. Cash does not generate returns and loses value over time due to inflation. If the US continues to follow a go-it-alone approach instead of working with others, it could lead to even higher inflation. It is therefore important to invest surplus money and not hold it in cash. While cash may seem stable in a bank account, its real buying power quietly shrinks, reducing a saver’s true wealth.
Therefore, investors should focus on multinational corporations, which have diverse revenue streams and can better withstand economic fluctuations. High credit-rated bonds are also a wise choice, as they offer stability and lower risk. Additionally, carefully selected smaller stocks, whether local or from emerging markets, can provide growth opportunities.
To illustrate, A has £200,000 in bonds and stocks. After 4 years, the investment drops 5% to £190,000. Over the next 5 years, inflation averages 4.5% per year, but interest rates stay low. As a result, the £190,000 would only be worth £152,465 as cash in today’s money assuming there’s no investment growth. [PP1] [MU2] In contrast, if the money had stayed in bonds, rising yields would likely have followed due to global competition. If kept in multinational equities, the short-term market shocks would likely have eased over time as markets stabilised and these companies kept growing into new regions.
Overall, investors can afford to be patient with their investments, if their portfolio has been properly reviewed. Most UK investors receiving regulated wealth management advice should be fine, provided their adviser understands the market, tax wrappers, holding structures, and has a plan for income withdrawal. It’s asking a lot, so investors should do their due diligence on their adviser.
Conclusion
In a world of shifting trade dynamics and rising economic uncertainty, understanding the ripple effects of US tariffs is crucial for investors. While the US dollar remains dominant and US policy offers some predictability, challenges like inflation, limited global access and rising unilateralism shape today’s investment landscape. Staying informed and grounded in long-term investment principles is key to navigating these changes with confidence.
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Author: Mohammad Uz-Zaman, MA, Adv DipFA, CeRER, PETR, STEP Associate, is a seasoned Private Client Wealth Management Director. As the founder of multiple companies and brands, he is dedicated to enhancing financial and legal literacy, aiming to preserve wealth and optimise its impact for families and society at large. Mohammad’s expertise in social and economic policy was developed through his academic pursuits and his tenure at the Lokahi Foundation, a think tank in London.
