David Kelly, chief global strategist for J.P. Morgan Asset Management, thinks a good analogy for the current U.S. economy is the bumper lanes at a bowling alley.
“No matter how badly you aim the bowling ball it will ricochet off the pads as it heads down and hit some of the pins at the end,” Kelly said during a recent “Market Insights” conference call. “I sort of feel like this is almost a bumper-lane economy. In which it’s very hard to get this economy to go into recession, but it’s also very hard to get this economy to accelerate to anything faster. So we end up with this economy just meandering forward.”
Next month will mark the entry into the ninth year of economic expansion, which Kelly said is now the third longest expansion since the Civil War, and “it keeps on going.”
While Kelly doesn’t expect the economy to fall into a recession anytime soon, he also doesn’t expect sustained growth of 3% or more — and that may partly be due to the delay and uncertainty surrounding President Donald Trump’s promised tax cuts.
“You have to look at the American economy from the perspective of, maybe we’ll get a little stimulus from this when we finally get some agreement on [the tax cuts] but it may not be the amount of stimulus that people thought could occur immediately after the election.”
In addition, Kelly said a pickup in consumer or business spending is unlikely.
“You’ve got a consumer sector in this expansion that is very mature, [and] it’s hard to see a real pickup in consumer spending or business spending, which pushes us up to a sustained 3% growth,” he said.
Kelly spent a considerable amount of time focusing on the president’s agenda, particularly the tax plan outlined on April 26, and how that may or may not affect the economy.
Trump offered a sparse blueprint of his tax reform plans in a one-page document.
“The devil is in the details and there aren’t too many details here,” Kelly said. “And they have said that’s deliberate because they want to make sure they can negotiate this.”
Kelly focused on what is clear: an elimination of the Alternative Minimum Tax and the estate tax, and the repeal of the 3.8% Medicare surtax on investment income.
“Those things all cost money,” he said.
Their plan is to remove various deductions, in particular deductions for medical expenses and state and local tax deductions.
“It’s quite hard to get rid of deductions and if you don’t, then how much can you really do on rates without pushing up the deficit?” Kelly said. “And if you push up the deficit a lot, there are going to be other members of Congress that are going to say, ‘That’s just too much; we’re not going to push up the deficit that much at a time of essentially full employment when we’ve got a lot of debt anyway.’”
Kelly explained why there will be some problems with removing these deductions.
First, regarding the medical deduction, Kelly said that the government — by allowing corporations to provide medical insurance tax-free to employees — has set it up that the U.S. has an employer-based health care system for the most part.
“If you get rid of that deduction, the employer-based program may begin to fall apart,” Kelly said. He added later that “it’s doubtful that Congress will want to do that, want to mess with the provision of health care to the vast majority of Americans.”
(As of 2015, 49% of Americans had employer-based coverage, according to the Kaiser Family Foundation.)
Second, regarding the state and local tax deductions, Kelly also thinks this will be hard to pass because the top states in terms of tax rates are blue states — for example, Massachusetts, California, New York, Illinois, Maryland and New Jersey.
“To some extent, it would be a tax on the states that are the least friendly to the Republicans in the House,” Kelly said. “But, there are 30 Republican House members elected in the states of New York, California, New Jersey, Maryland and Illinois. Those 30 House members would be enough, if they voted against getting rid of this, to sink the idea of getting rid of those deductions for state and local taxes paid.”
Looking at how this will affect investors, Kelly said the key worries for bond investors would be too big an increase in the deficit and for equity investors it would be too small a reduction in the corporate tax rate.
“I think the bottom line for markets is people have been expecting since the election that we would get a big cut in corporate taxes,” Kelly said. “What this tax plan says to me is that we are very far from being able to log in a big cut in corporate taxes. There are going to be huge political problems in actually achieving that. I think there are also economic problems and fiscal problems in doing it — but I think the political problems are the ones that are going to be most obvious.”
Kelly added that “it’s not at all clear” whether the president will get this through.
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