Author: Mr. X
Speaker of the House Nancy Pelosi isn’t exactly most people’s model of ferocity. Though her political skills are undeniable, she’s always come off as more of a strategist than a drill sergeant. When she slights her political rivals, she acts in a passive-aggressive way, with an ingrained sense of superiority. Remember this?
Suddenly, she sounds like a football coach. Speaker Pelosi said the Democrats face a “time of intensity,” with three must pass bills for the majority party. These include raising the debt ceiling to prevent a default, passing a $1.2 trillion infrastructure bill that enjoys bipartisan support, and passing a Democrats-only $3.5 trillion bill that consists mostly of spending on social programs.
The Democrats met yesterday to plot strategy. The Speaker wants to make sure that she has her caucus united before any votes. “I’m never bringing a bill to the floor that doesn’t have the votes,” she said. She’s also conceded that it is “self-evident” that the $3.5 trillion will probably have to be cut somewhat.
The Democrats must pass these bills if they want a chance in the midterms. The stakes couldn’t be higher politically. President Joe Biden’s approval rating is at 46%, as he is suffering from the aftermath of the defeat in Afghanistan, rising concerns about inflation, and the continuing pandemic. The Democrats are also divided internally, with some progressives threatening to block the bipartisan bill if there is not a guarantee to support the second, much larger social services bill.
The GOP evidently smells blood in the water, which is why it is taking an obstructionist approach. The GOP is blocking a vote on raising the debt ceiling, but also claims that it does not want a government shutdown.
Of course, when dealing with politicians, don’t listen to what they say, but find out where their interests lie. A recent poll from Politico/Morning Consult found that 36% of Americans would blame both parties equally for a shutdown, 32% would blame Democrats, and 24% would blame Republicans. A plurality (39%) would also blame both parties equally if there’s a default, but Democrats still would get more of the blame (31%) than Republicans (20%). That’s not much of an advantage for the GOP, but if more voters aren’t blaming Republicans, few in the minority party are risking anything by taking a stand against an unpopular president.
Still, President Biden may be politically stronger than he appears. The same poll showed that a truly overwhelming number of voters either support the bipartisan infrastructure package or think it doesn’t go far enough. The small political advantage Republicans enjoy would fade quickly if President Biden could pin the blame for a default squarely on Republicans. He would almost certainly be able to do so with media support.
President Biden also has the public on his side when it comes to vaccine mandates. Polling data from Pew found majorities of American voters support a vaccine mandate for all federal workers, large companies (with over 100 employees), and hospital workers at institutions which receive government funds.
The Republicans are trying to thread a very delicate needle. Republican Senator Patrick Toomey (PA) said that “there would be a lot of Republican votes” for a bill that would prevent a government shutdown but would be would not confront the issue of raising the debt ceiling. At the same time, the GOP doesn’t actually want to the government to default.
What the Republicans are trying to do is force the Democrats to use the budget reconciliation process to raise the debt ceiling. This would mean that it’s the Democrats – and the Democrats only – who would be on the record raising the debt ceiling by a specific amount. That amount would then be prominently featured in attack ads for the 2022 midterm elections.
Speaker Pelosi is too canny to fall into this trap, but her options are limited. One of the other alternatives proposed for raising the debt ceiling – such as ordering the Treasury Department to mint a $1 trillion platinum coin – is not seriously being considered by the Biden Administration.
White House spokesperson Mike Gwin said: “There is only one viable option to deal with the debt limit: Congress needs to increase it or suspend it, as it has done approximately 80 times, including three times during the last Administration.”
So much for the amusing image of Treasury Secretary Janet Yellen going to the Fed with a $1 trillion coin in her purse.
Unfortunately this leaves both parties playing a game of political chicken, with investors caught in the middle. The debt ceiling will be raised – the consequences of failure would be catastrophic. Yet both parties have reason to believe they will retain the advantage by rejecting compromise. This fight may be strung out to the last possible second, creating unnecessary volatility for investors.
Democrats, emboldened by their decisive victory in the California recall election, will go into 2022 championing pandemic control measures, infrastructure spending, and the perceived danger of Republican radicalism. Republicans want to turn 2022 into a referendum on fiscal policy, trusting in the historic pattern of midterm elections to return them the majority.
