2016 Elections – Early Guide to Issues and Impacts

We identify some key factors and important policy issues for investors to track as the election season develops.

February 10, 2016

Paul Christopher, CFA®, Head Global Market Strategist
Craig Holke, Global Research Analyst

  • We believe that the composition of the next U.S. government— whether a one-party government or divided—matters as much as who wins the presidential election.
  • Thus, in our first election commentary of 2016, we identify some key factors and important policy issues for investors to track as the election season develops.
  • Looking ahead, the uncertainty surrounding a change in leadership may produce additional market volatility, and we will provide further guidance around the primaries, conventions, debates, and the post-election outlook.

Expect Extra Unpredictability from the 2016 Election Cycle

  • Uncertainty about the Democratic and Republican presidential nominees may persist into the summer conventions.
  • Slow, uneven economic growth tends to reinforce voter unease and to subordinate other issues.
  • Since the financial crisis of 2008, contention around federal government actions (e.g., the Affordable Care Act and the Troubled Asset Relief Program) continues to contribute to increased political polarization:
Chart 1. Political Polarization in the Electorate has Increased Turnover in Congress
  • Even within the parties, divisions are widening. For example:
    • A May 2015 Gallup poll found that 73 percent of Republican voters disapproved of the performance of the majority Republican Congress;1 and
    • Some Congressional Democrats and others on the campaign trail say that President Obama has not done enough to force change by outside pressure on the political system.2
  • These political divisions have parallels in Europe, where weak economic growth and bitter policy divisions over Greece, immigration and other core issues have divided the electorate and the parties to the point that new political parties are popular enough to complicate the process of forming new governments.
  • One symptom of U.S. political fragmentation is success by the “D.C. outsider” candidates with little or no Washington D.C. experience.

What to Watch in the Run-Up to the Summer Political Conventions

  • Will the elections again deliver a divided government (i.e., Republicans and Democrats dividing leadership in Congress and the presidency)?
    • To watch: Does a Democratic presidential candidate emerge as the favorite?
    • To watch: Do the Democrats emerge as likely to retake control of the Senate?
  • Republicans have a four-seat Senate majority in 2016, and Democrats need a net gain of five seats (or four seats plus the vice president). There are 24 Republican Senate seats up for election, and seven in states that President Obama carried in 2012. Democrats have 10 seats up for election with none in states that Mr. Romney carried in 2012
  • Will an intra-party split effectively produce divided government?
    • To watch: Will the presidential candidates and eventual nominees express an intention to work with Congress? We see in all the issues below a need for cooperation within Congress and between the Congress and the president.
    • A related question: Can a “D.C. outsider” win the White House and establish a good working relationship with Congress? Again, the main question is whether differences in political philosophy—between or within parties—encourage or discourage resolution of key issues.

Ultimately, of course, the congressional races matter as much as the presidential election for predicting the policy agenda and how positively or negatively politics may affect investor portfolios. Thus, we identify the key factors to watch but do not attempt to predict the market reaction to any successful presidential bid.

Important Dates in the Election Schedule

Below is a timeline for the remaining months of the 2016 election cycle, including the cumulative percent of delegates available to each party by month of primaries/caucuses, and months for conventions and debates.3

Image 1. Timeline for the remaining months of the 2016 election cycle

Key Policy Issues

It may be too soon to know the economic and market impact of any particular candidate winning the White House, but investors can study the issues and understand how the candidates and their potential interaction with Congress may influence the important issues.

Policy Issue: Taxation

  • Corporate tax inversion is a likely issue for the next president and Congress.
    • Tax inversion is a transaction whereby a (U.S.) company merges with and becomes a subsidiary of another company in a foreign country, in order to take advantage of more favorable tax treatment.
    • Tax inversions may lower a company’s tax rate and generate shareholder cash in a merger, but may also create a taxable capital gain, and the U.S. government may yet find ways to penalize or otherwise discourage potential U.S. corporate moves overseas.
    • Democrats: Favor penalizing or blocking corporate tax inversions.
    • Republicans: Believe that U.S. tax policy is to blame and propose cutting corporate tax rates to halt inversions. Some seek to eliminate the corporate tax and replace it with a business tax.
  • Tax rates
    • Democrats: Generally want higher taxes on wealthy people, a continued estate tax, an expanded Alternative Minimum Tax (AMT), new or higher taxes on dividend income, and higher payroll taxes on the employer side.
    • Republicans: The broad GOP stance is for fewer tax brackets, lower top individual and corporate tax rates, ending estate taxes and the AMT, lower or eliminated rates on capital gains and dividends, and eliminated or reduced payroll taxes.
  • Role of the key factors: A divided government likely would block or at least delay policy changes. An intra-party split may have a similar effect.

