Although much of 2017 represented a series of fits and starts in Washington, the Trump administration and the Republican-led Congress ultimately – and against long odds – delivered on one of their biggest campaign promises: a relatively sweeping rewrite of the tax code, representing a likely boost to 2018 U.S. real GDP of 0.2%–0.3%.
As we turn to 2018, a key question for investors is will momentum beget momentum with Congress delivering more pro-growth policies, or will Washington revert to its steady state of paralysis? Here is what we see on the horizon for 2018.
While infrastructure was a key theme during the 2016 campaign and has strong support among Democrats on Capitol Hill, as of now, we do not see significant traction being made in 2018.
This prognosis would have been different if the Trump administration had led with infrastructure in early 2017, at which point a bipartisan deal would have been likely. But given events of the past year and the Democrats’ hope for success in the November midterm elections, Democrats – who are critical to getting the needed 60 votes to pass infrastructure in the Senate – have little incentive to compromise. They will likely insist on a very substantial package as a precondition (and one much larger than the $200 billion the administration is rumored to be envisioning), which is likely a non-starter for most congressional Republicans.
We are similarly skeptical we will see anything meaningful passed on welfare reform. While welfare reform can pass using reconciliation (which requires only 50 votes in the Senate, not 60), those votes will likely be hard to find given the difficult politics around welfare and entitlement reform, especially in an election year.
Government funding and the debt ceiling
While bipartisanship is in short supply these days, several fiscal deadlines may force compromises, including the upcoming deadline this Friday, 19 January, to fund the government. While the risk for a government shutdown is arguably the highest it has been in recent history, we expect political expediency to prevail, a shutdown to be avoided and an ultimate agreement to result that will include a compromise on the Deferred Action for Childhood Arrivals (DACA) program and an increase in both defense and non-defense government spending. Indeed, this increase in “discretionary” spending in addition to natural disaster spending could represent a meaningful increase in government spending compared with 2017 levels and would be another contributor to real growth (we estimate a spending bill would add approximately 0.2% to real GDP growth).
We also see both parties wanting to resolve the debt ceiling, which will likely need to be raised by March; an earlier-than-expected compromise would take a potentially disruptive market issue off the table.
We may also see Congress make progress on unrelated issues, including a banking deregulation bill making its way through the Senate, which could help on the margin to expand credit among smaller banks, as well as a reform bill to update the CFIUS (Committee on Foreign Investment in the U.S.) process, an issue that plays well with the populist wings of both parties.
The most significant action in Washington in 2018 may take place outside the walls of Congress, however. While the president’s heated campaign rhetoric on the issue of trade has thus far failed to result in any meaningful policy changes (with the exception of the U.S. withdrawal from the Trans-Pacific Partnership), we expect President Trump to take more action on trade in the coming months. It is an area where he can effectuate changes without Congress, and it plays well with his political base.
Possible trade policy actions could include tariffs on aluminum and steel in the name of national security, retaliatory tariffs on Chinese goods resulting from the so-called Section 301 investigation into China’s use of American intellectual property, and a potential withdrawal from the North American Free Trade Agreement, especially if the sixth round of NAFTA negotiations later in January are not more constructive.
Read PIMCO’s Cyclical Outlook for 2018, “Peak Growth,” for more insights into global macroeconomics, policies, markets and the implications for investors.
Libby Cantrill is PIMCO’s head of public policy and a regular contributor to the PIMCO Blog.