Inauguration Day. What's Next.

Jan 20, 2021

I’ve been thinking and thinking and am not so sure of what to make of the crazy times we are living in. I thought maybe we can think together some more.

Economic growth or decline is the result of factors that are much greater than anyone's administration or any one set of policies. Of course, specific policies such as tax changes or regulatory initiatives can influence the economy depending on how they are designed, but they will not change the macro-momentum. The recession that began in February 2020 most likely ended in July 2020.To no one’s surprise (let's all roll our eyes together) there has not been an official declaration, to that effect,  from the National Bureau of Economic Research.

Based on third quarter GDP estimates of 33.1% growth, it is almost certain that the recession is over. Annualized growth in the first quarter of 2020 was negative 5.0%. The second quarter produced a negative 31.4%. The third quarter produced a growth of positive 33.1%. We won’t have the official numbers for fourth quarter growth until late January, but the best estimates as of now, are growth of about 6% - 7%. Both the second quarter decline and the third quarter recovery were the highest annualized figures for decline and growth ever recorded in U.S. history. While third quarter growth was impressive, it was working off a much lower base as a result of the second quarter decline. That 31.1% gain has to be applied to a base that was only about 65% of the level of 2019 output because of the declines in the first and second quarters. 

That third quarter gain would put output back up to about 87% of that level and a further fourth quarter gain of 5% would take annual GDP up to 93% of the 2019 level. That still leaves an estimated 7% decline in GDP for the full year 2020, the worst full year decline in GDP since 1946 when growth declined 11.6% due to the demobilization after World War II. During the worst full year of the Great Depression (1932), growth fell 12.9%. The year 2020 marks an historic and traumatic decline in growth of a kind only seen in the context of depression or war.

Hmm? Is it a new depression? This is above my paygrade. I will leave that answer  to smarter people. I’d rather play the Powerball.

A change in tax structure may add some $$$ for growth to the Federal coffers, but it will not stop a strong economy in its tracks. On the other hand, a tax cut, extended unemployment benefits or a COVID relief check may be a boost for a weak economy, but they will not end a recession single-handedly.

Growth and recession are driven by larger events such as demographics, globalization, war, inflation, deflation and pandemics. Large changes in fiscal or monetary policy are the only policies that may or may not move the needle in any direction.

So, what’s the outlook for 2021? Will a  new recession rear its ugly head? Is the economy  likely headed into another technical recession? This would present the first double-dip recession since 1980-1981 when a second recession began (July 1981) almost exactly one year after the prior recession ended (July 1980). A reason could be the imposition of new lockdown requirements by governors in most major states or other unforeseen circumstances. Again who knows. If I did I would definitely play the Powerball.

The new direction will have a long term positive impact for construction related industries, independent power producers, renewable energy sector, pollution control industries, managed care and healthcare and new regulatory action may hurt internet retail, hardware and interactive media.

Investors may be encouraged by new all-time highs in the stock market, but the stock market indices are cap-weighted or formatted in favor of a small number of tech or digital economy companies (Amazon, Apple, Netflix, Microsoft, Facebook, Alphabet (Google) and a few others). These companies are least affected (some helped) by the pandemic and are not representative of the overall U.S. economy. Over 45% of GDP and 50% of all jobs are produced by small-and-medium sized businesses. These businesses include restaurants, bars, salons, gyms, dry cleaners, bodegas, boutique stores, small manufacturers and many others.

This is the part of the economy most affected by the lockdowns. Many closings are no longer temporary but have become permanent as businesses fail, equipment is dumped at fire sale prices, job losses are not recovered, leases are broken and empty storefronts become a sign of the times. So...that takes us to the new “news” ; THE PRESIDENCY.

The new President officially takes office today on January 20th. With both Congress and Senate under the control of the President, the new economic policies will impact everyday life in the near future significantly. It will be interesting to monitor the implications of the potential changes on the economy. 

Here are a few things that will impact the economy. What will be the impact of new policies on capital markets? What are your thoughts?

COVID Relief Measures

The President announced another stimulus package including checks to individuals, funding for every American to receive the COVID vaccines, more funding for testing, a moratorium on evictions, direct funding for businesses, and state and local financial aid. He wants to vaccinate 100 million Americans by the end of his first 100 days in office. The additional stimulus and wide-spread vaccination should help the economy to recover and provide another boost to the stock markets. Travel, hospitality, restaurant, retail and entertainment industries are likely to outperform as more and more people get vaccinated. The degree of impact will depend on the speed and success rate of vaccinations not only in the US but globally.

