By Philip Marey, Senior US Strategist at Rabobank
The US election results are coming in slowly and are likely to be contested. This will reduce the legitimacy of the president that will be sworn in in January and further fuel the social unrest.
The difference between a second term Trump and a first term Biden could hyperbolically be characterized as an ‘Emperor’ versus a ‘Prime Minister’. In the US context this means that neither Congress nor re-election concerns will restrict Trump’s foreign and trade policies. In contrast, Biden’s policies both at home and abroad will have to keep a broad and shaky coalition happy and together.
Foreign and trade policy will remain focused on meeting the challenge of China as the main rival of the US. While Trump will continue his bilateral approach, Biden is likely to return to a multilateral approach. However, both have electoral incentives to be tough on China.
Fiscal policy will depend on the outcome of the elections for the Senate and the House of Representatives. If the Republicans control one of the two and the Democrats the other, gridlock will continue, no matter who becomes President. This means limited fiscal stimulus and limited changes in tax and spending policies. In contrast, a Blue Wave in Congress and a Biden presidency would lead to a large fiscal stimulus in 2021Q1, tax hikes and heavy federal government spending.
The US elections are developing in line with our baseline scenario: the results are coming in slowly and the outcome is likely to be contested. At time of writing, it may still take days before a winner of the presidential elections is announced and we may not know who takes the Senate until early January. At least, it appears likely that the Democrats retain their majority in the House of Representatives.
As the quick and decisive Biden victory priced in yesterday did not materialize, the 10y US treasury yield fell back today. In addition to safe haven flows a large fiscal stimulus is being priced out as the joint probability of a Biden victory and a Democratic Senate has fallen considerably. Since the Democrats are likely to remain in control of the House of Representatives we seem to be heading for two more years of ‘divided government’. This means gridlock and little lawmaking on the domestic front. No big fiscal stimulus near-term and no expansive fiscal policy in the coming years. This means that whoever becomes president will primarily be able to make policy internationally.
As we discussed in Economy or identity? Trump’s support has remained stable and insensitive to economic data or his handling of Covid-19. Instead, for most Trump voters it is identity that matters. And it has also proven a powerful incentive to get out and vote. Hence Trump was right in approaching this election as a ’turnout election’ instead of a ‘persuasion election.’ In contrast, Democrats, the mainstream media and economists continue to believe in the myth that left wing economic policies will bring back white blue collar workers to the Democratic Party.
Red Mirage and Blue Shift
While fair elections are crucial to any democracy, in the US both main political parties show little trust in the elections. Republicans often claim that voter fraud takes place which should be prevented by restrictions to voting. In turn, Democrats assert that these measures are aimed at voter suppression. The problem is that unlike other major democracies, the US electoral process is not organized by a neutral body. What’s more, people are not automatically registered as voters. In fact, the US has a long history of voter suppression that goes back to the nineteenth century when Southern states started to suppress black voters after the Fifteenth Amendment guaranteed their right to vote in 1870. And this was voter suppression by the Democratic Party by the way.
President Trump’s assault on voting by mail may also be seen in light of voter suppression. He tried to get his voters to go to the polls instead of mailing in their votes and give him an early lead. This then would put him in a stronger position to claim fraud when the results from the mail-in ballots are announced and give Biden a late boost. Voter suppression is more effective if you know in which pocket you can find more voters of the other party and fewer of your own party. This time it will be in the mail. Therefore we are likely to see a pattern in the election results as they are announced over time. A ‘red mirage’ would give Trump an early lead on Election Night, but a ‘blue shift’ will slowly benefit Biden in the overtime count. While Trump has already announced he will not concede, Biden is likely to wait out the blue shift. In other words, an early concession seems unlikely. In fact, we may not see any concession at all. Instead, the loser is likely to contest the results.
While there are few actual convictions of voter fraud, there are numerous cases of incompetence in the electoral process. Of course, this is damaging to the credibility of the elections. Since this incompetence tends to occur in large cities, run by Democrats, this fuels the Republican claims of voter fraud. Meanwhile, the mutual distrust between Republicans and Democrats are fuelled by America’s enemies. Finally, the rhetoric from both parties about the elections does little to boost confidence in their fairness. President Trump has already decided that the 2020 elections are rigged and he will not accept defeat. Meanwhile, the Democrats have spurred their voters to produce an overwhelming majority to prevent all kinds of nightmare scenarios. In vain as it seems now. How much trust in the fairness of the election outcome are voters supposed to have if this is what the two main political parties are telling them?
