Washington is a difficult nut to crack. 94% of the locals voted for Hillary Clinton and are unified in their condemnation of what is going on in the Trump White House. Moderate Republicans meet questions with a stiff upper lip and hopes for the best. Trade organizations and think tanks all have agendas – some more obvious than others. There is a lot of talk about what should be done.


Yet Washington remains largely the same: You live north of Massachusetts Avenue and work South. The bureaucracy works slowly and the roads are in horrible shape. And Congress is a place where good intentions go to die.


On my visit to Washington, it was the lack of optimism that made the biggest impression on me. While fears about what America First! could lead to have subsided some, a deep anxiety remains.


The Trump Administration is less than a year old and there are at least three years to go. The President remains erratic and lashes out at friends and foes. The hunt for political wins takes precedent. Policies are shaped by the need to please a political base that is strong in its devotion to the President and believes that “draining the swamp” is a long-term project. Indeed, the President has succeeded in casting legislative defeats as proof of the need of swamp draining.


Democrats are increasingly confident that the future belongs to them, but have before severely underestimated the opponent and the public mood – they did so with President Bush in 2004. The legislative paralysis ahead of the midterm elections in November 2018 will soon set in.


My main takeaways from this week are:


Trade is the big issue

Trade issues have not featured as prominently as feared, but could be the big thing in the coming months. Nafta-negotiations have entered a tough phase as US demands are rejected by Canada and Mexico. While extension of the negotiations into 2018 allows for more time, it also brings their conclusion closer to the Mexican presidential elections and the US midterm election.


Trump would like to see Nafta go away, but also understands that this would negatively impact some of his core voters, particularly in agricultural states. Few expect Mexico to roll over, making a termination of Nafta an increasingly likely outcome, despite a vocal campaign from most US trade organizations, though not all. Much would depend on the domestic agenda in Washington, particularly tax reform. Trade issues with China could flare up, while also the trade deficits with several European countries (particularly Germany) remain a focal point. Few expects the UK to get an easy win on a new bilateral trade agreement.


Tax reform is not going to be “amazing”

Despite the reassurances from the President and congressional leaders, few expect tax cuts to be massive. There is an increasing worry among Republicans that tax cuts could turn into a liability if academics and Democrats succeed in casting them as a giveaway to the rich. Conventional wisdom is that cuts are a necessary political win before the midterm elections.


Senate math is making a big reform less likely, even as a budget resolution (providing the framework for detailed negotiations) is agreed upon. Net cuts of USD700 billion over 10 years was seen as a maximum, and there were questions as to whether this would increase growth at all – if it correspondingly prompted Federal Reserve to tighten more than it otherwise would have. There was nervousness among Republicans that the President’s promise of the “biggest cuts ever” would make even decent tax cuts look like a legislative defeat.


Deregulation matters

While legislative victories are few, Republicans like to point to the deregulation agenda that is unfolding. Some is doing away with regulation introduced under President Obama. Some is the appointment of conservatives to the many boards and agencies that exist within the executive branch tipping the scale on interpretation of rules and regulations in a business-friendly direction. Some is the appointment of judges – not just at the Supreme Court level, but to the many vacancies on lower courts that also make important decisions. Some has to do with the promise not to increase the net regulatory burden over the coming three years; that businesses know what to expect from Washington instead of an ever-increasing load of new tasks and rules. This is one of the elements in lifting the economy’s potential growth rate.


Federal Reserve is hiking rates

The discussion about Federal Reserve was not whether it would move in a hawkish direction, but how much it would move. Warsh and Powell were leading nominees a week ago, but John Taylor is supposed to have made a good impression on the President. Yellen is interviewing for her own job, while Gary Cohn hardly is mentioned anymore. While the dot plots may go away as a guiding tool under a new Chair, another 100bp interest rate increases between now and end-2018 remain the most probable course.


Calm before the storm

The budget and debt ceiling could provide the President with an opportunity to declare full-out war on the Washington establishment – with migration issues and border wall funding added to the mix. A collapse in talks and a government shutdown in December is increasingly likely. The President’s budget director Mulvaney has been quick to preemptively point fingers at the Senate. The President’s former chief advisor Bannon is preparing for political war.


There is significant worry among the Washington elite and foreign observer about what will happen if Secretary of State Tillerson, Defense of Defense Mattis and Chief of Staff Kelly fall out of favor with the President. Most expect Gary Cohn to leave Washington in the not too distant future if he is not appointed to the Federal Reserve. Other cabinet members could be tempted to leave, if things become too miserable. If the Democrats win the House of Representatives in November, the Administration will be buried in subpoenas and congressional investigations, effectively shutting down its legislative abilities, but with the remaining administrative powers. This could be a truly disruptive scenario.