investment insights
US political divisions threaten pandemic recovery plans
Lombard Odier Private Bank
Key takeaways
- Political polarisation is slowing an accord on US economic support programmes, with implications for the global recovery
- The Republicans’ and Democrats’ proposals overlap on around USD 1 trillion of spending
- The Fed has dropped inflation targeting, allowing it to continue loose monetary policy and keep providing support
- We expect a political compromise to enable a continued, if slow, US economic recovery.
The US responded quickly to the initial phase of the pandemic with support for workers and firms. As these initial programmes expire, more spending is proving politically divisive ahead of the presidential elections. A policy misstep would have terrible consequences for the US recovery, and a knock-on impact for the rest of the world.
Worldwide the pandemic curve is declining. However, the best of the economic recovery is already behind us. Without a vaccine, the virus will continue circulating, preventing economies from fully reaching their pre-pandemic levels of activity. Infection rates in the US, while declining since early August, remain persistently high (see chart).
While every economy is feeling the effects, America’s economy is especially suffering. The latest week of data in August saw another one million people file for first-time unemployment benefits. That adds up to 14.5 million jobless in the country, bringing the total number of Americans filing new unemployment claims at some point since 20 March this year to more than 58 million.
In March 2020, the US approved a USD 3 trillion package, known as the CARES Act. This, the largest economic rescue in the country’s history and equivalent to one-seventh of 2019’s gross domestic product, was approved with little debate. Since then, the Act’s impact has been the subject of debate between Republicans and Democrats. President Donald Trump said last week that one element, the ‘Paycheck Protection Program,’ (PPP) “saved over 50 million American jobs”; a contested claim. The PPP expired on 8 August without a consensus to extend its support for businesses and households.
Given the US economy’s dependence on consumer spending, any hit to incomes from the pandemic, coupled with falling fiscal support, could create the conditions for a double-dip recession. Any hint of such an outcome would have consequences far beyond slowing the US economy by undermining the global recovery.
HEALS or HEROES?
In the polarised world of US Congressional decisions, the Democrats and Republicans are arguing over what a replacement stimulus package should look like. A Democrat-sponsored fiscal spending package was approved by the House of Representatives in May. The ‘Health and Economic Recovery Omnibus Emergency Solutions’ or HEROES Act, is worth USD 3.4 trillion, slightly above March’s CARES Act. They have offered to cut that spending to reach a compromise and asked the Republicans to double their relief plan, known as the ‘Health, Economic Assistance, Liability Protection, and Schools’ or ‘HEALS’, from their initial USD 1 trillion proposal.
The HEROES Act proposes unemployment benefits at USD 600 per week, reinstating them to their level before 8 August. In comparison, HEALS would cap USD 200 per week, reflecting the Republican party’s argument that the jobless should not be paid more than those in work, as this reduces incentives for the unemployed to seek employment. Still, both support packages propose the same range of one-off stimulus cheques, starting at USD 1,200.
An eventual compromise looks likely. Lawmakers will be motivated by the persistent jobless numbers just two months before the Presidential elections. And both proposals include some continued payments plus stimulus cheques that would be enough to maintain personal incomes above their pre-pandemic levels.
US Treasury Secretary Steve Mnuchin said in July that, despite many differences, there is “fundamental agreement” on a USD 1 trillion package that includes distribution of USD 1,200 in stimulus cheques and the cuts to payroll taxes sought by Republicans. Looked at in a positive light, an eventual agreement worth at the very least USD 1 trillion, is still a significant spend.
Still, with the Senate only reconvening on 8 September after the Labor Day holiday, any solution to the current impasse will have to wait.
Fed evolution
Central banks have been key to the successes in responding to the pandemic in the form of market support with asset purchases and commitments to low interest rates.
In 1982, central bankers moved an annual gathering to Jackson Hole, Wyoming. Supposedly, the venue was chosen to tempt Paul Volcker, then Federal Reserve chairman, to attend for the fishing. This year there was no fishing at the meeting, which took place virtually around screens. On 27 August the current Fed chairman, Jerome Powell, announced that the central bank would drop its inflation target and instead let inflation average 2% over time. The Fed can now let inflation exceed 2%, in the expectation that it will boost growth, and setting the stage for continued monetary spending to support the economy.
The change, also mooted by the European Central Bank, looks like a logical evolution in the Fed’s mandate, and paves the way for keeping monetary conditions loose as long as needed to tackle the recession. This commitment to keep interest rates low also maintains pressure on the dollar against the euro.
Central banks will have to continue adjusting their policies as economies slowly return to normal. However, they will be keen to avoid any return to the austerity policies that followed the great financial crisis.
The US’s handling of the pandemic will keep political and social historians busy for decades. In the meantime, voters will deliver a verdict in November. The risk is that faced with the crisis of our lifetimes, political polarisation will slow or even stall the US recovery, harming prospects for economies globally. We fully expect a timely political compromise to enable a continued, if gradual, US economic recovery.
Wichtige Hinweise.
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