The Next U.S. President: What now for the USD (Update)

 
FX Outlook
October 14, 2008 Posted by:
Since the writing of this article in early July for our Investment Strategy Outlook newsletter, the global financial business has utterly changed. The candidates have debated twice and survived and we are now in increased U.S. sovereign risk with Russia/Venezuela/Georgia being factored into the overall equation. Senators McCain and Obama had a minor, but uselessly vocal, part in the fiscal rescue package. Now both are scrutinized even more about their financial strategies and ideas. And with this evolving financial landscape comes a new gift of sorts - a screaming USD in the face of one of the great flights to safety in modern history.

With that backdrop, I will review my previous analysis about each candidate's domestic fiscal agenda and refocus the conclusions now that there are far fewer major banks in the U.S. (and no investment banks any longer) with the EURUSD now trading at 1.3610 versus 1.5720 when this article was originally written. In addition, let's remember that the U.S. government just took on a new contingent debt obligation of an estimated $700 billion for the rescue, $240 billion for Fannie Mae and Freddie Mac and potential trillions for saving the money markets too. The point is that each candidate's desire to spend and/or cut taxes is simply too trivial and unsophisticated an approach for the highly volatile and stunned financial markets. Worse, each candidate's original plan did not factor in the new debt as a result of TARP, or the rescue plan. Now the Fed is buying commercial paper - in essence bailing out corporations - and there is a possibility that the U.S. government might be printing money, inviting a dangerous inflationary and value destroying environment. Little has been offered by either candidate for modulating their strategy based on this new mathematics. It is only the flight to safety issue that is helping the USD against the EUR, given Europe's more dire vulnerability to the banking/credit crisis. The issue is whether either candidate's fiscal and economic plan supports the stronger dollar, which both publicly state they want.

Here are some key highlights of the existing candidate plans and potential changes in positions:

Hot-Button IssueObama PlansMcCain PlansUSD ImpactIssue
TaxesProjected to raise taxes $627 billion over next 10 yearsProjected to reduce taxes by $596 billion over next 10 yearsMarginally positive for McCain, negative for ObamaNeither plan is credible according to Tax Policy Center given latest financial crisis (Source: Tax Policy Center)
Budget DeficitUp by $3.5 trillion over next 10 yearsUp by $5 trillion over next 10 yearsVery negative regardlessMcCain does not spell out well how to recoup Treasury revenue other than cutting spending. Good idea, but how to execute in a democratically controlled Congress. Obama is perhaps more realistic about raising revenue receipts, but will add fuel to the recession fire.(Source: Tax Policy Center
EnergySame 10-year, $150 billion package for alternative energy, except now he publicly speaks more about accepting nuclear power plants as an optionNo change to original ideas which is to open all spigots with more emphasis on nuclearNeutralIssue: Given that crude oil has dropped from a high of 147 to the mid-$80's, energy is not as hot an issue as it was previously for energy consumptive businesses (airlines, retail, food).
Real EstateAs part of rescue, continues to want home mortgages to be bought and or restructuredWants Treasury to buy impaired individual mortgagesExtremely negative for both ideas - over 16 percent of homeowners have negative equity in their homes, up from 4 percent in 2006. For those who bought in last 5 years, the negative equity rate is 29 percent. Not good.McCain's idea to buy mortgages is populist, but incredibly dangerous. Freddie and Fannie were unable to manage it, so why does he think Treasury can? Definitely dollar negative on that idea.


Senator McCain continues to advocate growing the economy out of its problems mostly through a $1 trillion tax cut over his term. Like other Republicans before him, he pledges the ill-fated statement: "NO NEW TAXES". He now may have the advantage of being able to extend the Bush tax cuts beyond 2010 without a great deal of debate as the economy moves rapidly into recession. The USD would strongly benefit should he fulfill his promise to reform and rein in entitlement spending, as stated in the debate last week. However, his credibility is on the line given that the rescue package which he and Obama voted for (perhaps there really was no other choice) included an array of pork barrel spending that was downright unseemly. If he had no effect on that "Congress as usual" activity, how does he do it as president?

Senator Obama stays steadfast in seeking a balanced budget through a redistribution of wealth by enacting a series of tax re-calibrations and now a $240 billion stimulus package. The tax changes are aimed at corporations and the wealthiest two percent of tax earners (those who earn over $600,000 will see a +$93,000 increase in their taxes). He would eliminate tax requirements for the neediest in the U.S., such as seniors making less than $50,000, along with a general promise not to increase the tax burden to middle class citizens. Obama still seeks to cut spending, though mostly through foreign policy measures of scaling back the Iraq war commitment.

In short, the USD's future is always more dependent on investment flows, the general state of the economy and interest rate differentials. But we are in a brave new world that is fully dependent on solving a global liquidity problem. Until that concludes, the president will have a USD that is generally firmer, due to the markets pricing in the global bailouts and excess capital to shore up weak global banks.

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