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Andy Friedman: The Best Time to Cash In on Washington Gridlock

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Confrontation is likelier than compromise in the new Congress, and political drama is likely to affect markets, causing swoons and creating buying opportunities, says Andy Friedman of The Washington Update.

That said, there are a few matter on whcih the two parties could possibly find common ground.

The Beltway commentator’s current analysis argues that actions occurring immediately after the Republicans won both houses of Congress signal a dynamics of division likely to play out over the next two years.

At that time, President Barack Obama issued an executive order relaxing border control enforcement. Conservative Republicans, who not only objected to the policy but argued it was illegal, pushed to withhold money needed to fund the government.

While GOP moderates prevailed, the resulting compromise funded the government through Sept. 20, with the symbolic exception of the Department of Homeland Security (which handles immigration matters), thus setting up an early showdown for Feb. 27, when DHS funding expires.

That single scene in Washington’s political theater foreshadows a climate of deadlock that will likely only result in legislative compromise when “forcing events” compel it.

Friedman examines the issues, relevant forcing events and expected economic impacts Americans can expect in the new year, including at least one fight likely to trigger a market swoon and subsequent buying opportunity.

On the broader issue of the budget, Friedman does not foresee sufficient common ground needed to avoid further borrowing. That is, though the budget deficit has been shrinking, the two parties’ priorities are too different to garner bipartisan support in the area of government appropriations.

Democrats prefer funding domestic priorities, while Republicans are more disposed to limiting cuts agreed to in the 2013 sequestration agreement that disproportionately affect defense (and which are on target to cut still deeper over the coming eight years); neither are the two sides likely to agree on raising taxes (which the Democrats favor) or addressing entitlement reform (which the Republicans support).

In contrast, and in a case of politics’ strange bedfellows, the possibility of agreement does exist in the area of free trade. That is because the Administration has been seeking passage of the Trans-Pacific Partnership (TPP), which would extend a North American free trade area to include partners in Asia — an initiative that Republicans support as it would boost U.S. exporters.

Congressional Democrats, however, view the measure as detrimental to U.S. labor. “Last term, Senate Democratic leadership — the president’s desire notwithstanding — refused even to allow a vote on the TPP,” Friedman writes.

If the GOP majority can sustain the administration’s trade initiative, the upshot is likely to be a boost to U.S. multinationals racking up sales in Asia or availing themselves of lower Asian labor costs, Friedman says.

Washington’s default political divide will be back on track over the Affordable Care Act (ACA), aka Obamacare, in three areas, each with implications, good and bad, for various economic sectors.

The first concerns a Supreme Court decision expected in June on whether the government is permitted to offer subsidies to Americans who meet the financial qualifications but who reside in one of the 36 states lacking their own insurance exchanges.

The language of the ACA specifies that premium subsidies are available to those who buy insurance on an exchange “established by a state.” If the court accepts the argument that Americans buying their insurance from the federal exchange are ineligible, then Friedman expects that “sectors and companies who get a boost from the ACA could see that benefit quickly evaporate.”

Another ACA issue rising to the fore in 2015 is the requirement that companies with 100 or more employees must provide insurance to their full-time employees or pay a penalty. Friedman says Congress might change the definition of the number of hours that qualify as part-time employment to ease the situation of companies that might otherwise limit the number of hours their employees can work. “Such a change would benefit the service industries,” he concludes.

Friedman discerns rare bipartisan support for eliminating the ACA’s medical device tax. If the two sides can come to agreement on replacing the lost revenue, then repealing that tax “would be a boon for the medical device sector.”

Another bipartisan possibility concerns the energy industry, where grounds for comprehensive legislation exist. Republicans lead the support for the Keystone pipeline, increased energy exports and more drilling both on- and offshore, while the administration wants further incentives for wind, solar and other alternative energy sources.

The sticking point, says Friedman, is a new Environmental Protection Agency proposal restricting power plant emissions that the GOP considers unconstitutional but which the administration adamantly supports. If the dispute is resolved, ensuing legislation “could be a boon to the energy sector.”

Both the administration and the GOP are eager to see tax reform, but Friedman sees little realistic grounds for compromise, at least on the taxes of individuals, which would entail lowering rates while recouping lost revenue through the elimination of deductions and exemptions.

For one thing, the GOP insists on tax neutrality while the Democrats favor reform that increase government revenue. But according to Friedman, “it is hard to see Congress agreeing on such controversial proposals as taxing municipal bond interest or limiting charitable contribution deductions” in an environment of extreme polarization.

The political analyst is more upbeat about corporate tax reform:

“The United States has the world’s highest corporate tax rate, a disadvantage that has prompted U.S. businesses to move operations (and jobs) overseas. More recently, we’ve seen companies — Burger King is a prominent example — moving their headquarters overseas to escape U.S. taxes (a process called ‘inverting’). There is bipartisan consensus that a reduction in corporate tax rates is needed to encourage companies to keep operations and jobs here.”

But the achievement of tax neutrality will create winners and losers, he says:

Deductions likely targeted for elimination or curtailment include “oil and gas depletion allowances, [last in, first out] accounting (important to the retail industry), accelerated depreciation (important to the manufacturing sector), and asset-based taxes (anathema to the financial sector),” he writes.

Friedman’s report lists more than six forcing events, but it is the March 15 debt ceiling deadline that he calls “the one to watch.” The Treasury could scramble for funding for a limited time after that deadline, but past experience suggests a showdown could ensue between Republicans demanding concessions for funding the government and the president who considers raising the debt limit non-negotiable.

“As the deadline approaches and Congress bickers, markets tend to get nervous,” Friedman writes (italics his). “I have long said that a market decline over concern about Congress’ impending failure to act is a buying opportunity. Congress will act — likely at the last minute — at which point the market will recover. It is incumbent on investors and financial advisors to keep these ‘forcing events’ in mind as investment opportunities.”

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