2014 London Summit - U.S. Overview: Business and Ballots

U.S. Economic Growth Trajectory:

• Ross Milken defines "escape velocity" as sustainable real GDP growth approaching 3%, noting the U.S. economy is currently poised to hit this level.
• The last six months of 2013 recorded a 3.3% average growth rate, the strongest six-month period in a decade.
• The 2.2% annual decline in the first quarter of the current year was attributed primarily to weather-related factors and an inventory correction from the 2013 buildup.
• Forward-looking projections suggest 3% or slightly better growth over the next six to twelve months.
• Auto sales have reached their highest levels since 2007, driven by an aging vehicle fleet necessitating replacement.
• Consumer debt burdens have declined significantly, supporting a more sustainable economic recovery.
• Job growth has averaged 237,000 positions per month, representing a sustainable rate.
• Small businesses (firms with fewer than 50 employees) accounted for 40% of net job growth over the past 12 months.

Housing Market Analysis:

• Jean Soltis argues that current housing credit standards are "too tight," with typical Fannie Mae/Freddie Mac loan FICO scores over 40 points higher than pre-crisis levels.
• Regulatory uncertainty regarding "put-back risk" (the fear that Fannie/Freddie will repurchase bad loans) is identified as a primary constraint on lending.
• New qualified mortgage (QRM) rules and potential FHFA guidelines on three-year payment stability are expected to reduce this uncertainty.
• Resolving housing finance uncertainty could add over 0.5% to GDP growth, translating to an additional 400,000 to 500,000 new housing units and jobs.
• The recovery is hindered by a lack of confidence from lenders fearing regulatory backlash despite government guarantees.

Equity Markets and Volatility:

• Recent equity market declines are attributed to geopolitical flare-ups (Ebola, ISIS, Ukraine) and concerns regarding growth in China and Europe.
• Panelists predict continued volatility until a more definitive growth-oriented trajectory is established.
• A potential 10% further correction in equity markets is considered plausible due to lingering geopolitical risks.
• The market is characterized as a "TINA" (There Is No Alternative) market, where investors remain in risk assets due to a lack of other return avenues, despite low commitment levels.
• Eric Hargreaves notes that while the long-term trend remains favorable, the intermediate-term trend will experience swings based on global events.

Federal Reserve and Monetary Policy:

• Janet Yellen is expected to maintain accommodative monetary policy to address structural labor market scars rather than headline unemployment figures alone.
• Key sub-indicators Yellen monitors include long-term unemployment and involuntary part-time work, which remain historically high despite headline rate improvements.
• Fed policy is likely to avoid raising rates until sub-indicators improve, as the Fed seeks to utilize labor slack to prevent inflation without compromising the mandate for full employment.
• The unemployment rate dropped from 7.2% to 5.9%, with the private sector on pace for its best jobs year since 1998.

Corporate Investment and M&A Activity:

• Corporate reinvestment of profits is at post-WWII lows, though capital investment is beginning to recover in narrow sectors.
• Capital investment is identified as the single most important driver of job growth and wage increases.
• Regulatory uncertainty and administrative pressure (e.g., the blocked AbbVie deal) are creating a hostile environment for M&A, with boardrooms expressing concern over the rule of law.
• Large-cap companies' strong stock prices have improved their purchasing power relative to underperforming small caps, potentially enhancing M&A opportunities.
• The "stock buyback" cycle has largely run its course as investors question the value of buying stock at low historical multiples.

Tax Reform Outlook:

• There is a convergence of ideas between the Obama administration (proposing 28% corporate rate, 25% manufacturing rate) and Republicans (proposing a 25% flat rate).
• Proposals include lowering rates, eliminating tax expenditures, and implementing a minimum tax on foreign earnings to prevent a "race to the bottom."
• Alan Auerbach warns that without tax reform, companies in capital-intensive industries like healthcare may move their headquarters and tax domicile abroad, owned by foreign corporations.
• Political challenges include the requirement for revenue neutrality and the difficulty of addressing pass-through entities (S-corps/LLCs) alongside corporate reforms.
• Gene Sperling suggests a compromise is possible on a minimum tax and harmonization with other developed nations to fix the "hybrid" territorial/worldwide tax system.

Midterm Elections and Legislative Outlook:

• Republicans are favored to gain control of the Senate, with West Virginia, Louisiana, Arkansas, Colorado, South Dakota, and Montana viewed as potential flip states.
• A unified Republican Congress could advance trade agreements, Keystone XL pipeline approval, and specific healthcare fixes (e.g., 30-hour work week, medical device tax repeal).
• Comprehensive tax reform, immigration reform, and entitlement changes are viewed as "tall orders" due to the Senate's 60-vote threshold and partisan polarization.
• Alan Auerbach cautions that while a Republican majority might be more productive, deep structural reforms remain difficult to enact.

Immigration and H-1B Visas:

• Incremental immigration reform, specifically regarding H-1B visas and green cards for university graduates, has bipartisan support but has been stalled due to linkage to comprehensive reform efforts.
• Gene Sperling opposes piecemeal reform, arguing that excluding the broader immigrant population (including those at risk of deportation) is a humanitarian and economic failure.
• Economists across the political spectrum agree that comprehensive immigration reform would boost growth, reduce the deficit, and increase productivity.
• A dual strategy of immigration reform combined with increased college graduation rates for lower-income students is proposed to enhance economic mobility.

Energy and Infrastructure:

• U.S. oil production has increased by 4 million barrels per day compared to five years ago, significantly reducing the oil import bill.
• U.S. natural gas prices (approx. $4/MMBtu) are drastically lower than in Europe ($14) and Japan ($16), attracting energy-intensive manufacturing like fertilizer and steel production.
• Ross Milken supports increased pipeline construction over rail transport for crude oil due to safety concerns, noting the older tank car fleet on railroads.
• Alan Auerbach highlights a contradiction: while energy self-sufficiency has improved, U.S. infrastructure rankings have fallen from the top three globally to approximately 26th/27th.
• Infrastructure investment is seen as a bipartisan opportunity requiring a new funding mechanism, potentially involving greater private sector participation.

Dodd-Frank Regulation:

• Gene Sperling views the Dodd-Frank Act as a positive step overall, though he acknowledges the difficulty in balancing regulatory burden with market flexibility.
• The primary goal of the regulation has been to establish single resolution authority and increase transparency.
• Eric Hargreaves notes that bipartisan legislation exists to exempt end-users and small businesses from burdensome derivative regulations, which could be passed in the upcoming "lame duck" session.
• Both panels agree that the current focus should shift from debating the act's merits to implementing existing rules with greater certainty.