Clinton? Dole? Potato-Potahto When It Comes to Investments
Lyndon Johnson’s Great Society program was going to obliterate poverty. Gerald Ford planned to “Whip Inflation Now.” Jimmy Carter demanded the “moral equivalent of war” (quickly dubbed MEOW) to end America’s dangerous dependence on Arab oil.
None of those programs succeeded, of course. Yet the Republic still stands. The U.S. economy has mushroomed to 13 times its 1960 size in nominal dollars. And the stock market--well, who needs to be reminded what the stock market has done?
As election season kicks into high gear, investors will be barraged with predictions of either abundant prosperity or certain ruin ahead, depending on which party they choose to run the White House and the Congress.
Yet perhaps more than ever before, the question to be asked is whether it really matters to financial markets whether Democrats or Republicans are in power. Can a government determine whether a $7-trillion economy is successful or not?
This is not about being a skeptic or a cynic as much as it is about being a realist. Many investment pros say they have plenty of things to worry about but that the federal government increasingly isn’t one of them.
“Hardly at all, if ever,” says Kent Simons, co-manager of the Neuberger & Berman Guardian stock fund in New York, when asked how often he and his peers discuss Democratic and Republican economic ideas in the context of stock picking.
In part, that is because of a remarkable convergence of political opinion: As President Clinton and Republican challenger Bob Dole themselves point out, there aren’t gigantic differences between them on many economic issues. Both talk about freer trade, faster job growth, low inflation. Clinton signed the massive welfare reform bill, once unthinkable for a Democratic president.
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But for investors, far more important than the government’s plans is where the U.S. economy is in the inevitable cycle of growth and recession, a cycle the government itself can generally affect only at the margin.
Certainly, in the big things that governments can do--start or end wars, for example--the influence on the economy and markets can be huge. When Clinton talked of nationalized health care in 1992, it was enough to crush drug company stocks for two years. Defense stocks suffered in the early ‘90s as federal defense spending slowed.
For the overall economy, however, the pet policies of any president or Congress amount to tweaking. Thankfully, the giant U.S. economy has its own rhythm, its own momentum.
Whether Clinton or Dole is elected, the greater concern in financial markets now is that the economy’s 5 1/2-year-old expansion is long in the tooth and that its surprising acceleration this year is taunting the Federal Reserve Board--which, remember, is officially outside the control of the government--to tighten credit.
That’s what the bond market seemed to be saying last week, as the benchmark 30-year Treasury bond yield soared to 7.12%, up from 6.77% two weeks ago.
The Fed, if it indeed raises interest rates soon, will be trying to engineer another “soft landing,” dampening economic growth without causing recession.
But in practice, the Fed historically has terminated many economic expansions by boosting interest rates, much to the chagrin of the sitting president and Congress. The central bank’s defenders would argue that the Fed merely facilitates the natural, and necessary, cycle: After strong growth, a recession is a cleansing process that wrings out dangerous “excesses” in the economy and sets the stage for healthy new growth.
Where presidents happen to be on the economic continuum often determines their place in history.
“It’s largely the cycle--they [presidents] either take credit for it or get blamed for it,” notes James Midanek, a principal at Solon Asset Management in Walnut Creek, Calif.
George Bush, for example, was blamed for the job losses and corporate restructuring wave that followed the 1990-91 recession, but after the long 1980s economic expansion, a period of consolidation was hardly shocking.
Likewise, Clinton takes credit for the job gains of the last three years, but they could be considered the natural dividend of a revitalized (i.e., post-recession) economy, one boosted by the productivity-enhancing steps that U.S. businesses undertook not because of federal policy, but because there was little choice in an increasingly competitive and interconnected global economy.
Today, the issue that preoccupies both political parties is the idea of a balanced federal budget. The public demands it. Clinton and Dole both predict they can get there by early in the next century.
But for stock prices and interest rates, is a balanced budget, or lack thereof, a factor of overriding importance? Recall that the extraordinary budget deficits of the 1980s were supposed to bring economic catastrophe, hyper-inflation, sky-high interest rates. Not quite.
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What’s more, the deficit this year, estimated to be $117 billion, will be the lowest since 1981. As a percentage of the U.S. gross domestic product, it will be a mere 1.7%. Thanks in large part to the economy’s growth, the deficit has become a relative pittance, though of course the total federal debt remains a monolithic $5.1 trillion.
For some investors, the fear is that Dole’s ambitious tax-cut proposal, if enacted, would cause the deficit to balloon again, at a time when the truly critical federal issue--reining in the long-term growth of Medicare, Medicaid and Social Security benefits--will demand more, not less, fiscal responsibility in Washington.
Perhaps the day will finally come when our debt mountain crushes us, when bond yields soar because global investors balk at buying the securities of a spendthrift, when stock prices plummet because there is no faith in our economy’s long-run potential.
The lesson of the last 55 years, however, is that stock and bond investors should be far less worried about political promises or the size of next year’s budget deficit and much more concerned whether the economy’s natural cycle currently is working for or against them.
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Red Ink R Us
The federal government has balanced its budget in just eight of the last 55 years. Yet the surge in deficits over the past 15 years has seemingly had no correlation with inflation, which has fallen. Net federal deficits per five-year periods (in billions of dollars), the deficit as a percentage of total U.S. gross domestic product in each period, and the average inflation rate:
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Net Pct. of Inflation Period deficit avg. GDP rate 1940-44 -$130.5 89.8% 5.1% 1945-49 -47.1 20.4% 6.1% 1950-54 -6.2 1.9% 2.5% 1955-59 -11.3 2.6% 1.9% 1960-64 -20.8 3.7% 1.3% 1965-69 -35.7 4.5% 3.8% 1970-74 -70.2 6.0% 6.7% 1975-79 -295.2 14.6% 8.2% 1980-84 -674.0 21.4% 6.4% 1985-89 -891.0 19.7% 3.5% 1990-94 -1,239.3 20.7% 3.4%
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Inflation measure is consumer price index.
Source: Economic Report of the President
