Roots Below

Trump's U-Turn And The Return of Global Fiscal Expansion

‘Cause now I see, I’ll never stop this train – John Mayer

If there’s one area where the new US president truly excels, it’s his knack for diverting attention. When he took office, the prevailing narrative—based on his statements and those of his administration—was that fiscal stimulus would slow significantly, likely pushing bond yields and stocks downward.

Then came Liberation Day, plunging markets into chaos as uncertainty reigned. No one knew what was happening or what the outcome would be. Looking back, it seems like pure distraction. Whether that was the plan all along or the sharp price action in stocks and bonds spooked the administration, the “bull-case” scenario I outlined in “Happy?” on May 2 still holds:

Spinning this further, the bull-case narrative could look like this: Trump’s Liberation Day rhetoric rattled markets, and stocks quickly priced in the worst. But recent statements from administration officials signal de-escalation, with more trade deals expected in the coming weeks.

Since then, the stock market has surged relentlessly. Are there other factors beyond the UK trade deal and the 90-day pause? Absolutely. The administration’s push for additional tax cuts should bolster household spending. While this promises to stimulate the US economy, many argue it won’t match the impact of direct fiscal stimulus.

Everyone expected Trump to sideline the deficit issue. Musk’s DOGE initiative made a splash with bold promises of sweeping government cuts and deficit reduction.

Months later, it’s clear this was all smoke and mirrors. Musk, who once claimed he could slash $2 trillion from the federal budget, has steadily backtracked. It’s increasingly obvious that DOGE will have little to no impact.

With DOGE’s cuts evaporating and tax cuts embedded in the House Reconciliation Bill, the US budget deficit is poised to balloon. According to the Committee for a Responsible Federal Budget:

The emerging House reconciliation bill is projected to add roughly $3.3 trillion to the debt through Fiscal Year (FY) 2034, potentially exceeding $5.2 trillion if temporary provisions are extended.

The Committee estimates the US debt-to-GDP ratio could surpass 120% if the bill passes.

If anyone believed Trump aimed to balance the budget, prioritize Main Street over Wall Street, or unleash free markets, my current view is that none of this will materialize. His pivot away from aggressive tariffs shows the administration prioritizes the stock market, viewing it as a barometer of success.

Whether Trump realized he can’t or simply won’t “stop this train,” I draw two conclusions. First, the growing deficit will fuel consumer spending, propping up stock prices and sustaining the economy in the short term.

Despite inflation undershooting targets this week, the Fed remains in no rush to cut rates. If Trump continues striking deals, markets will gain clarity about the economic landscape and adjust accordingly. Whether markets have fully priced in permanent 10-15% tariffs remains unclear.

While this policy buoys stocks in the short term, it’s a headwind for bonds. Unsurprisingly, long-term interest rates have ticked up in recent weeks. With expectations of deficit-driven growth, long-term rates must rise to reflect this reality.

Trump has boxed the Fed into a corner, leaving Powell in a bind. While I still expect inflation to ease in the coming months, persistent labor market strength suggests the Fed will hesitate to cut rates until it’s too late. Yet, cutting rates risks pushing long-term yields higher, as markets anticipate stronger growth, a larger deficit, and future inflation. Thus, I suspect markets are right to price out rate cuts this year, and the Fed won’t act until forced.

This dynamic offers no support for lower long-term yields. It seems Trump has traded his goal of lower 10-year Treasury yields for a buoyant stock market. While verbal interventions may follow, it’s uncertain whether they’ll cap long-term rates for long.

With this policy U-turn, the US has aligned with European governments on an expansionary fiscal path. If deficit reduction was once a drag on global bond yields, its abandonment is now a tailwind. This brings me to Europe, where the outlook grows increasingly concerning.

German Chancellor Friedrich Merz and French President Emmanuel Macron recently penned an op-ed in WELT, reaffirming their “unconditional support for Ukraine and its pursuit of a just peace.” They also outlined their vision for Europe:

We will boost spending on security and defense, strengthen the technological and industrial base of European defense, and promote a robust European preference. In doing so, we will build on the European Commission’s proposals for public and private investment instruments.

Taking this at face value, my suspicion—sparked when Germany announced a €1 trillion defense and infrastructure plan—seems confirmed: other European nations will likely follow suit, ramping up government spending. The Maastricht Treaty’s days may be numbered, with the EU poised to issue joint debt regularly.

Unlike the US, the ECB has already slashed rates significantly, paving the way for higher inflation down the line. While European stocks may cheer this, long-term government bonds will face pressure as deficits grow and inflation creeps up in the coming years.

Assuming markets adapt to this scenario, I maintain that stock markets on both sides of the Atlantic have room to climb, while interest rates trend higher. A sharp economic slowdown could shift this outlook, but the US policy reversal and Europe’s spending surge suggest we’re on the cusp of another expansion. Whether it’s sustainable remains to be seen.

The goal is clear: generate growth that outpaces the rising fiscal deficit. History, however, suggests this may falter, forcing central banks to intervene eventually. For now, let’s ride this crack-up boom—but let’s not ignore the “roots below,” the debt-fueled monetary system. A train that cannot be stopped.

The wounds that we’re left with, we cannot control
The curse of the pain feels like all we know
Until we find the strength, drawn from the roots below
In blackened soil, new power grows
As I Lay Dying - Roots Below

Have a great weekend!

Fabian Wintersberger

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All my posts and opinions are purely personal and do not represent the views of any individuals, institutions, or organizations I may be or have been affiliated with, whether professionally or personally. They do not constitute investment advice, and my perspective may change over time in response to evolving facts. IT IS STRONGLY RECOMMENDED TO SEEK INDEPENDENT ADVICE AND CONDUCT YOUR OWN RESEARCH BEFORE MAKING INVESTMENT DECISIONS.