Regardless of the election outcome, expect limited U.S. policy changes in 2021
It’s no secret that uncertainty is public enemy number one to the stock market. Above all else, markets detest the unknown. Not convinced? Look no further than this past March, when the S&P 500® Index tumbled nearly 35% in just over a month as one of the most unpredictable events of our lifetimes—the coronavirus pandemic1—quickly engulfed the world.
It’s hardly a surprise, then, that with less than two months to go until Election Day in the U.S., the nation is abuzz about the possibility of renewed market uncertainty come November—especially if the Democratic party wins control of both Congress and the White House. And, in normal times, these concerns wouldn’t be unfounded.
After all, a win by Joe Biden over Donald Trump, coupled with a Democratic majority in both the Senate and the House of Representatives—both plausible scenarios2—would make for a very different political landscape in Washington, D.C., next year. A different political landscape, of course, typically means different policies and priorities from government leaders—and in the eyes of the market, different means uncertainty. Uncertainty over what current policies might be unwound, uncertainty over what new reforms might be enacted, uncertainty over the degree of change coming down the pike. Regardless of whether the Democratic or Republican party is in control, market uncertainty is typically sky–high during this time.
But these are not normal times. The coronavirus pandemic has upended daily life as we know it, and despite the swift rebound in markets, the U.S. economy has a very long way to go in its recovery. Of the 22 million jobs lost due to widespread lockdowns in the spring, the U.S. has recovered only about half.3 Unemployment remains stubbornly high at 8.4%—more than double February’s 3.5% reading. Many schools remain closed to
in–person learning4, and approximately 24% of the U.S. workforce is still working from home.5 In addition, even in a best–case scenario, a vaccine is probably still a few months away.
The long and short of all this? Over the next 12 months, we believe that the U.S. economy will be influenced far more by the outcome of the COVID–19 crisis than by any new policies or proposals. Put another way, we think that COVID–19 will likely lead to increased policy stability in the U.S. through much of 2021, regardless of any changes to the political makeup in Washington.
To fully understand why, let’s dig under the covers a bit.
A politician’s priority: To get re-elected
There's a simple truth inherent in politics: no matter the role nor the level of government, the number–one job is almost always to get re-elected. Simply put, politicians don’t get re-elected by negatively impacting the economy. And, at a time when the American economy is in an extremely vulnerable state, the risks of pushing bold, sweeping proposals through Congress are simply too high for most politicians to get behind.
Sure, a politician may believe that a drastic new policy will supercharge the nation’s economic recovery—but what if this new policy were to backfire and inflict additional economic carnage instead? The politician—and others who helped pass the dramatic new law—wouldn’t get re-elected, plain and simple.
This is precisely why we don’t expect any radical policy changes come January 2021, even if a unified Democratic government takes control in Washington. Until the COVID–19 crisis has passed, the political liabilities of supporting bold, dramatic reforms are too great.
In addition, the economic uncertainty stemming from the pandemic further limits the political wiggle room among members of Congress. Why? We believe that the economic fallout from this crisis is likely to persist for another 12 months, regardless of whether there’s a vaccine by year–end or not. Bear in mind that even if a vaccine is approved by then, it will still need to be manufactured, distributed and administered to approximately 328 million Americans—an immense undertaking unprecedented in our nation’s history.
If we’re right, this would leave just 12 remaining months for three–quarters of those elected to Congress—that is, all of the members of the House of Representatives, whose terms last just two years—to focus on other priorities before facing re-election. That’s a seriously compressed timeline in which to enact meaningful change.
The politics of a thin majority often leads to inaction
It’s important to understand that a Democratic takeover of Congress, if it were to occur, would likely be by fairly narrow margins. Republicans currently hold a three–seat advantage (53-47) in the Senate, and we believe it’s unlikely that the Democrats will flip more than five seats in November. This means that, if the party were to assume control of the Senate, it would have anywhere from a 52-48 edge to a 50-50 tie—in which case a Biden win would be required in order for Democratic vice-presidential candidate Kamala Harris to cast the tiebreaking vote for her party. In other words, if the Democrats do take the Senate, it will be by a razor–thin majority, no matter how you slice it.
It’s also vital to keep in mind that any seats the Democrats do pick up are likely to be highly contested seats from states typically not considered very progressive—such as Arizona, Colorado, North Carolina, Iowa and Montana. This means that any newly minted Democratic senator would likely be more centrist in nature—and therefore much less apt to support any dramatic new legislation.
Unsurprisingly, the politics of a thin majority often yields little in the way of change. As proof, look no further than the 115th Congress, where the Republican party controlled both the Senate and the House during the first two years of President Trump’s term. After pressing for a repeal of Obamacare for years, the party was unable to overturn the former president’s signature healthcare act, despite two years of a unified government. As is often the case, the headwinds of a fragile governing majority proved to be too much to overcome.
Biden’s tax proposals: Mostly moderate in scope?
It’s worth pointing out that most of the initial tax proposals put forth by Biden are fairly moderate in scope. For instance, the Democratic presidential nominee’s plan calls for raising the corporate income tax to 28%6—up from today’s rate of 21%, but still significantly lower than the 35% rate that existed prior to the Tax Cuts and Jobs Act (TCJA) of 2017. It’s also important to note that the 28% figure is Biden’s opening
bid—and in politics, you usually don’t get your opening bid. We expect that number to be negotiated down further should Biden win the presidency. Keep in mind that if the economy still appears to be highly vulnerable in early 2021, there’s a chance Biden will not even push for changes at all. While this is not our base–case scenario, it’s also not out of the question.
While Biden’s plan also calls for an increase in the individual income tax rate, that increase—from 37% to 39.6%—would only apply to individuals making more than US$400,000 a year.7 Importantly, the proposed 39.6% rate would be the same rate that applied to top income earners prior to the passage of the TCJA.
The one major proposal by Biden in this arena involves the capital gains tax. If elected, the former vice president’s plan calls for taxing long–term capital gains at a rate of 39.6%—the same rate that he would tax ordinary income—for individuals with incomes greater than US$1 million.8 Currently, the top capital gains tax rate is 23.8%, so this would equate to a massive increase. However, the consensus among tax experts is that this increase would lead to just a 0.1% drop in future U.S. GDP (gross domestic product) growth—in other words, not a substantial hit by any means.
The bottom line
As the countdown to Election Day intensifies, there’s little doubt that U.S. investors will continue to be buffeted by unnerving headlines from both sides of the political spectrum. But the basic reality is this: The U.S. government is purposively designed to make it difficult to get big things done. Even a unified political party only has two years to enact meaningful change—and that’s in normal times. Trying to pass bold, drastic reforms amid a once–in–a–century pandemic?Forget about it.
1 Source: https://www.cnbc.com/2020/08/17/stock-market-futures-open-to-close-news.html 2 Source: https://projects.fivethirtyeight.com/polls/president-general/
3 Source: https://www.marketwatch.com/story/us-regains-14-million-jobs-in-august-and-unemployment-drops-to-84-as-economic-recovery-shows-resilience-2020-09-04
4 Source: https://edition.cnn.com/2020/07/01/us/coronavirus-schools-reopening-wellness/index.html
5 Source: https://www.bls.gov/news.release/pdf/empsit.pdf 6 Source: https://www.wsj.com/articles/biden-tax-plan-targets-profitable-companies-that-pay-almost-nothing-11595848477
7 Source: https://taxfoundation.org/joe-biden-tax-plan-2020/ 8 Source: https://www.wsj.com/articles/capital-gains-tax-rate-chasm-separates-trump-biden-11597409062