Rule the World
….S&P hits resistance. Nasdaq hits a record. Pro-growth agenda hits a wall. AHCA 2.0 back on the table. Mnuchin talks tax reform, reality might be tougher.
Financial Review by Sinclair Noe for 04-20-2017
DOW + 184 = 20,589
SPX + 18 = 2357
NAS + 57 = 5920
RUT + 13 = 1381
10 Y + .05 = 2.25%
OIL – .02 = 50.42
GOLD + 1.40 = 1282.70
Each day this week, the Dow has posted triple digit moves: 2 down, 2 up. The Dow is still about 100 points below its 50-day moving average. The S&P 500 broke above its 50-day moving average intraday but closed just a fraction below the trendline; and that is why it is called resistance. Still volume increased today, so we wait for confirmation tomorrow. If you are looking for leadership, the Nasdaq Composite closed at a record high. Bonds slipped today, pushing yields on the 10-year not back up to 2.25%, which still seems low, considering the Fed claims the economy is strong enough to support higher rates.
Since the last FOMC meeting, a key inflation indicator fell for the first time since January 2010, the March nonfarm payrolls report significantly missed Wall Street expectations. Today the Labor Department reported initial claims for state unemployment benefits increased 10,000 to a seasonally adjusted 244,000 for the week ended April 15. Other data showed factory activity in the mid-Atlantic region slowed in April amid a pullback in new orders and shipments. The Atlanta Fed now expects the economy to show growth of just 0.5 percent for the first quarter.
On top of that, President Trump’s pro-growth agenda has hit a bit of a wall in Congress. Tax reform was supposed to follow closely on the heels of healthcare reform, but repeal and replace suffered a crash and burn. But today, repeal and replace is back on the table. GOP moderates and conservatives are nearing a deal on health care that in theory could get the Republican alternative to the Affordable Care Act out of the House and over to the Senate. The changes also might move Republicans even further away from passage ― no one really knows. Leadership is expected to discuss the amendment on a conference call this Saturday with GOP members, but public opinion might also affect the landscape. Republicans are trying to say their amendment will cover people with pre-existing conditions ― because, first, the legislation still claims those people can’t be denied coverage, and second, because there will be high-risk pools for those people if insurance costs dramatically go up for them. The reality, however, is that insurers would be able to effectively deny coverage by pricing sick people out of the market. Those concerns may be significant enough that the deal does not win over moderates. The concessions also might not be enough for some conservatives, who have expressed issue with Republicans establishing an advance refundable tax credit to help pay for insurance. The amendment wouldn’t seem to address the big concerns moderates have expressed ― like raising the cap on how much insurers can charge seniors or cutting $880 billion from Medicaid. With Republicans effectively going back on their repeated promises to guarantee coverage for people with pre-existing conditions, the amendment could lose a number of Republicans who already supported the legislation. In short, even though the Tuesday Group and the Freedom Caucus think they have a deal, Republicans writ large might have nothing.
Once social programs are passed into law, it is famously difficult to undo them. But the fact that the GOP has evolved into a cross-class coalition with an increasingly blue-collar flavor is clearly playing a role. If Republican lawmakers are going to replace Obamacare, they’re going to have to make sure that it covers almost as many people, because if it doesn’t, there’s going to be hell to pay from newly minted Republicans. The GOP 2.0 version of the American Health Care Act has about as much appeal as the original AHCA, or maybe less. It’s still a big tax cut for the rich, a hit to pocketbooks of older and more rural voters, and less generous than what recipients had received under Obamacare. At least that is the best estimate now – there is no legislative text at this time. We don’t yet know if version 2.0 has fixed some of the earlier problems and if the fix is enough to flip votes. And if it crashes and burns again, it won’t inspire much confidence in the administration’s tax reform plans.
