Next Chapter

We are post-election. Now we can focus on arguing about things like whether to roast or deep fry the turkey.

In a reversal from the 2022 midterms, we got a red wave. Republicans will control the White House, the Senate, 53 to 47, and they just recently secured their 219th seat in the House, giving them a majority in both chambers. So, smooth sailing for the new agenda. Correct?

Not so fast.

Yes, there will be changes, and yes, they will impact the economy and financial markets. But one shouldn't assume quick, easy, and full manifestation of the incoming administration's agenda. The Republican majority is by no means a unified decision-making body. There are divergent and conflicting views within the leadership. Meaning, it may not be as easy for President Trump to get through his agenda in the form he wishes.

That said, let's focus on the potential policy changes for Trump's second term and the potential economic and financial market impacts. We'll look at taxes, tariffs, higher federal debt, and immigration reform.

Starting with taxes, changes to tax policy under Trump will put more money in consumer and corporate bank accounts. Higher-income households should see a larger relative benefit. Spending will likely increase, as will corporate profits.

Charts 1 & 2, 1:42— In addition to income tax rates, long-term capital gains rates could drop as part of Trump's tax overhaul, further putting more money in investors' pockets. He has proposed further lowering the corporate tax rate from the current 21% level, perhaps down to as low as 15%. Over time, these forces can be inflationary, which increases the probability of higher interest rates higher than we previously expected.

Charts 3 & 4, 2:10— Trump has proposed significant increases in tariffs on foreign imports. Such increases could offset some of the aforementioned tax benefits, particularly for individuals. Estimates are shown in the chart on the left comparing the after-tax income impact of proposed taxes and tariffs. Lower-income households would feel a relatively greater negative impact.

Charts 5 & 6, 2:37— Moving to the third item, the federal debt. Now, regardless of the outcome of the election, we were likely going to see the debt increase. It remains to be seen whether cost savings from government reform, combined with revenue from tariffs, will offset the reduction in revenue from tax cuts. But fiscal policy will be in a stimulative mode. The debt is still manageable for now, and the level is consistent with that of other developed nations. As a reminder, a decade-long shift has moved our debt mostly into domestic hands, with foreign holders now accounting for about one third.

Chart 7, 3:16— Finally, we shift to immigration reform — a high-priority item for the incoming administration. There are various scenarios. as depicted here, but the takeaway is that immigration reform will have an impact on the labor force as the population changes. Fewer workers generally means lower GDP. Larger hits to the labor force can be inflationary initially, but eventually deflationary if aggregate demand drops.

Chart 8, 3:47— This chart serves as a good summary in terms of the possible impacts to economic growth, inflation, interest rates, and corporate profits. Trade and tax policy could lead to higher inflation and interest rates. Anticipated inflation pressures could stall or reverse the downward path we've experienced this year. As a result, interest rate forecasts may need to be revised higher. Policy may also increase growth. And we are likely to see an increase in government debt.

Expectations for future moves by the Fed have already started to adjust. There is now some debate over whether we will see another rate cut at the December meeting. In addition, expectations for the duration of this current cutting cycle are being trimmed, with some expecting the Fed to stop cutting in mid-2025.

Obviously, there’s a lot to monitor as the new administration takes shape leading up to Inauguration Day — and, after that, as we see how much of the agenda gets through in the first 100 days and over the first year. For now, the underlying fundamentals remain strong, and we believe the U.S. remains the best market.