Investing and Investment Returns in the Event of a Hillary Clinton Election

• Historically, the stock market and the economy have performed better in Democratic administrations than with Republican presidents
• If enacted, specific Clinton policies could have both negative and positive implications for the economy, for corporate profits, and for short-term stock returns
• Long-run stock market performance depends a great deal on market fundamentals and relatively little on presidential and Congressional action

This is a companion piece to an earlier note about investment returns in the event of a Donald Trump election. I repeat the first few paragraphs with edits based on my developing thinking about these issues.

In any presidential campaign, there are dueling views about the economic and financial implications of the policies advocated by the various candidates. In large part, this discussion / argument is what campaigns are about. Each candidate makes the case that, if elected, his or her leadership will make life better. Each candidate attempts to assemble a “coalition,” a group of voters who believe they will be advantaged by that leadership and those policies. The candidate with the larger coalition wins. Importantly, it’s often understood that the policies in question will make voters and entities outside of the coalition (at least implicitly) worse off. It’s especially advantageous for candidates to advocate policies that would (apparently) damage only entities and people who cannot vote (or who have only small numbers of votes), such as corporations, illegal immigrants, foreign countries, and the very wealthy.[1]

The policy proposals themselves are frequently broad and vague, emphasizing benefits (to attract the votes of those who would gain) and downplaying costs (so as to minimize the opposition of those who might be damaged or have to pay). Even for very specific policies, detailed evaluation is difficult at best. Very few voters have the time, skill or patience to analyze the proposals, or even to evaluate the analyses conducted by think tanks and other commentators. These analyses are rarely objective anyway – the analysts are often supporters of one candidate or the other.[2] However, I’ve recently become aware of the University of Pennsylvania / Wharton School Budget Model, which attempts to take a non-partisan perspective, and allows visitors to change model assumptions to test their own ideas.

Before considering Hillary Clinton as a candidate and potentially unique president, it’s worth thinking about her simply as a Democrat. Historically, both stock market returns[3]  and economic growth[4]  have been higher in Democratic than in Republican administrations. However, these associations of favorable economic performance with Democratic presidencies seem to have no relationship to presidential policies. In short, if these associations continue to hold, we’d expect higher growth and more exciting stock market performance with Clinton as president, but those who have studied the matter are unable to provide any explanation as to why. Further, as I’ve reviewed the evidence in more detail, I’m not persuaded at all by the evidence of stronger stock market performance under Democratic administrations.

Clinton has made numerous policy proposals. She has posted 41 (!) sets of policy proposals on her website. [For what it’s worth, Trump has only 14.] Obviously, to consider all of Clinton’s proposals would make this a very long article. Therefore, I’ve selected a small number of proposals with potentially large impact.

Broadly speaking, Clinton proposes direct actions to address issues for her constituencies. For some issues, the direct actions are government funded services, for others, the actions are regulations or rules that require non-governmental actors (such as employers) to behave in ways that her constituencies would prefer. This contrasts sharply with Trump, who, with the exception of his tax plan, proposes largely indirect actions (that is, reducing immigration, renegotiating trade agreements, and encouraging foreign governments to take on more responsibility for their own defense have no directly traceable benefit to any citizen).

• Tax reform, including
  • A 4% surcharge on incomes over $5M, an updated Alternative Minimum Tax to ensure an effective rate of 30% on incomes over $1M, and eliminating the “carried interest” income designation.
  • Significant increases in the estate tax: increasing rates, making more estate assets subject to tax, and sharply reducing the applicability of “step-up in basis” for capital assets (in the current system, capital gains are effectively zero for estate tax purposes; her proposal would treat them as income).
  • Strongly discourage “inversions” that allow companies to shift their headquarters overseas and pay lower foreign tax rates.
• Infrastructure spending – $275B in the first five years of her term for roads, bridges, airports, etc.
• Criminal justice reform
  • Reducing penalties for drug offenses prospectively and retroactively
  • Attempting to get formerly incarcerated individuals back to productive work
• Education initiatives
  • Publicly funded preschool for every 4-year-old
  • No tuition at in-state four year public colleges by 2021
  • Student loan reform, allowing refinancing at current rates, limiting payments to 10% of income, all debt forgiven after 20 years.
• Social Security reform
  • Increase benefits (especially for widows)
  • Increase covered income limit and tax other income

So, if enacted, what impact would the five proposals above have?