It doesn’t matter which group is objectively right or wrong. What matters is that neither group is suffering enough external political pressure that will force them to back down.
The longer this uncertainty lasts, the more danger there is for the market. The looming Evergrande debt crisis in China will also be playing out over the next month. Finally, there’s the continuing supply chain crunch, as ships at both east and west coast ports are still waiting to unload their cargo.
Unless polls show the public turning on Republicans, the Biden Administration and the Democrats in Congress will probably have to solve the issue unilaterally by issuing a new class of bonds to fund the debt, nullifying the debt ceiling through the 14th amendment (which says that the “validity of the public debt… shall not be questioned”), or simply issuing more debt and waiting for a Supreme Court battle to settle the issue.
These acts will either be interpreted as bold leadership or irresponsible recklessness, depending on your party loyalty. As investors, our interest is simply that this dispute is settled one way or another as quickly as possible. A Congressional compromise would be the best option.
Looking farther ahead, what may ultimately decide the midterms is the question of inflation. Federal Reserve Chairman Jerome Powell will testify before Congress today. He is expected to say that inflation is high, but it will moderate when supply-chain bottlenecks abate.
Yet what guarantee is there that these bottlenecks are going anywhere? China has been responding to every COVID-19 outbreak with massive shutdowns to prevent it from spreading. That creates delays across the entire production chain. American ports are already overwhelmed. The shortage of semiconductor chips has caused repeated interruptions for the production of cars, gaming systems, and just about everything else that requires electronics. This shortage may last for years.
This is the trump card that Republicans will play in the midterms. Most Republican leaders do not want to talk about COVID-19, the January 6 riots, or former president Donald Trump. They want to focus squarely on economic issues.
The Democrats may be able to counter this if they can pass all three bills – raising the debt ceiling, passing a bipartisan infrastructure bill, and forcing through a Democrats-only social spending bill. The Democrats have public opinion on their side when it comes to spending.
Yet they can’t control inflation. It’s not a question of competence. It’s just a flaw in the system that is finally being exposed. Both parties are guilty for allowing it, but the Democrats are in power now, and they are the ones who will pay the price.
What is being unleashed is the consequence of a “just in time” production model with manufacturing outsourced to other countries. The center of the world’s semiconductor manufacturing is Taiwan – probably the most dangerous geopolitical hotspot outside the Middle East. Other key production hubs are also in Asia, where they are vulnerable to Chinese adventurism or new variants of COVID-19. There is also the possibility that the Chinese government could use economic troubles as cover for a geopolitical power play.
Thus far, we are simply being assured by the Federal Reserve that everything is going according to plan. There’s no guarantee that’s true. Even worse, even if it really is going according to plan, there are too many uncontrollable factors for the future. The Federal Reserve can’t manage the world economy by raising and lowering interest rates.
The Democrats need to pass their bills as soon as possible. They also require inflation to abate before the midterms. They might pull off the first. They probably won’t get the second.
The hard truth is that they have very little control over this. About the only thing they can do is make things worse by spending too much or undermining faith in the currency.
The Republicans are banking on chaos, and in the current environment, that might be the solid political play. You can’t manage a national economy from the top down, let alone a world economy.
What should investors do? Forget the promise of globalization and free trade. Forget the power of technology and science to overcome all obstacles. It’s time to start focusing on raw materials, ships, rare earth elements, and commodities like wheat, lumber, an natural gas. It’s time to rediscover the “old” economy that can be seen and felt, rather than the new economy that exists in the cloud.
In the short term, the Democrats have a stronger hand than many Republicans are willing to admit. Any Republican ploy to bring the country to the edge of a default is likely to backfire.
Yet it’s still a long way until 2022. Many political commentators are underestimating the political skill and cunning of Joe Biden, Nancy Pelosi, and Chuck Schumer. Unfortunately, no politician can untangle the knots in the supply chain. Instead, we will just be told that things will get better with time.
All I can think about is the way the goalposts have been shifted when it comes to COVID-19. After the last year, when the experts say everything is under control, I’d suggest skepticism.
Mr. X is an investment analyst working in the Washington DC area who specializes in the intersection of business and public policy. After fifteen years working in politics, he writes on a classified basis for RogueInvesting.com three times a week to bring you news on what those with power are debating, planning, and doing.