Historically, a presidential candidate committing to very loose fiscal policy would have caused markets to expect tighter monetary policy, that is, higher interest rates as the central bank decides the extra government spending will create higher inflation, so higher rates are required to counter this threat.
But this time the central bank, the US Federal Reserve has committed to holding interest rates near zero until the end of 2023, even if inflation rises above 2 per cent.
As such, is it as simple as the outcome with the most stimulatory fiscal policy is the most positive for markets?
The risk of intolerably high inflation is a little greater under Biden, but over the next couple of years we expect both structural and cyclical forces to be stronger than the effect of shorter-term factors.
Structural changes in society such as ageing populations, high debt levels and greater adoption of technology are all long term trends that create disinflation. Despite the stimulus that was in the economy in September, inflation was very weak, which justifies our position.
As good as it gets?
An outcome where Biden wins the presidency, but not the senate, may be the best outcome for markets.
Institutional investor surveys suggest this outcome is also likely to cause markets to fall, although by a smaller amount than if the Democrats win big or the result is contested.
Contrarily, we think there is a strong argument to be made for this being a very market-friendly outcome over the medium-term.
Little changes on the fiscal or monetary policy fronts, while there is no chance that Biden could get any large increases in corporation tax through Congress, or any of his most redistributional agenda items that markets fear the most.
But foreign and trade policy uncertainty will ease significantly. The substance of Biden’s trade policy is similar to Trump’s, at least on China, but the style will change.
This change may benefit non-US equity markets more than US markets.
From a global perspective this election is about whether global policy uncertainty will continue its dramatic ascent in recent years.
Huge increases in uncertainty, particularly around what American protectionism/unilateralism means for foreign export-oriented economies, have augmented US equity outperformance and the US dollar bull market.
An approach that means America is more conscious of its impact on the rest of the world, would likely lift all boats.
That is because the US is a more insular economy, with a lower trade-to-GDP ratio, its stock market is less cyclical than many others and less sensitive to the global trade cycle, and the dollar is a safe haven currency