• Clinton’s tax reform
  • In general, economists prefer tax systems with fewer rather than more special rules. Such systems are less expensive to operate and also to comply with. While eliminating deductions and simplifying the system is less politically appetizing than raising taxes on the rich (which sounds good to everyone who isn’t rich), it tends to be more beneficial.
    • Specifically, increasing the estate tax produces relatively little revenue and diverts smart lawyers into estate planning from other activities likely to add more to national income.
  • The Wharton model I mentioned earlier prefers Clinton’s plan to Trump’s from a number of perspectives:
    • The Federal budget deficit increases much less rapidly under Clinton’s plan (although the movement is still away from balance).
    • The national debt also increases more slowly.
    • Although Gross Domestic Product (GDP) gets an immediate boost from Trump’s plan, Clinton’s plan has the more favorable impact over the longer term.
  • Infrastructure spending is usually a Congressional favorite. Every representative and Senator can take credit for funding projects in their districts and their states. This doesn’t necessarily mean “boondoggle.” For example, the Interstate highway system was an infrastructure project once.
    • There are several reasons to be dubious about this proposal, however.
      • It is difficult to get infrastructure right: it seems to be much more politically beneficial to build new infrastructure than to repair existing infrastructure.
      • It’s not clear why there should be a major Federal role in funding infrastructure. For example, while I’m very appreciative of the large sums of money that US taxpayers from states other than Massachusetts and metropolitan areas other than Boston contributed to the Big Dig, I doubt that most of them have benefited in any material way from the improved traffic flow and access to the North End that local citizens enjoy.
      • The American Society of Civil Engineers (ASCE) thinks that US infrastructure is a disgrace. They have some incentive to think that more spending in this area would be beneficial. However, taxpayers have shown relatively little general interest.
    • If the proposal passes, stocks of construction equipment manufacturers and construction management firms will celebrate.
  • Criminal justice reform, while likely to be very controversial politically, has significant economic potential.
    • The US imprisons a much higher percentage of its population than other developed countries. This suggests that we criminalize a lot of behavior that other countries do not (and perhaps, that we mete out longer sentences) or that the US population has a much higher proportion of natural criminals.
    • Getting people who are not dangerous out of prison has two likely benefits:
      • They can be productive citizens, pay taxes, and support themselves rather than being effective wards of the state.
      • The rest of us can also pay less for maintaining and staffing prisons.
    • Hillary’s education initiatives beg the question about the proper Federal role in this area.
      • Pre-school, coming as it does before elementary school, would seem to be very amenable to local funding and decision-making. States are natural laboratories for this sort of thing, and indeed, states are beginning to be active in this area.
      • Similarly, most states have community colleges and public universities. It would seem natural to let them experiment and compete with each other to identify the best approach.
      • The Federal government has already had a major role in lending to post-secondary students. It’s not easy to see how best to proceed here.
        • Students of modest means have great difficulty affording higher education, yet enhancing one’s earning power through education is likely one of the best investments available.
        • Many younger citizens have taken on large amounts of student debt but don’t have enhanced earning power to show for it.
        • So, it is probably simultaneously true that
          • Making more financial resources available to lower and middle income students will increase the proportion able to take advantage of higher education.
          • Many students are using the borrowed financial resources available to them to pursue educations that won’t enable them to pay off their loans.
        • It’s not clear that having the Federal government assume more financial responsibility in this area will make things better.
      • Social Security reform is important. The Social Security system is on a trajectory to have benefits exceed tax collections by 2033. At that time, if not before, change must occur.
        • Increasing widows’ benefits will certainly reduce poverty.
        • Adding resources to the system will improve the system’s trajectory.
        • Hillary’s proposals do not provide an integrated perspective that helps the country decide what the system is really for and how best to finance it.

As with any presidential candidate’s proposals, the road to reality is long and uncertain. Any action that requires funding requires Congressional approval. Usually, a good deal of negotiation and deal-making is involved, and Hillary would likely be dealing with a (hostile) Republican majority in the House of Representatives, and a large (hostile) Republican caucus in the Senate. None of these proposals is likely to emerge unchanged, and few of them are likely to emerge at all.

Secondly, the ultimate impact of a president’s policies and decisions on an economy and the stock market is likely relatively small. The largest effects are due to changes in incentives – tax rates, benefit levels, and the like. Of the five policies we’ve examined, only the tax policy is of that character, but tax policy is enormously complicated from a political perspective. Several Congressional experts have substantial credibility with their colleagues, and interest groups will be, well, very interested in the outcome. I’ll be very surprised if the tax policy that emerges is recognizable as Hillary’s.

A Clinton presidency, based on her proposals, is likely to have minimal direct impact on the stock market, and even on the country more broadly (at least in the short term). Most of her programs would take a long time to implement, and even longer to take effect. Only the infrastructure program would have a direct spending impact. Criminal justice reform could have a large impact on the economy, but fewer than 10% of prisoners are in Federal confinement. Education is largely a creature of state governments. The Social Security plan is more of a headline than a well-thought-out proposal.

Presidents can accomplish only a few major programs. The 41 programs on her website are more of a laundry list than a plan of action. If she is elected, Hillary will have to choose where she will focus. Based on what we know so far, investors need not have great fears, but they should not have great expectations, either.

[1]Incidentally, it is this asymmetry that has led to the municipal pension underfunding crisis. Voters and governments that approved the contracts incorporating the pension benefits didn’t pay for them. That left their successors and descendants, who had no vote on the contracts, on the hook.

[2] For example, the Brookings Institution is often associated with the Democratic Party, and the American Enterprise Institute with the Republican Party.

[3] Santa-Clara, P. and R. Valkanov, The Presidential Puzzle: Political Cycles and the Stock Market. The Journal of Finance, 2003. 58(5): p. 1841-1872.

[4] Blinder, A.S. and M.W. Watson, Presidents and the US Economy: An Econometric Exploration. American Economic Review, 2016. 106(4): p. 1015-45.