“If there is one part of the narrative that leaves me feeling naked and afraid, it is the story out of D.C.”, Peter Tchir told Bloomberg late last week, as the S&P notched a third weekly advance despite rampant uncertainty around the fate of stalled stimulus talks.
Admittedly, it is a bit odd that US equities continued their relentless grind higher once it became clear that Congress would not be able to reach an agreement on the next virus relief package. While the base case for many is still that something gets done, it now seems eminently possible that the discussion is subsumed into wider talks around government funding, potentially complicating both as the end of the fiscal year approaches.
One unnerving aspect of this situation is that the market appears to be leaning on the assumption that the finite nature of the federal unemployment supplement from Donald Trump’s executive order and the need to pass a budget by the end of the fiscal year, will guarantee another stimulus deal gets done, while the political baggage that would come with a shutdown will ensure funding talks are handled expeditiously (or whatever counts as “expeditiously” inside the Beltway these days).
However analytically sound, that entire rationale revolves around the notion that absent overlapping deadlines and fear of being blamed for brinksmanship with just weeks to go before the election, Congress is paralyzed and incapable of legislating.
Read more: Stalemates And Stagflation
One key takeaway from the linked post (above) was that the GOP may be leaning on record-high stock prices and incrementally better economic data to effectively bridge the gap between what Democrats say is necessary to support Main Street (at least $2 trillion) and what Republicans say is a more “reasonable” figure (ideally, no more than $1 trillion, but potentially up to $1.5 trillion).
The problem, obviously, is that Main Street by and large doesn’t care much about stocks, because their finances aren’t tethered to equity prices. Rather, their finances depend on wages. Wages are generally associated with jobs. And, although you wouldn’t know it to listen to the vice president chat with Sean Hannity, the US is still deep in the hole (by around 13 million jobs) compared to pre-pandemic levels.
Colloquially speaking, the blue bars demonstrate that the recovery’s momentum is dissipating despite the fact that all three post-April jobs reports beat estimates.
That deceleration means the green-shaded area is likely to settle somewhere far below 100%. That, in turn, means structurally higher unemployment. With structurally higher unemployment comes reduced consumer spending, which translates into lower growth.
That is not a certainty, but it certainly seems like the most probable outcome. I know of no one who believes the US labor market will recover completely in the near-term.
Over the weekend, during remarks delivered at a briefing in Bedminster, Trump said if there’s any justice in the world, he’ll be reelected based on the numbers America is putting up both on the economic front, and in the fight against COVID-19.
“If I win, which I hope to win — how can you not when you see numbers like this both on the virus and the economy?”, he wondered. “We should win, we should all keep this incredible thing going”.
There was a time when “beyond parody” was a helpful way to describe the apparent detachment from reality sometimes exhibited by the president, but that description seems to fall woefully short in this scenario.
The “numbers” are objectively bad. As of Sunday morning, 169,489 Americans had died from COVID-19. That is a macabre statistic. The country is coming out of the worst quarter for the economy in the entire history of modern economic statistics. Trump, of course, insists that things are getting better on both fronts, but even if you believe that narrative, it is impossible to watch that clip and not come away incredulous at how tone deaf it is.
“After three weeks of absolutely no deal… why not come to the table personally and sit with [Nancy Pelosi and Chuck Schumer]?”, a reporter asked Trump, during the same briefing.
“We’ve gotten everything we want. We’ve also got a great economy. All you have to do is look at these charts”, Trump said, waving his hand at a set of slides showing the rebound in activity following the pandemic plunge in March and April.
“Nobody knows the deal better than I do”, he continued. “The country is doing very well right now. We can live very happily with [stimulus] or without”.
Not to put too fine a point on it, but no Fed official would agree with any part of that assessment. The economy is not “doing very well right now”. Neither is the country in a more general sense.
The kind of obstinance on display at Bedminster over the weekend should unnerve investors — especially with stocks perched at record highs and trading at dot-com multiples.
One almost gets the impression that America has resigned itself to the notion that this will be the country’s reality for the foreseeable future — that the fight over the postal service and mail-in ballots clearly telegraphs the president’s intent to sow enough doubt about the voting process to ensure he can contest the results.
