On Saturday the US Senate passed President Biden’s American Rescue Plan, a $1.9 trillion spending package designed to deal with the economic and health effects of COVID-19. Although there are still a few steps left in the process, President Biden is well on his way to signing into law a very large fiscal package within the next week. Some minor changes were made to the legislation during the Senate’s 24-hour amendment process last night but we believe the legislation will come in just slightly under $1.9 trillion and will deliver on nearly every item President Biden first proposed on January 14th.
The legislation differs from the House plan and some decisions will need to be made as to whether the House will accept the Senate plan or the two chambers will seek a compromise plan by merging the two bills together. A compromise could add a week to the timing of the legislation and our sense is that President Biden would prefer the House to just pass the Senate bill so he can get the stimulus package signed into law.
Regardless of the process, the passage of the American Rescue Plan is very likely to happen. This comes on top of the $900bn package that passed in December and most of the funds have not been distributed yet. Combined, Congress will have authorized $3 trillion of stimulus for 2021, a $1 trillion increase over the previous year with no recession currently in sight.
To put in context the sheer size of this economic package, last year, at the height of the pandemic, Congress passed the CARES Act, a $2 trillion spending package. Around passage of the legislation, the US unemployment rate was 15% and the US economy was on the verge of a pandemic-induced shutdown. The CARES Act helped to offset the negative impact of the shutdowns and turned what could have been a depression into two bad quarters of economic growth with a strong rebound in place.
Congress’s action this week now makes it official that there will be more fiscal aid in 2021 than in 2020 ($3 trillion vs $2 trillion). Unlike last year when unemployment was increasing and the country was locking down, the exact opposite is happening as the new fiscal spending comes into effect. The unemployment rate today is at 6.2 percent and likely to continue to decline as we embark on a massive re-opening of the US economy.
Much of the new economic package is front loaded. We estimate $1.2 trillion will be distributed in the next five months, with most of that money, $700bn, going to the consumers and another $350bn going to state and local governments. Money for education and health care is more back loaded into 2022.
Consumers will see immediate relief once the legislation is signed into law. The largest allocation in this legislation is $1,400 checks per person with income up to $75k. That money can be distributed into consumer bank accounts within two weeks of President Biden signing the legislation into law. We expect this money to hit in late March or early April.
How big is $400bn? In January consumers received $130bn of refund checks from Treasury as part of the December stimulus package. Retail sales increased 5 percent in January, way above the consensus view of 1 percent, with just a small portion of that money being spent. Immediately after the retail sales report was released, the Atlanta Fed GDP tracker increased to nearly 10 percent growth from higher consumer spending and the increase in industrial production to meet this demand. First quarter GDP looks to be quite strong.
The new legislation provides more than 2.5 times the check amount to US consumers at the start of the second quarter.
Other consumer aid that gets distributed through 2Q and 3Q includes a $3,600 child tax credit (distributed monthly), a $300 per week payment on top of unemployment benefits through early September, expansion of the Earned Income Tax Credit, additional food stamp funds, and direct payroll relief to airline workers.
As a reminder, this consumer aid is coming on top of a US savings rate of 20.5 percent! Additionally, the money will be hitting just as the US economy reopens and consumers will be spending on more than just goods, as services will be available such as food, drinks, entertainment, and travel. We could also see more clothes shopping as people need new outfits if they are going out more.
It is very likely the US is going to have two quarters of blockbuster GDP growth in the first half of this year. The US could possibly grow faster than China in 2021.
The stimulus needs to be understood in the context of the reopening. As of this weekend, more Americans have the full two-shot vaccination than confirmed COVID cases in the US since the pandemic began. We are at roughly 2 million vaccinations per day and this is set to accelerate in the coming weeks. Herd immunity among US adults is likely to be reached by early May, if not earlier. This is leading investors to pull forward their expectations of when the reopening will take place. Now we are throwing lots of stimulus on top of it.
Policymakers at the Treasury and the Fed have indicated they are targeting employment and believe that more stimulus is justified to get the unemployment rate down. This model will be challenged if employment from the re-opening happens faster than policymakers expect.
The missing jobs are in service oriented industries that will benefit from the reopening regardless of whether the stimulus passes. Last week's jobs report showed these jobs are coming back as the economy re-opens even in light of harsh February weather keeping people out of the labor force.
If the unemployment rate comes down quicker than expected, the effects of this will impact the next fiscal bill (infrastructure and climate change) and the Fed’s monetary policy stance.
