Trump's reciprocal tariffs stoke fears that a Mar-a-Lago Accord could be next

The disruptive and unpredictable nature of President Donald Trump’s various tariff announcements, and in particular the 2 April ‘Liberation Day’ reciprocal tariffs, had as one consequence a sell-off in the US Treasury market, which started on 5 April. The sell-off stemmed in part from tariff-related inflation fears and from over-leveraged hedge funds facing margin calls. But most significantly it marked a sudden recognition that Trump is serious about introducing massively disruptive economic policies.

Because of the boldness of the Liberation Day tariffs, investors now believe that anything could be possible under Trump. The so-called Mar-a-Lago Accord, suggested by Stephen Miran, who is now Chairman of Trump’s Council of Economic Advisers, stands out as potentially the most disruptive proposition – though this also makes it unlikely to be implemented, at least for now.

The Mar-a-Lago Accord would seek to address what Miran considers the biggest problem for the American economy – the overvaluation of the dollar hurting American manufacturing and thereby widening the US trade deficit. His solution would be nothing less than a restructuring of US sovereign debt by swapping short-term US Treasuries held by foreign investors into very long-term, if not perpetual, non-tradable zero-coupon obligations at a much lower implicit yield. The result would not only be to lower the cost of funding for the US government, but also to weaken the dollar.

The apparent simplicity of this proposal contrasts with its devastating consequences, which would be a potential technical default on US Treasury bonds. US Treasuries are today considered the world’s safe asset and happen to be denominated in the world’s reserve currency: the dollar.

The disruption that such a move could cause would be so great that Miran’s proposal has generally been derided or dismissed, but Trump’s astoundingly high reciprocal tariffs – currently on pause except for China – were not expected either. This has led some investors to fear the spectre of a US sovereign debt restructuring. It should also be noted that US Treasury swaps are not the only option contemplated within the Mar-a-Lago Accord framework to weaken the dollar while lowering the cost of funding for the US Treasury.

Miran also suggested the Federal Reserve could facilitate the reduction of debt servicing costs in coordination with Treasury. Miran did not fully develop how such coordination would result in lower US Treasury yields, but history offers some examples. In particular, the Federal Reserve introduced explicit yield control in 1942 and 1951 to help fund war efforts. But the international monetary system then had no resemblance to that of today, not only in terms of its interconnectedness, with foreign investors holding close to 30% of US sovereign debt, but also because there were foreign-exchange controls and capital-account restrictions then.

The severity of the sell-off in the wake of Liberation Day and Trump’s swift decision to pause most of the tariffs to stop the collapse of US markets, including the US Treasury sell-off, clearly point to an important wake-up call for the president and his economic team. In principle, this should make it even less likely that Miran’s Mar-a-Lago Accord will ever be implemented. But Trump’s unpredictability is such that no option can be discounted.

Consequently, US Treasuries can no longer be regarded as the safest assets in the world, benefitting from the US’ exorbitant privilege as issuer of the world’s reserve currency. The virtuous circle, by which the US manages with foreign capital to finance its trade imbalance and also its bloated fiscal deficit is now at risk. With it, the future of the dollar as the almighty reserve currency may be at risk too.  

Flirting with the dollar’s role as the world’s reserve currency would be even riskier than imposing very high tariffs on trading partners – as the Treasuries sell-off demonstrated. The very negative market reaction may demonstrate, once again, that market forces are the best protection the US economy has against bad policies. Hopefully, such market forces will be allowed to operate in full in the foreseeable future, since they seem to be the best guarantee for the dollar’s future as reserve currency.

This First Glance was also published on L'Opinion.