Trump's capital tax would be coup de grace for the dollar

Asia Times

2 days ago

US dollar bulls are having a rough 2025 as Donald Trump's determination to sabotage the world's reserve currency grows by the day.
The US president started the year threatening to fire Federal Reserve Chair Jerome Powell. And to limit the Fed's latitude to make monetary policy decisions independent of the White House.
Next, Trump's tariffs spooked the US Treasury market in unprecedented ways, pushing 10-year yields above 4.8% for a time in April. The turmoil spread around the globe, hitting the Japanese government bond market hardest.
Now, Trump's Republican allies in the US Congress are dutifully doing their worst to undermine the dollar with the 'Big Beautiful Bill' that's winding its way through the legislative process.
Buried in the voluminous 1,000-page document, all the way back in section No. 899, sits the latest Trumpian financial landmine. It aims to change the treatment of foreign capital flows into the US by allowing the White House to slap taxes on companies and individuals from nations it deems discriminatory.
This very idea 'challenges the open nature of US capital markets by explicitly using taxation on foreign holdings of US assets as leverage to further US economic goals,' says George Saravelos, global head of FX research at Deutsche Bank.
This 'weaponization of US capital markets,' Saravelos says, risks 'creating the scope for the US administration to transform a trade war into a capital war if it so wishes.'
Elias Haddad, a strategist at Brown Brothers Harriman, says it 'would deter' foreign investment in US assets at a time when the country faces increasing reliance on foreign capital to finance its ballooning debt.' Clearly, he notes, it's 'not good for the dollar.'
Trouble is, the weaponization dynamic has become too commonplace for overseas investors to dismiss it as a quirk. There's a cost to being seen as weaponizing the dollar, warns economist Zongyuan Zoe Liu at the Council on Foreign Relations.
Case in point: freezing a rival nation's access to its currency reserves, as former US President Joe Biden's team did with Russia in response to Vladimir Putin's Ukraine invasion.
'The more the US uses it, the more other countries are going to diversify due to geopolitical reasons,' said Liu.
In 2022, Congress granted Biden's White House authority to seize Russian dollar assets to aid Ukraine. This so-called REPO provision allowed then-Treasury Secretary Janet Yellen's team to transfer Russian government assets to a Ukraine reconstruction fund. It fueled fresh debate about the long-term costs of using the dollar's dominance in unsavory ways.
Yet Trump 2.0 is rapidly escalating these risks in ways that could backfire badly on the US. Case in point: Trump's crackdown on student visas for China and a steadily expanding number of countries he doesn't like. Few US industries enjoy such a large trade surplus as education.
But Trump's war on capital, on top of his war on trade, would be a deeply ominous development if the US Senate passes the version of the funding bill the House of Representatives has already greenlit.
Emmanuel Cau, Europe equities strategy at Barclays, warns that tax legislation merely becoming law could tarnish the value of dollar assets in the eyes of foreign investors.
'In our view, this is a risk for those companies generating US revenues and domiciled in countries that have enacted Digital Services Taxes or are implementing the OECD's Under Taxed Payment Rule,' Cau explains.
Then there are the Trump tantrums to come. One is his threat to slap 100% tariffs on countries trying to de-dollarize. That's particularly true of BRICS nations — Brazil, Russia, India, China, South Africa — as well as Egypt, Ethiopia, Iran and the United Arab Emirates.
As Trump put it: 'We require a commitment from these Countries that they will neither create a new BRICS currency, nor back any other currency to replace the mighty US dollar, they will face 100% tariffs, and should expect to say goodbye to selling into the wonderful US economy.'
Not surprisingly, Trump argues there's 'no chance' the BRICS will replace the dollar in global trade and any country that tries to make that happen 'should wave goodbye to America.'
Economist Warwick Powell, author of 'China, Trust and Digital Supply Chains', says the globe's high exposure to the dollar makes many nations reluctant to undermine US capital markets
