Gridlock in Washington? How U.S. election results could affect the economic recovery

On the latest edition of Market Week in Review, Director and Senior Investment Strategist Paul Eitelman and Head of Portfolio & Business Consulting Sophie Antal Gilbert discussed U.S. election results and the market reaction, as well as recently released economic data from around the globe.

Market expectations in election aftermath: Divided Congress, smaller fiscal stimulus package

As of mid-morning Pacific time on 6 November, the winner of the U.S. presidential election had not been called by any major news outlets, Eitelman stated, noting that the contest between U.S. President Donald Trump and Democratic challenger Joe Biden proved to be very competitive, with high voter turnout.

Congressional races also remained in the spotlight, he said, especially in the U.S. Senate, where many political strategists had predicted that the Democratic Party would seize control from the Republican Party, which held a 53-47 edge heading into Election Day. However, as of mid-morning 6 November, the Democrats had only gained one of the three seats needed to secure an advantage in the Senate, Eitelman noted.

“At this time, the market expectation is that the Republicans will maintain control of the Senate-but it’s looking increasingly likely that the final outcome won’t be known until January,” he said, explaining that two Senate seats up for grabs in Georgia are likely headed toward runoff elections in January. Assuming that the Republicans do maintain possession of the Senate, markets expect a gridlocked Congress in 2021, with the Democratic party retaining control of the House of Representatives.

“Given that Congress controls the power of the purse-the ability to alter tax or spending policies-the outcome of these races is highly significant for the macro-market outlook, perhaps even more so than the outcome of the presidential race,” Eitelman remarked. The size of the next fiscal stimulus package in particular hinges on the final makeup of Congress, he said.

“Under a blue-wave scenario, we saw potential for a $2 trillion stimulus package. With a split Congress now looking more likely, we’ve ratcheted down our expectations, with a package around $1 trillion more plausible,” Eitelman said. Going forward, he and the team of Russell Investments strategists believe that the U.S. economic recovery should remain on track, but perhaps with a little less fuel to support it than implied by earlier forecasts.

Stocks soar in wake of U.S. elections

Markets have also reset their expectations around fiscal stimulus, Eitelman said, noting that interest rates have come down quite a bit from where they stood on 3 November. “The U.S. 10-year Treasury yield has fallen from 93 basis points on Election Night to 75 basis points on 6 November. While that’s not a huge move overall, it is rather large in the context of the last several weeks,” he explained.

Meanwhile, on the equity market side, there’s been broad strength across the board, Eitelman said, with the MSCI All-Country World Index rising nearly 7% the week of 2 November, as of mid-morning Pacific time on 6 November. “Some of this is probably just a reflection of what’s happened with interest-rate dynamics since the U.S. elections-i.e., lower discount rates are supportive of higher equity market valuations,” he remarked. The notion of a gridlocked Congress also decreases the likelihood of U.S. corporate tax hikes, and that’s served as another tailwind for equity markets in recent days, Eitelman added.

Global PMI surveys, October U.S. jobs report point to ongoing recovery

Turning to economic developments, Eitelman said that while the U.S. elections may have overshadowed the latest data releases, the week of 2 November was marked by several encouraging reports. Tops among them was the U.S. October jobs report, which showed that the American economy added 638,000 non-farm payrolls last month. In addition, the U.S. unemployment rate fell to 6.9%,down from 7.9% in September, which Eitelman characterised as a positive surprise.

“It’s important to remember that back in the darker days of March and April, many economists were projecting that the nation’s unemployment rate would remain above 10% through year-end-and the U.S. is clearly well below that level now. Ultimately, there’s been a significant improvement in the labour market, due to fiscal stimulus, supportive monetary policy and the gradual reopening of the U.S. economy,” he explained.

PMI (purchasing managers’ index) surveys from key regions across the globe also demonstrated strength during October, Eitelman said, particularly in China, as well as in Europe, where manufacturing continued to accelerate.

All told, the latest economic trends suggest a positive outlook moving forward, he stated, adding that some bumps in the recovery are possible due to the resurgence of COVID-19 across Europe and the U.S. “Ultimately, we see the economic recovery continuing into 2021 amid a positive outlook for the business cycle,” Eitelman concluded.

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Any opinion expressed is that of Russell Investments, is not a statement of fact, is subject to change and does not constitute investment advice.