Tax Hikes

Part of Biden’s tax plan is to create a more progressive tax code and increase taxes on the wealthy and corporations. The highest individual income tax rate could rise from 37% to 39.6%, and the corporate income tax rate would move higher from 21% to 28%. A minimum 15% tax on book income of large companies (at least $100 million net income per year) would also be imposed, and tax on profits from foreign subsidiaries of US firms would be at 21%. There are pros and cons to both arguments. Higher taxes provide greater fiscal capacity and imply greater access to resources needed to provide public goods and services (I am not not sure why no one is talking about paying down debt?) but it  may also impact economic growth by reducing corporate profits, and negatively impacting  financial performance. What will be the impact of lobbying? It is anyone’s guess, but low unemployment and the ongoing COVID pandemic may help to postpone the potential tax hikes.

 

Federal Minimum Wage

The President plans to raise the federal minimum wage to $15 per hour. A $15 minimum wage would increase income for low wage employees and could potentially result in  increased consumer prices, increased labor costs and reduce the profitability of businesses. A recent study by the Congressional Budget Office, entitled “The Effects on Employment and Family Income of Increasing the Federal Minimum Wage,” was conducted to determine how increasing the federal minimum wage from $7.25 to $10, $12 or $15 per hour by 2025 would affect employment and family income. The conclusion was that increasing the federal minimum wage would have two major impacts on low-wage workers: earnings would increase for many, which would lift some families out of poverty. However, other low-wage workers could become jobless, their  income would drop and it could place them below the poverty threshold. Businesses would adjust by reducing the worked hours or by eliminating positions. Companies are proactive. Many fast food and retail operations have or are in the process of replacing employees with automated systems (fast food, retail, travel). Seattle’s move to $15 per hour, a few years ago, resulted in workers given fewer hours and experiencing a net loss in pay.

 

Trade Policies

Biden indicates that he will uphold international trade rules that protect workers and the environment and encourage fair competition and innovation. He may seek a more cooperative approach instead of starting new trade wars. Overall, his policies would be more consistent and predictable. The Impact on the stock market may be favorable. Investors would be less nervous, as trade policies become less volatile. However,  It remains to be seen how the new administration will deal with those tariffs and protect jobs here at home.

Healthcare

Biden’s healthcare plan is to strengthen the Affordable Care Act by offering public options and increasing healthcare coverage for many more Americans. He does not support Medicare-for-all or the elimination of private insurance. The plan is likely to benefit the pharma industry and medical insurance providers as more coverage means more paying customers. It may also increase the cost of medical benefits for employees and companies.

Environmental Policies

Biden plans to create environmental sustainability in the economy and to set the US economy on a path to net-zero carbon emissions by 2050 with $2 trillion investments over his first term. His plan has many components such as updating decaying infrastructure, providing each American city with 100,000 or more residents with high-quality, zero-emissions public transportation, upgrading 4 million buildings, and reducing the cost of clean energy. The new policies will speed up the evolution and growth of a young industry potentially creating new jobs. Green energy and clean tech companies are likely to benefit tremendously from those policies. 

The plan is to spend $1.3 trillion on infrastructure over a decade. This includes $50 billion in his first year in office on repairing roads, highways, and bridges, $20 billion on rural broadband infrastructure, $400 billion over 10 years on a federal new agency to conduct clean energy research and innovation, $5 billion over five years on electric car battery technology, and $10 billion over 10 years on transit projects that serve high-poverty areas.

The greatest clarity post election is for trade.US foreign policy will enter a more predictable phase without the escalating tariff threats.

USD may decline (Yellen says “ US does not seek a weaker currency to gain a competitive advantage”) with rising emerging markets as highly likely pushed by strengthened Asian currencies.

 

As far as I am concerned, I will stay in the moment and I will not react to satisfy the emotional urge that comes with the current situation. If I were a long-term investor, I may consider opportunities to invest in durable growth trends like digitization, global payments and renewable energy. More cautious investors should consider alternatives to cash that may leave them better positioned to reach their goals. Short-term bond funds are one option with their history of greater stability and higher potential returns than cash. Or is it time to be more aggressive? Time will tell.

In the meantime I will focus on trading. I always say “ leave the noise out ” and focus on what you can control. You control your trading.

 

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