The rise in interest rates at the long end of the yield curve has come to a halt for the time being. This probably reflects the view that the Biden Administration’s infrastructure package will be financed primarily through tax increases. If implemented, the Administration’s plans would significantly worsen the international position of the US from a tax competition perspective. The good sentiment indicators in the US are due to booming stock markets. Never before have the real economy and stock markets been as linked as they are today.
Government spending continues unabated ….
President Biden wants to fundamentally modernize an outdated US infrastructure in the next 8 years and thereby strengthen the economy. Democrats tout the package as the largest job creation program since World War II. More than 30,000 kilometers of roads, over 10,000 bridges and dozens of airports and ports are to be substantially rehabilitated and expanded. Local public transport and electric mobility are to be promoted, and water supply and electricity grids are to be modernized.
State support programs will be set up for the research and development of green technologies, for electric and hydrogen powered vehicles, but also for the largely CO2-neutral nuclear industry.
Large parts of US infrastructure actually date back to the booming 1950s and 1960s and are now in poor condition. In total, the infrastructure packages are said to amount to around 2,200 billion US dollars.
…but a large part is to be financed by tax hikes
Critical for the outlook for long-term interest rates will be the extent to which this additional government spending will be financed by an increase in debt or from tax increases. Republican President Trump had cut the corporate tax rate from 35% to 21%. The Democrats’ plan is to raise it again to 28%. At the same time, tax loopholes are to be closed and the tax base expanded. A quote from the US President’s Pittsburgh speech: “A fireman and a teacher paying 22 percent? Amazon and 90 other major corporations are paying zero in Federal taxes? I’m going to put an end to that!” President Biden wants to introduce a minimum tax on international corporations. Subsidiaries of US companies operating abroad should pay a global minimum tax of 21%.
Bond markets can breathe a sigh of relief for now
While the last Corona bailout package, worth around $1,900 billion, is to be financed exclusively by new debt, the new package is to be financed primarily by the higher taxation of corporations and to a much lesser extent by a more progressive tax structure for personal income and new debt. The Tax Policy Center estimates that tax revenues would increase under the Administration’s plans by a total of about $1,300 billion over 10 years. That is why the bond markets could breathe a sigh of relief, with the rise in interest rates coming to a halt for now.
The infrastructure package will be harder to get through Congress than the March Covid-19 package
The Administration’s proposals now have to go to Congress and negotiations there, including with Democrat moderates, are likely to be more difficult than with the March Covid-19 bailout package. The Democrat moderate wing will only sign off on the package if its financing is “balanced” and does not involve too much new debt. (In total, the US has already financed “pandemic aid” to the tune of around $6,000 billion through new debt.) On the other hand, the Administration’s proposals do not go far enough in the view of leftist Democrats.
Reform of US social security still being worked on
The Administration is working on far-reaching reforms for US social security. This could cost around $2,000 billion and would focus on the following areas: childcare support, tax cuts for poorer families, free access to public colleges, as well increased Federal spending on health care and home support. The package is to be financed primarily through additional taxes on wealthy individuals, with an increase in marginal tax rates for households with an income of more than 400,000 dollars per year.
The international competitive position of the US would deteriorate
Given the financing requirements of the planned reforms, it is likely the US would lose much of its current international competitiveness from a tax perspective.
Good stock markets boost sentiment
US households have around 57% of their financial assets invested in equities, the highest proportion in the post-war period. At the same time, the percentage of US disposable income in financial assets matches the previous peak in 2000.
This means that the fate of the US consumer, and thus of the US and global economy, are more dependent on what happens in the US stock market than ever before. Price slumps on Wall Street would probably be far more damaging to the economy than usual. The Fed is fully aware of these correlations. Until the US economy has been seen to recover strongly and US GDP has exceeded its “pre-pandemic level”, the Fed can be expected to respond to major swoons in stock markets supplying stimulus and other support.
Contact: Thomas Härter, CIO, Investment Office
Telephone: +41 58 680 60 44
Disclaimer: Produced by Investment Center Aquila Ltd. Information and opinions contained in this document are gathered and derived from sources which we believe to be reliable. However, we can offer no under-taking, representation or guarantee, either expressly or implicitly, as to the reliability, completeness or correctness of these sources and the information pro-vided. All information is provided without any guarantees and without any explicit or tacit warranties. Information and opinions contained in this document are for information purposes only and shall not be construed as an offer, recommendation or solicitation to acquire or dispose of any investment instrument or to engage in any other trans action. Interested investors are strongly advised to consult with their Investment Adviser prior to taking any investment decision on the basis of this document in order to discuss and take into account their investment goals, financial situation, individual needs and constraints, risk profile and other information. We accept no liability for the accuracy, correctness and completeness of the information and opinions provided. To the extent permitted by law, we exclude all liability for direct, indirect or consequential damages, including loss of profit, arising from the published information.
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