Treasury Secretary Steven Mnuchin said the Trump administration is close to bringing forward “major tax reform.” Mnuchin, who this week backed off of his earlier goal of passing tax reform by August, said the White House will unveil a plan “very soon.” Time for a quick trip down memory lane. A tax reform plan was supposedly imminent when President Trump met with airline executives at the White House on Feb. 9. “We’re way ahead of schedule,” Trump said then. “We’re going to be announcing something, I would say, over the next two or three weeks that will be phenomenal in terms of tax.” Nearly 10 weeks later, Trump told a crowd in Wisconsin on Tuesday a plan was “coming along very well” and would be out “very soon.” So, today Mnuchin got the memo and stated tax reform is close. Except, it probably isn’t. First, lawmakers will need to figure out if tax reform is going to increase the deficit; that means it needs to be scored by the Congressional Budget office.
On the sidelines of the International Monetary Fund and World Bank spring meetings in Washington today, Treasury Secretary Mnuchin said: “Some of the lowering in (tax) rates is going to be offset by less deductions and simpler taxes, but the majority of it will be made up by what we believe is fundamentally growth and dynamic scoring.”
Dynamic scoring is a little-known government forecasting method that skirts Senate fiscal rules by using economic modeling to predict changes in revenues resulting from economic growth spurred by new tax and economic policies. In other words, tax cuts will spur such strong growth, in the range of 3% to 4%, that the government will take in more revenue, even at lower rates. If, however, economic growth does not zoom forward, the result would be a massive hit to the deficit and higher debt burdens.
Eliminating tax deductions and credits is easy to talk about but difficult to do because each one has a coalition in Congress or an interest group or industry fighting to keep it there. For individuals, the House GOP blueprint would eliminate nearly all personal deductions and credits and replace them with a significantly increased standard deduction and flatter, lower tax brackets. Instead of taking the standard deduction, people could choose to deduct mortgage interest and charitable contributions. Reducing the tax benefits for making donations to charity would stir up religious groups, however. And eliminating or reducing the benefit of owning rather than renting a home by changing the mortgage interest deduction would be vigorously opposed by powerful lobbies for home builders and realtors.
Eliminating an existing deduction for state and local taxes, for example, would mean taxpayers in states with high state income or property taxes, such as California, New York and New Jersey, would get a much smaller benefit, if any, from an increased standard deduction and lower rates.
The House Ways and Means Committee may have a hearing next week on “border adjustment,” a change to corporate taxes that is a key piece of a “blueprint” unveiled in June by the House GOP because it is expected to raise $1 trillion to offset lost revenue from lowering corporate rates. The border adjustment tax or BAT relies on a massive increase in the strength of the dollar to offset what is essentially a tariff. The BAT would levy a 20 percent tax on imported goods and would allegedly raise over a trillion dollars of revenue over the next decade. A better name might be the Consumer Tax. If the dollar ever did show about a 25% increase needed to offset the tax, the result would make American exports ridiculously expensive – essentially shutting down exports. If and when the dollar does not show a massive increase, the cost of the BAT would be passed on to consumers. Additionally, a BAT would lead to fewer jobs and higher unemployment. Increased consumer costs and fewer exports would translate into more Americans out of work.
Beyond that, nobody really knows what tax reform is being proposed. Only after the plan is finalized can the debate begin. There is a chance tax reform could get quick approval. Keep in mind that Republicans could make use of the budget reconciliation process to pass a tax bill on a party-line vote if they’re so inclined. No, the problem is that while Republicans might agree on the virtues of tax-cutting in theory, they’re finding it awfully difficult to craft a tax overhaul they can agree on in practice.
Turns out that tax reform is complicated and good tax reform might be too much to expect, and the fear of this daunting challenge may require compromise, and the easiest form of compromise in Washington would be “corporate-only tax reform”, after all, corporate lobbyists would be more than happy to write the legislation for the legislators. Beware if you hear the president and members of Congress claiming, in the days ahead, that corporate-only reform is the way to go because it’s “clean,” “simple” and “good for jobs.” Probably true. But corporate-only tax relief is also cronyism. It’s Wall Street over Main Street.
Meanwhile, Congress is on recess; they return to Washington next week. Congress faces a looming deadline by April 28: funding the federal government. If no new funding bill is passed by next Friday, parts of the federal government will shut down. The White House and Congress are considering passage of a one-week extension on funding in order to hash out a more considered funding bill and possibly give the House time to take up the AHCA. This is the one thing Washington is good at – kick the can down the road.