President Biden, Treasury Secretary Yellen and Fed Chair Powell have been united in wanting to run the US economy hot. The President hoped that a few months of stronger controls to tackle the virus coupled with a fast vaccine rollout would enable him to reap the harvest of a progressive relaxation with subsiding CV-19 infections and deaths. Instead, he has presided over another wave of the disease and had to continue with some virus headwinds. Despite all the money printing at $120bn a month, and the continued fiscal stimulus from the President’s additional American Jobs programme, US growth slowed this summer and faces a few more hurdles.
At the same time obstacles have started to emerge to the policy of running hot. The Fed itself is hinting at reducing the rate of new dollar creation quite soon and pointing to possible interest rate rises next year. The Republicans have found their voice and have, as so often in opposition, opted for more fiscal restraint. Some commentators and some moderate Democrats think you can have too much stimulus and are warning about the more exotic expansion plans.
The centre piece of this autumn is meant to be a further massive stimulus from more public spending. There is the $1tn infrastructure package agreed with the Republicans, and there is the large $3.5tn wish list of extra spending pencilled in for a Democrat-only approval by both the House and the Senate. This includes expanding Medicare, increasing Child Credit and expanding the role of government in family life and incomes.
Some moderate Democrats are worried that this is too large a spending proposal. Most Democrats agree they need to tell the public how it will be paid for, and accept it cannot wholly or largely be borrowed. There is at headline level a willingness to tax the rich more to pay for a substantial portion of the budget plan, so they can say they are being responsible and prudent. At a detailed level, some Democrats think the tax rises go too far, and some think there is still an unacceptable gap between spending and revenue. Some $2tn of the $3.5tn is said to be accounted for by actual tax rises, whilst the rest is said to be largely covered by a mixture of some spending reductions and faster growth yielding more revenue.
The tax plan so far comprises a substantial rise in corporation tax on profits of over $5m from 21% to 26.5%. It targets all earners over $400,000 a year - or the top 2%. The top rate of tax would rise from 37% to 39.6%. They would also face a higher rate of capital gains tax at 25% with fewer offsets. The Democrats seem to have fallen short of a wealth tax or of taxing capital gains on death. There is also a wish to increase tobacco taxes, which violates the campaign promise that no one under $400,000 a year will be worse off from tax rises. There are also issues over tax to be paid by small business entrepreneurs who may be well below $400,000 a year of personal income. All this may be revised in further discussions.
The Senate will want to press on with this, as the left have been promised that they will be able to vote on both the Democrat budget and the bipartisan infrastructure close together, as they see it as a joint package for them. The final deal has not been published and may yet be subject to more revision and argument. So far, the Democrat moderates are concerned about the overall scale and the incidence of some of the tax rises. All of them will need to vote for the final budget in the Senate if it is to carry.
The markets may not have fully discounted the tax impact on the corporate sector, where it is a negative. The tax demands will also blunt any reflationary impact of the extra spending. As the whole plan does shift income from richer to poorer people, it may provide a modest boost to spending. All this discussion points to us having seen the best of the recovery in markets and warns us that, despite bigger public spending, the combined effects of higher taxes and less money easing will continue the slowdown of the growth rate.
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