Policy Issue: The Deficit and the Debt

  • In October, Congress and President Obama suspended the debt ceiling and ended strict spending caps through September 2017.
  • We expect that the federal budget deficit will increase by a modest one percent of gross domestic product (GDP) in 2016.
  • As long as the debt grows no faster than the economy, the debt should remain sustainable.
    • The December 2015 deficit of 2.6 percent of GDP is the average since 1968.
    • The government continues to borrow at very low interest rates.
  • Democrats: As a group, the Democrats support balanced budgets and propose to raise revenue by removing tax-code provisions that allow companies to avoid paying taxes—as well as raising marginal tax rates and looking to cut waste. They would balance the expected additional income with spending programs on, for example, infrastructure.
  • Republicans: As a group, the Republicans support balanced budgets through spending control, and some advocate legislation to require a balanced budget. In addition, the Republican field generally favors tax cuts and fewer tax brackets.
  • Role of the key factors: Government by one party may allow the government to focus on a single approach to the budget. By contrast, if divided government discourages compromises across two very different approaches to budgeting, budget balance should be harder to achieve.

Policy Issue: Immigration

  • Any short-term lack of resolution around immigration creates uncertainty, which is typically negative for financial markets.
  • In addition, U.S. population trends are negative for long-term economic growth, until a long-term policy solution increases the current pace of legal immigration.
  • Democrats: Want to continue birthright citizenship (whereby a person born in the U.S. is a citizen), a path to legal status and citizenship for undocumented immigrants and reject a complete U.S.-Mexico border fence.
  • Republicans: Generally favor a completed border fence, but disagree on all other policy points for 2017 and beyond. Some favor ending birthright citizenship and a path to citizenship for undocumented immigrants. Others favor giving undocumented immigrants a way to gain legal citizenship.
  • Role of the key factors: Disagreements among Republicans suggest that uncertainty about immigration policy could continue under a Republican president, possibly even if the Republicans also control Congress.

Policy Issue: Future of the Affordable Care Act (Obamacare)

  • Democrats: Support the Affordable Care Act but not necessarily a single-payer system.
  • Republicans: Mainly favor repeal. If the Republicans can hold the House and Senate and can capture the White House, they probably will seek an outright repeal. Until the Republicans can offer an alternative, however, a repeal attempt is likely to be delayed.
  • On prescription drug costs, there seems to be ample room for cross-party collaboration. Both Democrats and Republicans generally speak in favor of restricting drug-price inflation.
  • Role of the key factors: In the event of a divided government, repeal looks unlikely. In the event of strong intra-party disagreement among the Republicans (especially on an alternative plan), overturning all or even part of the Act may be very difficult.

Policy Issue: Foreign Policy and Trade Policy

  • Issue #1: The Middle East is in the midst of a cross-border, regional civil war that is gradually redrawing the borders for much of the region. In that conflict, the extent of the U.S. military commitment to defeat the Islamic State (IS) has implications for U.S. public sentiment and perception of the U.S. in the region. An extended new involvement of U.S. ground troops potentially could be negative for financial markets.
  • Republicans: The Republicans are divided on whether to support the use of ground troops against the IS.
  • Democrats: The Democrats generally do not support using ground troops against the IS.
  • Issue #2: The most important trade decisions are whether:
    • To ratify the Trans Pacific Partnership, a trade pact among a dozen countries around the Pacific basin (but excluding China); and
    • To support the Trade Promotion Authority, which allows expedited legislative consideration of the deal.
  • If finally ratified, the pact could benefit those industries and companies most oriented to exports, including, but not limited to, financial services, agriculture and food processing, and large consumer products and manufacturers.
  • Republicans: Have found no clear consensus regarding the Trans Pacific Partnership and the Trade Promotion Authority.
  • Democrats: Reject the Trade Promotion Authority, but hold mixed positions on the Trans Pacific Partnership.
  • Role of the key factors: U.S. foreign policy is the purview of the president, but Congress plays a key role in ratifying the policy choices. Across both parties and issues, there is potential for agreement on avoiding new troop deployments to the Middle East and potential for ratifying the treaty. However, whether agreement comes easily or with difficulty should depend on how well Congress and the new president collaborate, and we believe that it is too early to predict the outcome.

1 “Five Months Into GOP Congress, Approval Remains Low at 19 Percent”, Gallup, May 13, 2015.
2 “Make no mistake: Obama just tried to undercut Bernie Sanders,” Washington Post, January 25, 2016, https://www.washingtonpost.com/blogs/plum-line/wp/2016/01/25/make-no-mistake-obama-just-tried-to-undercut-bernie-sanders
3 Election dates provided by “Election 2016 Calendar”, Wall Street Journal, September 10, 2015, http://graphics.wsj.com/elections/2016/calendar/. Delegate counts calculated from “2016 presidential nominations: calendar and delegate rules”, Ballotpedia.

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