Democratic economist, Larry Summers is speaking at Strategas’ Macro Conference on Thursday and we expect him to speak about the risk of “overstimulation” and the impact this could have on passing an infrastructure package later this year.
Aid to State and Local Governments
The legislation provides $350bn of aid to state and local governments. Efforts to reduce the size of this aid were rejected in the amendment process. New guardrails were added to the measure to prevent governors from using the money to cut taxes. The legislation also says the money cannot be used for pensions, although money is fungible and this provision seems more like window dressing. We even struggle to see how this legislation can enforce the no tax cut provision.
The reason these guardrails are being put into effect is because many state and local governments are in far better shape than might have been expected. State and local governments produced an aggregate budget surplus in 2020, the first time this has happened since 1978.
There is a lot of handwringing about the condition of state and local finances that just does not meet the reality of the situation. For example, local governments had the strongest year of tax revenue growth since the financial crisis 12 years ago. There will always be outliers like some big cities that are struggling, but local government finances are tied to residential property values and home values are increasing. So too are property tax revenues.
What about the states? Strategas Chris McGrath tracks state tax collections each month and more than half of the states had positive revenue growth in 2020 despite the pandemic. Nationally, state tax revenues were flat, and states entered the pandemic with more than $100bn in rainy day funds. On top of that, federal aid to state and local governments increased $265bn in 2020, a 44 percent increase, which was largely used to offset the increased cost from COVID-19.
Employment in the state and local sector has been weak more so due to the closing of schools. Even without any new aid, we expect those jobs to bounce back as the schools re-open. We see a strong correlation between a state’s economic COVID restrictions and school restrictions. As COVID restrictions come off generally, we expect schools to also reopen. You cannot have a situation where someone can go to a movie theater but kids are learning virtually. Most of the $130bn education aid in the package is back loaded into later years for spending.
Looking ahead, state tax revenues are correlated to nominal GDP, and nominal GDP is expected to be near double digits this year. States with income taxes also benefit from last year’s stock market gains which produces taxable income in the coming months when taxpayers pay their April taxes. Our expectation is that state tax revenues are going to be blockbuster next year with all of this new aid arriving.
Underneath the surface of this stimulus package is a major expansion of the Affordable Care Act (Obamacare). As standalone legislation, this would be considered a landmark health care bill. More specifically, the legislation increases the subsidies to pay for health insurance on the Obamacare exchanges and could lead to an increase in exchange participation by roughly 10 percent. It is probably not a coincidence that managed care stocks have been quietly outperforming the S&P 500 in the last three weeks as this legislation moved through the political process. The legislation also incentivizes states to expand Medicaid while providing new funds for vaccine distribution, testing, and research. One issue we see happening is that the demand for COVID-19 testing is likely to fall off and this bill provides $45bn of new funds for that purpose.
The central retirement provision in this plan is to provide more than $80bn of assistance to multiemployer pension funds. But deeper in the bill is a provision allowing companies to “smooth” their pensions. This happens by changing the interest rate to discount liabilities and therefore companies pay less into their pensions. The policy change goes directly to earnings per share and has a meaningful impact on distressed companies with defined benefit pensions.
- Consumer stocks, particularly consumer stocks tied to reopening activities (sports, events, clothes, travel) look positioned to gain as more than $700bn is distributed to consumers in the first five months of the legislation.
- Companies with defined benefit pensions, the legislation allows companies to “smooth” their pension liabilities which means companies contribute less to their pensions this year and future years, and the savings goes right to their earnings per share.
- Highway infrastructure & broadband, while there is much discussion about a larger infrastructure package this summer, the legislation provides $17bn of grants for infrastructure and moves the needle for companies involved in highway construction. Another $7.5bn is included for broadband spending.
- Non-pharma health care, not a loved sector given its defensive properties and policy uncertainty about larger health care changes later this year. Still this legislation increases funding for testing, vaccine distribution, and research. The legislation is also a major expansion of Obamacare and should lead to a 10 percent increase in the number of people insured on the Obamacare exchanges.
Longer Term Risks Are Rising
Deficits signal major dollar depreciation: Despite strong nominal GDP growth that is expected in 2021, we expect the deficit will increase a percentage of GDP this year. The twin deficits, trade, and budget deficits, as a percentage of GDP are at their highest level ever since the US went off the gold standard. The twin deficits lead the dollar by two years and this metric is signaling that a major US dollar depreciation is coming which could impact longer term inflation, interest rates, and stocks.
Chart reflects price changes, not total return. Because it does not include dividends or splits, it should not be used to benchmark performance of specific investments. Data provided by FactSet.
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