US elections: A fiscal divide means fiscal tightening - CIBC

Analysts at CIBC, point out the legislative inaction will not translate into a non-event for the US economy in the final two years of Donald Trump’s first term. 

Key Quotes: 

“There is appetite on both sides of the aisle for a sorely needed boost to infrastructure spending, but politics and process might get in the way of quick progress. Democrats won’t want to prop up the economy heading into the first Tuesday of November in 2020, leaving them an incentive to stall on the timing of actual expenditures. And as we’ve seen in Canada, the concepts of “shovel ready” projects is more myth than reality. Lengthy permitting and design processes for federally funded infrastructure would likely mean that even if a bill is passed in 2019, the bulk of the activity could be reaching the economy in 2021 or later.”

“A Grand Canyon sized gap on fiscal policy likely means inaction legislatively, but that’s not a non-event economically. The boost to growth in 2018/19 from Trump’s tax bill and an equivalently scaled bump in federal spending that Congress passed will begin to fade in 2019, and drop off the map in 2020.”

“As we’ve seen in the past, a fiscal impasse can lead to budget belt tightening, particularly when we are coming off a period of elevated spending and higher deficits. A failure to achieve a new budgetary consensus would likely see spending revert to much slower growth under continuing resolutions. That’s what we saw after Obama’s first two years, and the result was that US fiscal policy tightened and kept a lid on growth in a period in which the jobless rate was still very elevated. There’s a risk of a bigger squeeze if Congress fails to approve an increase in the debt ceiling by March 7th, although that tactic backfired with the public when it was earlier deployed by Republicans during Clinton’s presidency, and we therefore view it as unlikely to be used.”

“We estimate that the fiscal path will amount to a roughly 1½% real GDP deceleration as a large boost to 2018 reverts to a small drag by 2020.As that becomes apparent through the budget process, the Fed will end up delivering fewer rate hikes in 2019 than the consensus currently predicts, and if the fiscal tightening is material enough, could see the Fed have to trim rates as early as 2020.”