INSIGHTS

On April 29, 2021

Spotlight Shifts From Fed to Biden

No surprises from the Fed

Fed Chairman Jay Powell continued to follow the script, reiterating that the Fed will wait for more fundamental economic data to arrive (rather than relying on forecasts) before scaling back the central bank’s current monetary-easing measures.

He also continued to emphasize that the Fed sees the inevitable acceleration in inflation to be transitory (consistent with our own position), which the Fed will be prepared to look through.

Insight’s economic forecasts suggest this means a tapering announcement may arrive by the end of the year; tapering will likely occur over most of 2022 and the stage should be set for an initial rate hike in 2023.

The spotlight symbolically shifts from Powell to Biden

Perhaps fittingly, all eyes will now shift to President Biden, who delivered his first address to a joint session of Congress on April 28, 2021 to cap his first 100 days in office, where he unveiled the $1.8 trillion “American Families Plan.”

As such, markets will undoubtedly pay far more attention to Biden than to Powell, symbolic of how the 2010’s era of monetary policy dominance is making way for a new 2020’s era dominated by fiscal policy.

Monetary policy was the more active tool in addressing the 2008 global financial crisis (save for the initial Troubled Assets Relief Program – TARP – package) and has since sustained the recovery even as the fiscal deficit shrank. Markets have been trained to read the tea leaves coming from Fed speakers but will now need to shift their focus to the halls of Congress.

In 2020, we saw U.S. monetary and fiscal policy work together in response to the pandemic, with an unprecedented expansion of the Fed’s balance sheet and over $3.3 trillion in collective fiscal support from the Trump Administration’s Coronavirus Aid, Relief, and Economic Security (CARES) Act, and subsequent measures, followed by $1.9 trillion from the Biden Administration’s American Rescue Act. Collectively, these already amount to half of the spending of the New Deal in GDP terms (Figure 1).

Figure 1: Fiscal stimulus is the most aggressive since the New Deal

Source: Insight Investment, Federal Bank of St Louis and Deutsche Bank as of end of March 2021.

The most aggressive fiscal stimulus plan in at least 50 years

President Biden has additionally proposed a $2.2 trillion infrastructure program and proposed another $1.8 trillion in social spending for middle- and lower-income families, against $2 trillion in tax increases on corporations and wealthier, higher-income Americans.

Together, these proposals are the broadest and largest measures since at least the Lyndon B. Johnson Administration in the 1960s.

The effect of fiscal stimulus on GDP

We believe Biden’s proposals will be pared back somewhat. We anticipate about $2.5-$3 trillion in new spending over a decade with about $1 trillion in tax increases.

We estimate that past stimulus measures and new infrastructure programs will significantly improve U.S. economic growth at least through to 2023. This underpins our forecast for U.S. GDP to end 2022 higher than the pre-COVID-19 trend (Figure 2).

Figure 2: Insight’s estimate of the GDP impact of fiscal stimulus*

*Insight opinions expressed herein are as of April 28, 2021 and are subject to change without notice. Insight assumes no responsibility to update such information or to notify an investor of any changes.

As these proposals include more spending than tax increases (year-by-year), we expect the effect will be positive for near-term growth. The spending will also put the U.S. on a path for a sustained fiscal deficit of over $1.5 trillion per year.

However, while much of this spending is temporary, the tax increases are permanent. That raises the risk that fiscal stimulus-fueled growth will be something of a “sugar high” that fades after 2022, if higher tax rates reduce consumption and business investment, thereby limiting productivity growth.

While the vaccination drive and economic reopening should help power accelerating economic growth and inflation over the near term, the longer-term outlook remains highly uncertain. We simply have to wait to see if fiscal policy can deliver the lasting economic impact that monetary policy largely failed to over the last decade.    

In the coming months, we will increasingly be focusing on negotiations over Biden’s proposals, which will likely have larger market and economic impacts than the Fed’s meetings.

CRN: 2021-0407-9080R

The opinions and views of this commentary are that of Insight Investment as of April 28, 2021 and are not necessarily that of Advisors Asset Management.

This commentary is for informational purposes only. All investments are subject to risk and past performance is no guarantee of future results. Please see the Disclosures webpage for additional risk information at commentary-disclosures. For additional commentary or financial resources, please visit www.aamlive.com.