Are Biden tax hikes more redistribution of profits than a headwind for equities?

22 Mar, 2021 01:11
source: Macro Business

Singularity Financial Hong Kong March 22, 2020 – Will Biden tax hikes kill the stock market? (Macro Business, By David Llewellyn-Smith)

The Biden Admininsatrion has already delivered a much larger fiscal support package than anybody in markets predicted. It did so by using the US Budget Reconciliation process which enables Dems to bypass Republican loons in the senate and their favourite tactic of filibustering. The Budget Reconciliation process only requires 50 votes to pass not the typical 60 needed in day-to-day senate bills. It is the same process that the Trump Administration used to pass its egregious corporate tax cuts.

BR can only be enacted once per fiscal year. But in the US that year runs from October. So, owing to the timing of the election, the Biden Administration has the chance to run a second package through BR to commence in October this year. Effectively two BR processes for 2021.

Which is precisely what is going to happen. I anticipate that the second fiscal package, based around infrastructure, will again be larger than most pundits expect. After all, this will the big one for the Dems, their great roll of the dice to kill Donald Trump for good. If they can put a fiscal tailwind behind the US economy such that it grows like clockwork at 4% for years, and wage rises follow, then Trumpism will collapse into the fog of history as he ages into the next election and hopefully dies before the following. Though a withered 83 mango will be enough to kill him politically regardless.

But, the package will still need to be funded. We have still not fully transitioned to an MMT world so some of that is going to have to come from tax hikes. Marvelously, the traditionally left Biden Administration plans to hit the wealthy and corporations with tax hikes to do it, which is another terrific blow to the inequality that gave rise to Donald Trump in the first place.

Goldman mulls the outcome today:

Our economists expect the next package will be paid for in part by higher tax rates, including on corporate earnings. The tax plan proposed by President Biden in his election campaign would raise the statutory corporate tax rate on domestic income from 21% to 28%, partially reversing the cut from a rate of 35% passed in the 2017 Tax Cuts and Jobs Act. The plan would also raise the tax rate on foreign income (also called the “GILTI” tax) and institute a minimum corporate tax rate.

We estimate the Biden tax plan would reduce 2022 S&P500 EPS by about 9%. However, our economists believe Congress will pass a smaller increase. Our current $197 EPS estimate assumes the statutory rate rises to 25%, representing a 3% dragon earnings. A hike to a rate above 25% or the passage of other proposals like the GILTI tax hike would represent downside risk to our estimate. Alternatively, hikes implemented with a phase-in period could spread the earnings hit across multiple years, but investors would likely price the full impact as soon as it becomes clear.

Within the equity market, the relative winners and losers of the next fiscal package will depend on the specific provisions. Traditional infrastructure investment would benefit industrial and construction materials companies, while green investment would expand the winners to include renewable energy companies. With regard to corporate tax reform, increases to the domestic statutory rate would primarily affect companies with high domestic business exposure and effective rates close to the statutory rate, which were the primary beneficiaries of the 2017 tax cuts. In sector terms, this includes Financials, Industrials, and Consumer firms. In contrast, proposals like a minimum tax rate on foreign earnings pose the greatest risk to low-tax “growth” sectors like Info Tech and Health Care and would have a much smaller impact on domestic-facing sectors (see Exhibit 2).

The taxman cometh

The taxman cometh

My own expectations are for:

  • A package in the upper half of the $2-4tr mooted spending range.
  • A staged removal of Trump tax cuts to mitigate the impact.
  • Capital gains tax hikes which will make little long-term difference to equities.
  • Probably a heavier blow to foreign-derived income than domestic as a way to tackle big tech.
  • A not overly onerous package of tax hikes but one large enough to have a political impact at the margin passed entirely though BR no bipartisanship.

For me, the key is the money is to be invested into productivity-enhancing infrastructure which will lift US incomes and profits anyway. Remember, US infrastructure decay is severe after years of Republican stoopid:

No more secular stagnation

No more secular stagnation

Hence, the tax hikes are more redistribution of profits than they are a general headwind for equities and the overall market should not suffer.

The Biden Administration is literally going to build a giant, productive national monument over the grave of Donald Trump and force the rich to pay for it.