Waiting For The Trump Fiscal Stimulus To Hit? Forget About 2017

That the market has soared since the Trump election on hopes of a fiscal stimulus splurge, sending the Dow Jones to just 300 points away from 20,000 is by now familiar to most. However, what few may realize is that even in a best case scenario, one where Congress does not throw up on Trump's vague stimulus plan which is expected to add as much as $5 trillion to the already soaring US debt, little if any of the actual spending and economic boost will take place in 2017.

As Goldman writes in a note from this morning, "most market participants appear to be expecting fiscal policy to become more expansionary next year, but the timing of such a shift remains unclear." In fact, according to Goldman calculations, the most likely phase in period is the very end of 2017, if not early 2018 at the earliest, to wit: "Our preliminary expectation is that the growth effects from looser fiscal policy would be concentrated in Q4 2017 and the first half of 2018."

In our view, there are three factors that will influence the timing of any fiscal boost. First, the legislative process will take months, at least, and could push some priorities like tax cuts to the second half of 2017. Second, implementation can take longer, particularly if it involves a new program, as might be the case regarding infrastructure. Third, once a policy change has been made and implemented, it can take time for economic activity to respond; consumers might initially save some of their tax windfall before spending, and infrastructure spending can take several quarters after contracts are signed.

What does the timing depend on? Goldman says that the key variables are how long it takes tax legislation to become law, and whether Congress legislates a prolonged phase-in or implements the full tax cut in the first year. The 1981 and 2001 tax cuts were both phased in over multiple years, for example.

The left panel of Exhibit 1 shows the prior tax cuts, as a share of GDP, using the revenue estimate of the final legislation published by the Joint Tax Committee, and counting the projected reduction in revenues as a share of projected GDP at the time. The right panel shows the same data on a year-on-year basis. Neither tax cut had a substantial effect in the year of enactment; the 1981 tax cut barely affected tax liabilities payable in 1981 at all, and had a modest effect in 1982, but was projected to have a much larger effect thereafter. The 2001 tax cut provided a bit more of an upfront boost in the first year, in part because of the rebate checks sent to households to refund some taxes paid earlier in the year. Nevertheless, because the tax cut was designed to phase in over a few years, the year-on-year reduction in tax liabilities was slightly greater in 2002 than in 2001, and the effect continued to build more slowly for a few more years (Congress ended up passing additional legislation to accelerate the implementation of the tax cuts in 2003).

Exhibit 1: Tax Cuts: Some Phase-in Expected


Then there are Infrastructure and federal spending.

On the former, the lags are often quite long; it took several years to spend the funds allocated to infrastructure in the Recovery Act, for example. On the latter, a boost to defense spending looks likely sometime between Q2 and Q4 2017, but this may be partly offset with cuts to non-defense spending in the same timeframe. Some more details:

The Trump Administration appears likely to focus on infrastructure among several competing priorities, and we have penciled in $25 billion per year into our forecast to account for this. We expect very little of this spending to show up in 2017, for three reasons.

  • First, it is not clear how the legislative process for infrastructure will unfold over the coming year, but it seems unlikely to us that legislation establishing a new program would be enacted into law before mid-year. 
  • Second, it is unclear what channel new funding would run through, but a new financing scheme involving tax credits, tax-preferred debt, loan guarantees, or other mechanisms to incentivize public-private partnerships seems most likely. 
  • Third, it takes time for contracts to turn into spending. Exhibit 2 shows the timing of “obligations” of transportation-related infrastructure funding following enactment of ARRA, and the timing of the actual spending that resulted from those contracts.

Exhibit 2: Infrastructure takes time to build up

Looking at Federal spending, Goldman notes that the composition will change more than the amount, also providing little direct stimulus:

Lawmakers will once again need to decide whether to raise the caps on spending imposed by the Budget Control Act of 2011, related to sequestration. The last agreement, reached in late 2015, raised the caps on discretionary spending for fiscal years 2016 and 2017, but in 2018 the cap on spending will decline in nominal terms (Exhibit 3). Our expectation is that this cut will once again be avoided, though the odds of an increase similar to the 2013 and 2015 deals have actually declined as a result of the election, since many congressional Republicans support maintaining the caps and reallocating funding within them. What seems likely at this point is that defense spending will receive a boost, and that most of the cut to defense resulting from the sequestration-related caps will be reversed. By contrast, it would be surprising to see non-defense discretionary spending rise above the level called for under the caps.

Exhibit 3: Another budget deal in 2017?

 

Then there is the expected effect of Obamacare “repeal and replace” which Goldman says is less clear, "but seems likely to provide a modest net stimulus in the near term—potentially as soon as Q2 2017—as a result of the likely repeal of the taxes used to pay for some of the program." Other changes are likely but seem unlikely to be implemented until 2019.

Republican leaders in Congress have indicated they plan to consider legislation in January that would repeal most aspects of the ACA, but the effective date would be delayed until some point in the future. Our expectation is that the repeal of the existing subsidy system might not become effective until 2019, at which point a replacement program would probably be implemented (that replacement program is expected to be considered separate from repeal, at some later date).

So while most of the benefits from the Obamacare repeal will take place in 2019, there is one exception, and that is likely to be the taxes used in part to finance the new subsidies. House Republicans and President-elect Trump have proposed to repeal these taxes, which is why a repeal would likely become effective upon enactment. If so, this would result in a modest tax cut by Q2, mainly for high income earners and health care companies. Most of Americans would, again, be left out in the cold.

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Applying these assumptions, suggests to Goldman that - assuming all goes according to Trump's tentative plan - the US will enjoy only a slight federal fiscal boost in most of 2017, rising to +0.4–0.5pp in Q4 2017 and Q1 2018, before fading slightly to around +0.25pp in the remainder of 2018.

The chart below summarizes Goldman's overall estimates for the boost to GDP growth from fiscal policy. The bottom line is that anyone who expects a bif bounce in economic growth from Trump's policies will have to wait until 2018 at the earliest... assuming the US does not slide into recession first.