But 'these concerns are countered by growing weaponization of the USD and USD assets, as well as threatened moves by the new US administration to erect significant barriers to trade with the US,' Powell says. 'The constraint is that foreign holders of the dollar and dollar-denominated … capital assets would be reluctant to rapidly diminish the exchange value of these holdings.'
Yet if forced due to the US government's punitive economic measures and intensified weaponization of the dollar and associated financial assets, Powell says, 'then it is possible for BRICS nations to achieve a successful compensatory transition within a relatively short period of time. This does not imply that such a transition would not be disruptive or cost-free; it simply says, it can be achieved.'
That's why, as economist Marcello Estevao at the Institute of International Finance sees it, the global economy in 2025 'stands at a precarious crossroads, heavily shaped by an overarching theme: uncertainty.' From 'political decisions to policy implementations, the lack of clarity emanates largely from the new Trump administration. This uncertainty extends far beyond the United States, permeating global markets, trade relations and regulatory frameworks.'
There's still every reason to think Trump will try to fire Powell. As he said at the start of his second term in January: 'If the Fed had spent less time on DEI, gender ideology, 'green' energy and fake climate change, inflation would never have been a problem.'
He complained, too, that 'because Jay Powell and the Fed failed to stop the problem they created with inflation, I will do it by unleashing American energy production, slashing regulation, rebalancing international trade and reigniting American manufacturing.'
It's clear Trump is doing no such thing. In May, US manufacturing, which Trump's tariffs were supposed to save, contracted for a third consecutive month. The Institute for Supply Management's index slid 0.2 points last month to 48.5, below the 50 level signaling expansion. A gauge of imports, meanwhile, dropped to a 16-year low amid tariff uncertainty.
'An aim of tariffs is to spur a durable rebound in US manufacturing employment,' write Wells Fargo analysts in a note to clients. 'However, a meaningful increase in factory jobs doesn't appear likely in the foreseeable future, in our view.'
Weak factory job growth may partly reflect high labor costs, an insufficient bench of skilled workers, slowing population growth and reduced immigration. 'Higher prices and policy uncertainty may weigh on firms' ability and willingness to expand payrolls,' the analysts note.
What's really needed, though, is for the Trump administration to vastly increase investments in productivity-increasing industries.
'In order for manufacturing employment to return to its historic peak, we estimate at a minimum $2.9 trillion in net new capital investment is required,' Wells Fargo writes. 'Assuming businesses are willing and able to invest such ample sums, questions over staffing remain.'
Instead, Trump's tariffs are layering on new headwinds. As Fed Governor Christopher Waller said last month, 'higher prices from tariffs would reduce spending, and uncertainty about the pace of spending would deter business investment. I have heard this repeatedly from business contacts around the country—tariff uncertainty is freezing capital spending.'
Waller added that 'productivity growth, an important source of GDP increases in recent years, would slow as investment is allocated according to trade policy and not towards its most productive and profitable uses.'
At the same time, Team Trump is busily giving foreign investors yet more reason to avoid US dollar assets. The timing couldn't be worse, coming just over two weeks after Moody's Investors Service revoked Washington's final AAA credit rating.
Barclays strategist Cau says, 'given that the US net international investment position is sharply negative, there is indeed scope for capital outflows if indeed S899 passes through the Senate in its current form.' That could prompt governments and central banks holding large blocks of US Treasuries, including China and Japan, to rethink their positions.
As proposed, the new tax could mean that 'the de facto yield on US Treasuries would drop by nearly 100bps,' says Deutsche's Saravelos. 'The adverse impact on demand for US Treasuries and funding the US twin deficit at a time when this is most needed is clear.'
Beat Wittmann, chairman of Switzerland-based Porta Advisors, tells Bloomberg that the new proposed tax 'is very bad. This is huge — this is just one piece in the overall plan and it's completely consistent with what this administration is all about.'
Follow William Pesek on X at @William Pesek