What Does US Political Polarization Mean For US Stock Markets?
We wanted to begin this week with an admission:
We held something back last week.
Musicians used to say that the best bits of their work were left on the editing room floor, literally "cut out" of the master tapes.
In our case, we simply decided to save one of the most intriguing aspects of today's American current political trajectory because, well, there are limits and we wanted to explore this point in some depth.
We are focusing this week about the politicization of how Americans experience the US economy and whether, at some point, these experiences become more factual.
America has been a famously politically divided nation for generations. As Groucho Marx quipped way back in 1954:
These days the US is also, of course, a highly polarized country.
By "polarized" we mean, the extent to which opinions on an issue are strongly opposed and therefore, how divided the country is along political lines.
Most likely you either know or intuit that this problem has been getting worse over time.
In case you'd love a reminder, here is a decent snapshot of the US drift towards extreme polarization via The Economist quoting the Pew Research Center:
So, the US is sharply divided, even versus recent history, which obviously makes it increasingly difficult to find common ground on basic questions of governance and, even, preferred Thanksgiving dishes.
But years of partisan drift are also starting to create new and unexpected challenges. Years of stark polarization having a strange and pernicious impact may be unsurprising when you think about it but some of these trends are worth reflecting on nonetheless.
As Democrats and Republicans gradually live in very different worlds and have little experience of the other side it is very important - as an investor and an American - to try and think about whichever side you are not experiencing.
Well, there is increasing evidence that increasingly political outlooks is determining lived economic experience.
Bear with us: As far back as we have data, voters’ views of the economy used to influence their approval of the president. Now it is the reverse.
For example, in October 2020, with Donald Trump still president, a net 55% of Republicans thought the economy was getting better, according to Gallup. Meanwhile, a net 67% of Democrats were equally convinced it was deteriorating.
Immediately after Joe Biden became president, those shares flipped.
This is a stunning state of affairs and a deeply troubling one. Now there is evidence that this reversal was not a one off but rather, starting to determine people's outlook on the broader economy.
Here is the latest reading from the Michigan Consumer Sentiment Survey which effectively analyzes how confident consumers are feeling at the moment.
Despite a soaring economy, rising wages, record job openings and a notoriously tight labor market, this index is at a 10 year (!) low.
This is pretty incredible and hard to square with nearly every other economic trend we have available with one exception:
Which we have covered in detail before.
And this plunging datapoint starts to make a lot more sense when you look at the same sentiment survey but divided by political affiliation - Republican and Democrat.
What a wild chart. We all live in the same economy (I think?).
For those who identify as Republicans, things look worse even than they did during the Great Recession, and the collapse of their confidence in the last two years is historically unprecedented.
Inflation has to be playing a role here but figuring out how is pretty difficult.
Yes, there are more Republican small business owners and more Democratic teachers and those industries do have different ways of interacting with present economic conditions but fundamentally, we are all still paying for the same gas and groceries.
Republicans may prefer Chik-fil-A chicken sandwiches and Democrats may prefer Chicken Tikka Masala but they are all still buying chicken.
Even if more Republicans - for whatever reason - are affected by inflation than Democrats (which is VERY debatable) we are still experiencing the same economy.
Or at least I thought we were.
Okay, so what?
Well there are two rather important and related takeaways to consider:
One is if Americans start to live not just in different political echo chambers but also different economic realities then that could be a pretty weird development and at some point these sentiments could start to determine actual economic outcomes.
The second broader point is: people increasingly noticing and disliking inflation could be very tough place to implement a long term pro-growth agenda.
In other words, these expectations could become self-fulfilling.
The tradeoffs involved while investing massively now to "build better" for the long term may simply be too politically unpopular if the price is also higher inflation.
There is some evidence that this is already becoming true.
See here, from a recent Harris poll:
Below are two opposing viewpoints on economic inflation, which would you say comes closer to your view, even if it doesn't fit exactly?
67%: Inflation and rising costs harm everyone in the country, and the government should cut back on spending & printing money in order to prevent inflation.
33%: An expanding economy helps everyone, and if a little inflation comes along with an expanding economy, that's ok.
The implication would be, of course, a preference for keeping inflation (and therefore growth) muted.
As we noted above, this is very different from the vibrant, positive and risk taking America of yesteryear. No bueno.
However, there is a silver lining!
See this chart:
From the always very cool FRED database maintained by the St Louis Federal Reserve which suggests that, at least for now, no matter what people say about their consumer confidence, what they are actually doing is buying a record amount of goods.
So, what Americans are actually doing is dramatically different from what they say they are doing.
And we know this to be true because as we have covered in depth every port, train station and warehouse is struggling under the weight of that record demand for goods.
And we all know Americans looooooove consuming so maybe there is hope yet.
In conclusion, the polarization around economic lived experience may not be becoming self-fulfilling yet. At least for now.
But both this shocking divergence and the sentiment around the inflation vs growth tradeoff are worth keeping in mind as we try and handicap whether America can come together and make the types of decisions it needs to invest in itself and overcome its very real obstacles - pandemic and otherwise.
In a highly divided country and one where - even in good economic times - a large minority and possibly even a plurality of the country experiences a very different economic reality from their fellow citizens could be a very difficult and strange place to live and work and invest.
And we haven't even gotten to the critical, seismic and politicized effort to completely transform the economy from one form of energy to the other.
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