In evaluating the likely economic consequences of the end of Trump’s presidency, one historical parallel, perhaps the only in modern history, is the end of the Nixon administration.
Just as Trump’s economy entered 2020 on a roll, only to be upturned by COVID-19, Nixon’s was looking pretty good after his reelection. In 1972, the S&P 500 Index jumped more than 15 percentage points, the second consecutive year of double-digit growth. Americans were not quite euphoric, but close enough, and as the landslide victory of Richard Nixon promised momentum for Republican policies, forward-looking market participants could be forgiven for expecting more great years to come. Of course, what happened next was not a “break” in economic trends, but a literal break-in. The turmoil over Watergate, and the subsequent resignation of Richard Nixon in August 1974, put a significant drag on markets. It didn’t help that the economy had spent much of 1973 showing clear signs of overheating (complete with a dangerous inflationary spike), exacerbated by an OPEC oil embargo that began in the fall. The S&P500 posted a 17 percent drop in 1973, and a 29 percent drop in 1974.
Perhaps intuiting that a descent into political chaos could be in the cards as he left office, Nixon, urged all Americans to give his successor Gerald Ford a fair shot: “As he assumes that responsibility, he will deserve the help and the support of all of us. As we look to the future, the first essential is to begin healing the wounds of this Nation, to put the bitterness and divisions of the recent past behind us, and to rediscover those shared ideals that lie at the heart of our strength and unity as a great and as a free people.” Ford, like Biden today, had a long history of making friends on both sides of the aisle as a lawmaker, and seemed to be the right man for the task, even as he took the giant political risk of pardoning Nixon. The pardon certainly eased the minds of Nixon’s family members, but not those of market participants, although the latter had plenty else to worry about, including another inflationary surge in the later years of the decade, a second oil shock, and then the harsh, if ultimately successful, medicine doled out by Fed chairman Paul Volcker. The S&P 500 didn’t pass its nominal 1972 peak until 1980.
President Trump’s departure will likely be as rancorous as Nixon’s, and conceivably even more so. While many policies contributed to the miserable economic path of the 1970s, the turmoil preceding Nixon’s departure tossed the nation into a world of too many unknown unknowns for comfort, to borrow a later phrase. It is feasible enough to think through the possible range of outcomes as, say, a George H. W. Bush is replaced by a Bill Clinton in a peaceful and collegial transition of power. But when Nixon left, it seemed impossible to define the full range of possibilities that could possibly emerge over the following few years. The same may well be the case as Trump departs.
In other words, we have entered a world, as we did back in the 1970s, when economist Frank Knight’s theories suddenly find themselves front and center — a world where uncertainty rather than risk dominates. In his 1921 book Risk, Uncertainty, and Profit, Knight argued that “risk is present when future events occur with measurable probability, uncertainty is present when the likelihood of future events is indefinite or incalculable.” Since the publication of Knight’s great work, economists have developed sophisticated models that distinguish between risk and uncertainty, and when uncertainty is high, the smooth functioning of markets can collapse.
Where does the collapse come from? Uncertainty can generate widespread inaction. Suppose you are trading orange juice and have carefully modeled the impact of weather on juice production and prices. If you see a warm, wet growing season, you know oranges will be bountiful and prices will drop. But suppose a rumor spreads that an asteroid might hit Florida, but nobody knows what the odds are. Would you be willing to bet all your money on the price of orange juice a few months from now, or might you take your chips off the table? The latter seems more likely.
Can we reenter a normal world where the models that set out the range of possible events and assign reasonable probabilities to them can again be relied upon? Or (as occurred prior to the storming of the Capitol) are political leaders going to put kindling on fires that risk leading to a conflagration? In the former scenario, with vaccines on the horizon and stimulus in place, there is much to be optimistic about. In the latter scenario, risk aversion could skyrocket as Americans peer warily at one another and worry about what’s next. If that occurs, the trip out of the hole we have dug will take years.
Just as the course of that rumored asteroid was unknown, it is impossible to say whether our political leaders will step up and restore normalcy, but we should pray that they do, and we should do everything we can to help them achieve that. Historically, we have been a nation of laws and peaceful transitions, a nation with plenty of risk, but not a lot of uncertainty. The faster we return to that model again, the more certain we can be that the investment that makes our economy hum will be going full throttle rather than being put on hold (or slowed) as we wait for uncertainty to disappear. And the faster we do so, the more certain we can be that we will not relive the stagnant 1970s.