“You’re not going to know [the results of the election] for months or for years”, he said. “Because these ballots are all gonna be lost, they’re gonna be gone”.
The president also suggested he may ask his entire cabinet to resign at the beginning of a hypothetical second term.
It’s hard to imagine how traders and investors could possibly view this situation as anything other than terrifying unless market participants are subconsciously accepting the idea that even if Trump simply decides to stay in office, election results be damned, Steve Mnuchin and the Fed will just prop up the economy and engineer outcomes in equities, credit and, crucially, rates.
Earlier this month, I suggested Mnuchin and Jerome Powell are effectively serving as a technocratic caretaker government. At this point, I’d venture that investors are, consciously or not, banking on that in perpetuity.
While it’s obviously true that the figure (below) captures the effect of legislation (only Congress can spend), the fact that Mnuchin is the linchpin in negotiations between the The White House and Congress, and the fact that the Fed is underwriting the spending (at arm’s length, for now), suggests that eventually, if things were to get too precarious, Mnuchin would strike a deal with Democrats, leading to more borrowing. If that ended up triggering an uncomfortable rise in long-term borrowing costs for the country, the Fed would likely buy more bonds at the long-end of the curve to keep things under control.
What this suggests is that while Trump and Congress are still part of the equation and are nominally the ones making the decisions, it is Mnuchin and the Fed who are instrumental in ensuring that partisan rancor and the president’s refusal to meet in person with the Democratic leadership, don’t ultimately crash the economy and deep-six the entire system.
One gets the distinct impression that markets care very little about what Trump or lawmakers have to say, because at the end of the day, they aren’t the ones maintaining the system. Rather, they are just actors in what is now an absurd soap opera that has almost no meaning for asset prices, even as it portends the imminent demise of American democracy.
In the same vein, I’m beginning to wonder if markets actually take seriously the prospect of a Democratic win in November. While betting markets show the odds of such an outcome are high, there’s no shortage of commentary suggesting that investors and traders don’t seem to be prepared for higher corporate taxes and other cornerstones of a Democratic agenda which would almost mechanically entail a de-rating in equities (as earnings estimates fall to account for larger corporate tax bills, for example).
At an apparent loss for words, analysts often resort to nebulous explanations. For example, some models attempt to build in an earnings boost from less contentious foreign policy under a Joe Biden administration and/or from a normalization of domestic politics. But you can’t quantify either of those two things. You can quantify the hit from higher corporate taxes, though, and it’s not priced in. Neither are bonds pricing in a Democratic sweep — if they were, yields would be higher.
What, then, are markets pricing? Perhaps (just perhaps) markets believe that Trump isn’t going anywhere. Investors may believe that irrespective of how the country votes, he will be the executive in perpetuity. In Bedminster over the weekend, he appeared to confirm that Mark Esper is out after the election. There is little question that Trump would prefer to install someone at the Pentagon who demonstrates the same fealty as William Barr exhibits at the Justice Department. That would be difficult, but not impossible, and if it happens, it would mark the end of democracy in America for the foreseeable future.
Against that backdrop, it would be left to Treasury and the Fed to ensure that the country’s latest turn for autocratic rule didn’t undermine the economy and markets. That job is much easier when you print the world’s reserve currency and, relatedly, when your central bank is effectively the world’s central bank.
“If you just think in terms of the economy, [it’s] strengthened by the fiscal soundness of state and local government [and] a bigger infusion of federal dollars into helping… people so they can spend”, Nancy Pelosi said late last week, during an interview with MSNBC.
“We know that the Fed is shoring up the credit markets so that [stocks] can soar”, she continued. “Maybe that’s a good idea, but why can’t we spend trillions of dollars to shore up America’s working families?”
Well, Nancy, you can — when Steve Mnuchin decides things are looking so shaky that stimulus is needed immediately and that Trump’s gimmicks and “Band-Aids” (as Mohamed El-Erian called the president’s executive orders) aren’t enough.
It is possible that, even in the event American democracy is literally suspended, market participants would look the other way absent a reason to believe asset prices will be allowed to reflect political reality.
Commenting further on the election Saturday, Trump indicated he’s still planning to let it go forward — you know, to keep up appearances.
“We are going to have an election that takes place on a beautiful day, November 3”, he said.