Biden’s fiscal program: What is the likely market impact?

As the presidential election approaches, a key issue for investors is what fiscal policy will look like if Joe Biden wins.

Until recently, it has been difficult to piece the Democratic nominee’s program together from occasional news stories. But a comprehensive report on Biden’s proposed budget was released by the Penn Wharton Budget Model (PWBM) this week that gives people a better idea of what to expect.

Specifically, Biden’s proposal is estimated by PWBM to increase federal spending by $5.4 trillion over the next 10 years. If enacted, it would increase federal spending to 24 percent of GDP by 2030 from 21 percent in 2019.

A Wall Street Journal article quotes Kent Smetters, who oversees the project, as saying: “This is the largest proposed spending increase by a presidential candidate since George McGovern.” 

Yet markets do not seem overly concerned by this prospect. One reason is that federal outlays this year alone have increased by nearly $4 trillion to counter the coronavirus pandemic. Moreover, Congress is deliberating on whether to expand the CARES Act. In this context, investors appear numb to the amount of government spending in the works. 

For its part, the Trump campaign has portrayed Biden as beholden to the far left.  However, the outlays in Biden’s plan are a small fraction of the $30 trillion to $50 trillion proposals that Sens. Bernie Sanders (I-Vt.) and Elizabeth Warren (D-Mass.) laid out in their campaigns. In doing so, Biden is signaling to the electorate that he is not unduly swayed by far-left Democrats.

One concession to progressives is that Biden’s plan includes two years of debt-free college for all students and free public college for those from low-income families. Other spending priorities include green infrastructure projects and increased R&D for clean energy and technology. Spending on these areas is projected to total $3.5 trillion over ten years. 

Biden’s plan for health care is directed at improving access to it while decreasing costs. Key provisions include lowering the Medicare eligibility age from 65 to 60 years and expanding the Affordable Care Act (ACA) insurance market places.  They are estimated by PWBM to increase health care spending by $1.6 trillion.

The proposals for lowering costs include having Medicare negotiate drug prices with pharmaceutical companies and allowing consumers to import drugs from abroad. These initiatives are estimated to reduce health care costs by $1.25 trillion, which would result in net health care spending increasing by about $350 billion over 10 years.     

To help finance the increased federal spending, Biden would roll back the Tax Cut and Jobs Act (TCJA) enacted in December 2017. The corporate tax rate would be increased from 21 percent to 28 percent, while the rate on foreign profits would be increased and a minimum tax on corporate book income would be imposed.

On the personal side, households with adjusted gross income (AGI) of $400,000 or less would not see their taxes increase directly. Those above this threshold (the top 1.5 percent of households) would face an average decrease in after-tax income of 17.7 percent.  

Thus far, investors appear inclined to await the actual election results before responding to prospective policies. In this regard, they have little to go on in assessing what President Trump would do if he is reelected: Trump’s campaign does not include a formal platform, although Trump is on record as favoring further tax cuts.

So, where does this leave the electorate? My take is that the choice being offered in the 2020 elections is between a tax-hike-and-spend plan put forth by Biden versus a tax-cut-and-spend plan by Trump. 

In either event, prospective budget deficits are likely to be higher than the path they were on prior to the coronavirus pandemic. Yet, the bond market is unfazed by this outcome. One reason is inflation has been unusually low. In fact, the Federal Reserve has been compelled to alter its strategy to achieve a targeted average annual rate of inflation of 2 percent. At this week’s Federal Open Market Committee (FOMC) meeting, the Fed signaled that rates could stay near zero for several years. 

Another reason is that business capital spending has been soft since 2018. In the wake of the escalating trade war between the U.S. and China, businesses were reluctant to add to plant and equipment. Instead, they used the windfall from the Trump tax cuts to increase dividends and make share repurchases. As a result, government spending has not “crowded out” private investment. 

In these circumstances, increased government spending is unlikely to generate substantially higher Treasury bond yields.

By comparison, there is a greater risk of a stock market sell-off if Biden wins.  One reason is that the increase in corporate tax rates is estimated to cut after-tax earnings per share of S&P 500 companies by about 12 percent, according to Goldman Sachs.

Another consideration is individuals may opt to sell stocks and pay capital gains taxes at the existing rate for capital gains, which is below the rate that the Biden plan proposes. That said, any sell-off could be short-lived as investors refocus on prospects for the economy.

In the end, therefore, voters may be forced to decide which policies are best for the country and for their own personal interests.  

Nick Sargen is chief economist at Fort Washington Investment Advisors and a lecturer at the University of Virginia Darden School of Business.