As the elections are close we are likely see a lot of market volatility and safe haven flows in the coming days. This against a background of a Covid-19 resurgence and ongoing civil unrest. Since the outcome is likely to be contested, the uncertainty may last even longer. This will only amplify the ongoing civil unrest. No matter who is sworn in as president on January 20, his legitimacy will be challenged. Meanwhile, foreign adversaries such as the Russians, Chinese and Iranians, are likely to amplify the mutual distrust through cyber warfare. As we concluded in Civil unrest, no matter who wins the elections, the turbulence in US politics and society is not likely to pass. In fact, what we are seeing now may be only the beginning.
The Emperor and the Prime Minister
When it comes to foreign and trade policy, the US President has considerable policy discretion. The options for the Senate or the House of Representatives to restrain the President are limited. We have already seen how Trump has shifted US foreign and trade policy during his first term. However, we have to keep in mind that his decisions were taken with his re-election chances in 2020 in mind. If he wins a second term, he will no longer be restrained by this. In other words, we may see a Trump 2.0 who will use the full power of the executive office. Meanwhile, he has reshaped the Republican Party in his own image. Therefore we could hyperbolically characterize Trump’s style of governing in his second term as that of an ‘Emperor’.
This stands in sharp contrast to a Biden presidency. If we look at the primaries then it is clear that Biden’s mandate is limited. He struggled in predominantly white states and was saved by black voters in South Carolina. Biden will have to keep a broad coalition happy and together, ranging from centrists to democratic socialists. In order to carry out the Democratic agenda, he will have to think about the 2022 midterm elections. What’s more, he will have to think of the 2024 elections, if not for himself then for his running mate Kamala Harris. In this sense, Biden’s position and style will be that of a ‘Prime Minister’, the complete opposite of Trump 2.0.
While the US is heavily polarized on domestic topics, there is a broad consensus that China is a problem. According to the Pew Center, the percentage of survey respondents who say they have an unfavorable opinion of China has risen in the last 15 years from a minority to a majority. And this is true of Democrats and Republicans, even though Republicans always score higher than Democrats on this topic. Therefore, foreign and trade policy will remain focused on meeting the challenge of China as the main rival of the US. While Trump will continue his bilateral approach, Biden is likely to return to a multilateral approach. However, both have electoral incentives to be tough on China. Financial markets would welcome Biden’s foreign and trade policies. In contrast, Trump’s confrontational international adventures remain a cause for concern.
Turning to fiscal policy, the outcome of the Senate elections is crucial. After all, decisions about spending and taxation are made by Congress. Biden and a Blue Wave in Congress would make a large fiscal stimulus in 2021Q1 very likely. That would have a positive impact on longer-term interest rates and equity prices. On the other hand, once the economy has recovered it would also bring tax hikes and increased regulation. This would have a negative impact on rates and stock prices. Moreover, Democratic rule would benefit and harm a different set of sectors than Republican rule. For example, infrastructure spending under Biden would focus on clean energy, while his regulation will be aimed at fossil energy.
In contrast, if Republicans keep their majority in the Senate (or instead get one in the House of Representatives), Congress will remain divided and gridlocked. This means slow fiscal decision making and limited size fiscal impulses. Only another impending implosion of the economy could get them to another CARES Act. Meanwhile, Republicans are likely to block a Democratic surge in regulation, aided by an overwhelmingly conservative Supreme Court.
We are still waiting for the outcome of the presidential elections and the full results for the Senate. Will the Blue Shift be large enough to overcome the Red Mirage? While markets are trying to discount which combination of president and Senate will prevail – assuming the Democrats remain in control of the House of Representatives – and what this means for asset prices, political instability in the US is rising. The social unrest of 2020 is likely to continue into 2021 and could very well be accompanied by a rise in political violence. This could start to erode consumer confidence and the business climate.