As economists at MUFG Bank note, the main event risk for financial markets at the start of the New Year is tomorrow’s run-offs for the two Senate seats in Georgia which will prove pivotal for the balance of power in Congress. Democrats need to win both contests to obtain effective control of the upper chamber and enact their stimulus policies that markets want.
Heading into the run-offs in Georgia, long-term US yields remain close to recent highs and are set to rise if Democrats take both seats.
Key quotes
“If the Republicans win one or both Georgia seats, they will retain a slim majority in the Senate. If the Democrats prevail in both seats, however, there will be a 50:50 split in the Senate, giving incoming Vice President Kamala Harris the tie-breaking vote.”
“According to US polling experts at FiveThirtyEight, the latest polls show an exceptionally close race for both seats. Democrat Raphael Warnock had a narrow lead of around 0.5% over Republican Senator Kelly Loeffler. On the other hand, Republican Senator David Perdue has an equally slim lead over Democrat Jon Ossoff. FiveThirtyEight concluded that the race is close enough that the possibility of a split verdict – most likely with Perdue winning but not Loeffler – may be higher than most people assume.”
“One of the biggest market reactions is likely to be in the US Treasury market if the Democrats exceed expectations and take both seats. It would open the door to a much bigger fiscal stimulus package under incoming President Joe Biden which would increase upward pressure on US yields in the year ahead and could increase the risk of another taper tantrum like event later in the year when the US economy expands more strongly after vaccines have been implemented. At that point, market participants may start to question more seriously whether the Fed’s unprecedented policy easing is still required.”
“In the short-term, the prospect of US fiscal stimulus is likely to be welcomed by risk assets as it would help to strengthen the global recovery. It should ensure that the US dollar continues to weaken for now even if US yields move higher. In contrast, the market reaction should be limited in the Republicans hold on to control of the Senate.”
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