U.S. Overview: Big Markets, Big Politics

Panel Consensus on Economic Outlook:

• Panelists rated the current U.S. economy between an 8 and 10 out of 10.
• Bill Lee (Milken Institute) noted the recovery has moved beyond consumer-led growth to an investment pickup, though insufficient to solve income inequality.
• Tony Fratto (Hamilton Place Strategies) described a paradox where macroeconomic indicators are near 10, yet public trust in institutions remains low.
• Steve Kruskos (EY) cited a potential 4% GDP growth next year driven by tax reform and a 40% reduction in regulatory pages since 2017.
• Ross Rostov (Walton Fellow) predicted a sustainable higher growth rate, noting equipment investment and ITC orders have surged in the last six months.
• Jonathan Blair (Womble Bond Dickinson) rated the UK-US business environment positively despite Brexit, citing the merger as a facilitator for transatlantic trade.

Fiscal and Tax Policy Developments:

• The Senate passed a tax bill with a reconciliation process expected to inject $1.5 trillion into the economy.
• Debate on Impact:
  • Panelists view the corporate tax cuts as a long-term structural adjustment to make the U.S. globally competitive, rather than a short-term stimulus.
  • Steve Kruskos warned that if tax cuts fail to spur productive investment, firms may return cash to shareholders, leading to speculative rather than productive asset allocation.
  • Tony Fratto emphasized that the individual deduction expansion was politically necessary to secure passage, given the saturation of lower-quintile tax cuts.
• R&D Concerns:
  • Bill Lee highlighted a risk that the removal of the alternative minimum corporate tax in the Senate bill could undermine R&D tax credits, a discrepancy expected during House-Senate reconciliation.
  • Ross Rostov argued that innovation is now "table stakes" and that government selection of winners often fails, preferring market-driven capital allocation.

Investment Trends and Capital Structures:

• Investment Shift:
  • Bill Lee noted capital investment is at its slowest pace in post-WWII history, though a recent pickup in equipment, software, and IP has occurred.
  • Steve Kruskos observed a decline in "mega-deal" M&A activity, with a rise in transactions valued between $500 million and $1 billion.
  • Jonathan Blair reported significant growth in UK-US cross-border activity and the opening of three new US offices following the firm's merger.
• Private Equity and Innovation:
  • Jonathan Blair noted a shift toward collaboration between large and small firms, with corporations establishing venture capital arms.
  • Bill Lee warned that the "black box" nature of private equity may incentivize firms to go private, reducing market transparency.
  • Ross Rostov identified a decline in new business formation rates relative to the early 2000s, attributing it to a lack of "patient capital."
• Regulatory Environment:
  • Steve Kruskos estimated the cost of regulation to businesses is three times the tax cost, suggesting deregulation could yield significant savings.
  • Bill Lee defined "multi-factor productivity" as the mix of talent, capital, and technology, arguing a better regulatory environment is the "secret sauce" to revive it.

Trade, Geopolitics, and Global Integration:

• Brexit:
  • Jonathan Blair described Brexit as a "mixed blessing" that initially caused tension but ultimately accelerated UK-US commercial alignment.
  • Ross Rostov noted the stall of the Transatlantic Trade and Investment Partnership (TTIP) due to Brexit uncertainty.
• North American Free Trade Agreement (NAFTA):
  • Steve Kruskos and Ross Rostov predicted "cooler heads will prevail," anticipating renegotiation rather than withdrawal.
  • Ross Rostov linked anti-trade sentiment in the Rust Belt to the perceived inequality caused by free trade agreements, motivating his focus on the American heartland.
• China and CFIUS:
  • Steve Kruskos reported a dramatic slowdown in Chinese outbound FDI to the U.S., with the average transaction size dropping to $100 million.
  • Tony Fratto highlighted the Committee on Foreign Investment in the United States (CFIUS) blocking or delaying high-profile transactions (e.g., Ocean Wide Genworth) and the difficulty of completing major acquisitions today compared to the Lenovo-IBM deal of the past.
  • Steve Kruskos argued that a complete halt in Chinese investment would be unsustainable, as China is projected to become the world's largest economy by 2030.

Social and Labor Market Dynamics:

• Inequality:
  • Bill Lee and Ross Rostov agreed that while the economy is recovering, wage growth has not kept pace with productivity, fueling social unrest.
  • Tony Fratto noted that blue-collar workers in the Midwest felt Trump was "fighting for them," even if they doubted the efficacy of his proposed solutions.
• Labor Market Tightness:
  • Ross Rostov observed the tightening labor market is generating the first significant wage gains in blue-collar professions.
  • Tony Fratto identified non-economic barriers to employment, specifically noting that the inability to pass drug tests is a major hurdle for hiring in the Midwest.
• Entrepreneurship:
  • Ross Rostov expressed concern that the rate of new company formation has fallen significantly, though recent confidence in the "rise of the rest" initiatives suggests a potential shift.

Market Stability and Forward-Looking Risks:

• Asset Prices:
  • Steve Kruskos cautioned that asset prices are incredibly high due to distorted global monetary policy (near-zero/negative interest rates), creating a risk of misallocation.
  • Bill Lee disagreed with the bubble narrative, asserting that earnings fundamentals are strong and the productivity of the "fourth industrial revolution" is still being measured.
  • Tony Fratto acknowledged the risk, stating the economy is "dancing on a tightrope" with a looser fiscal stance coinciding with a tightening monetary cycle.
• Monetary Policy Uncertainty:
  • Steve Kruskos criticized the lack of a clear framework for monetary policy normalization, describing current Fed communication as a "seat-at-the-pants approach."
  • Tony Fratto predicted the U.S. might "land on its feet" by sheer luck despite the difficulty of timing the exit from quantitative easing.

Q&A Specifics:

• Audience members questioned the gap between the optimistic economic scores and the outlook for blue-collar workers; panelists acknowledged the disconnect but cited labor market tightness as a corrective force.
• A question regarding public market overvaluation was met with divergence: Kruskos warned of distortions, while Lee argued for the strength of underlying earnings.