It's the economy, stupid¹
With GDP growing at close to 2.5% in 2024, unemployment running at just 4.1%, inflation back below 3%, and US markets regularly hitting new highs, on the face of it, the track record of the Biden administration on the economy should have worked in favour of the Democratic candidate in the US presidential election. Yet it seems to have been the economy that was one of the major causes of the defeat of Kamala Harris. More specifically, inflation, or rather price levels. Indeed, although inflation in the strictest sense of the word, i.e. the rate of growth in consumer prices, has subsided substantially for a number of months, consumer prices have nonetheless risen by more than 20% in four years. They are close to 15% higher than the level they would have been had inflation remained on its pre-Covid trend. This reality – brought up regularly during the campaign, particularly by the Trump camp to denounce the Democrats’ track record – is unquestionably a burden on household morale. In the latest University of Michigan Consumer Sentiment Index, 40% of respondents attribute the deterioration in their financial situation to price levels – one of the highest percentages since the end of the seventies.
So despite some of the Democratic staffers’ attempts to sum up the election as a referendum on societal issues, it is the slogan of James Carville, Bill Clinton’s economic adviser in 1992, which seems to have once again applied. The role of the economy on the political front is unlikely to stop there. Having in part determined the outcome of the elections, the economy could restrict the margin for manoeuvre of the new tenant of the White House.
From a purely political perspective, the 47th President of the United States of America will have substantial leeway. Having run away with the popular vote, retaken the Senate and – as it currently looks – being on track to hold the majority in the House of Representatives, Donald Trump should win the grand slam which will give him strong political legitimacy. Furthermore, whereas in 2016 his victory was unexpected and enabled Republican party bigwigs to grab many key positions and somewhat channel his most exuberant whims, Trump is today surrounded by a flock of devotees to his ideas. The political checks and balances thus look to be clearly diminished for this second mandate.
It’s the economy and – as a knock-on effect – financial markets, which could assume this role of watchman. On the growth front, the announced cut in corporation tax will have a positive impact, but the increases in customs tariffs and, more marginally, massive expulsions of illegal migrant workers could have a recessionary impact. Against the backdrop of a deterioration in the jobs market and in the morale of SMEs, and with reserves available for consumption drying up for all but the most well-off households, such secondary effects could restrict support for these measures among Republicans.
First and foremost, the drastic increase in the budget deficit that will result from full application of Donald Trump’s programme could come up against resistance from the bond market, and a return of the bond vigilantes[2] of the nineties. Between the end of 1993 and the end of 1994, the actions of these bond investors opposed to high-spend fiscal policy sent the 10-year US bond yield skyrocketing from 5.2% to over 8%. The Clinton administration was therefore forced to take measures to reduce the budget deficit. More recently in 2022, the UK government of Liz Truss fell foul of the bond market with the presentation of her budget proposal. 10-year gilt yields jumped from 3% to 4.5% in a couple of days, prompting an intervention by the Bank of England and the dismissal of the Chancellor of the Exchequer. Such a scenario cannot be excluded in the US, as interest rates have tightened substantially in recent weeks, particularly as a result of the term premium – the additional return required by investors for holding a long-term bond.
So having played a major role in the outcome of the presidential election, the economy and the markets are likely to continue to heavily influence US political life. They could represent the most effective counterbalance to Donald Trump’s policies, the consequences of which are highly uncertain.
Final version of 8 November 2024 – Enguerrand Artaz, Fund Manager, LFDE