THE TRUMP TAX: 80 BASIS POINTS.

So far the Trump presidency seems to have been good for the U. S. economy. Or at least, given the difficulty of apportioning blame or credit in unique historical events, it hasn’t prevented good economic performance. True, output and employment growth were slower last year than in some Obama years but you’d expect that with the U. S. economy nearing capacity.

So, could there be an economic cost to President Trump? Maybe, says a fun new research paper — fun except for all its econometrics — by Barry Eichengreen, an economic historian at Berkeley, and two colleagues at the European Central Bank, Livia Chitu and Arnaud J. Mehl. The cost they point to is higher interest rates and the mechanism they have in mind is Trump’s possible effect on other countries’ official holdings of U. S. dollars, which run into the trillions.

Many countries don’t reveal the composition of their foreign reserves. Canada does. Our latest numbers show us holding foreign securities and deposits worth almost US$77 billion, with the breakdown being: U.S. dollars, $51 billion; euros, $16 billion; pounds sterling, $8 billion; and Japanese yen, a little less than $1 billion. What determines that breakdown? Is it exchange-rate risk? Trade patterns? Return maximization? Efficient diversification? If economists are managing the money, you’d hope it would be a combination of all that.

But could it be other things? International politics, say? If we dumped a few billion U. S. dollars to trade for Chinese yuan, do you think we might hear from the Americans, from one D. Trump, in particular? Or are our holdings a result of inertia or even nostalgia? ( How come so many British pounds? Isn’t that a throwback to a time, now long ago, when much of our trade was with Britain?)

Eichengreen and his colleagues wanted to investigate this split between economic and other, mainly geopolitical, motives for holding a given combination of foreign reserves. Unfortunately, the fact that many important countries don’t reveal their holdings made that impossible. So, they did the next best thing. They looked at a historical period for which, thanks to scholarly reconstruction, we do have good data on who held what — namely, the three decades before the First World War.

OK, so a lot has changed between now and 100 years ago. Maybe countries behave completely differently in the 21st century than they did in the late 19th and early 20th. But we economists tend to think human nature doesn’t change much as time goes by so the fundamental things still apply.

In any case, when the three economists related different countries’ century-ago foreign-exchange reserves to standard economic variables they found correlations strong enough not to be dismissed as random. But when they added variables such as whether countries had formal alliances or extensive diplomatic representation with each other they found that these geopolitical considerations also produced correlations strong enough not to be dismissed as random. So it appears many countries’ holdings are motivated by a mix of economic and political considerations, which on reflection isn’t surprising.

It’s also consistent with what contemporary data are available. France, Russia and China, all nuclear powers, have diversified foreign reserves. Germany, Japan and Saudi Arabia, which depend on explicit or implicit American guarantees for their defence, keep their reserves predominantly in U. S. dollars. Maybe that’s just an accident. But maybe it isn’t.

Now the fun part. What if, ask the scholars, Trump carries through on his neo- isolationist campaign rhetoric and lets allies like South Korea, Japan and Germany take on primary responsibility for their own defence? Getting them to at least share the burden would relieve the United States of US$ 10 billion in annual military expenditures, maybe more.

But what if this geopolitical re-ordering feeds back into their choices about what assets to hold their foreign reserves in? That would reduce world demand for U.S. dollar assets and, other things equal, raise the interest rates U.S. borrowers have to pay in order to get the rest of the world to hold their debt. The response, if you apply the pre-WWI correlations, could mean an additional US$ 750 billion flowing out of national reserves and into ordinary debt markets. Standard demand- supply stories about what determines interest rates suggest that to get the world to hold that much more American debt could cost U. S. borrowers an extra 80 basis points. Apply that interest rate hike to total American debt and the hit could be US$ 115 billion a year. By comparison, US$10 billion in military expenditures doesn’t look so bad — however objectionable the idea of trading soldiers’ risk for lower interest rates.

The president seemed sweetly reasonable in his State of the Union address Tuesday so maybe he won’t blow up America’s alliances, after all. But if he did, it could have an economic effect this maestro of debt wouldn’t like. Not nice!

WHAT IF GEOPOLITICAL RE-ORDERING FEEDS BACK INTO FOREIGN RESERVES?