BCA Research economists have challenged the prevailing market expectations regarding the impact of a potential second term for President Trump, suggesting a shift from anticipated tax cuts to increased taxes through higher tariffs.
Their view contrasts with the widely held belief that a Trump re-election would lead to further corporate tax reductions, favoring stocks over bonds.
The firm points out several issues with the current market consensus. BCA Research highlights that even if Trump was to win, the likelihood of significant corporate tax cuts is slim.
With bond yields already over 4%, a budget deficit at 7% of GDP, and the trajectory of federal government debt being unsustainable, moderate Republicans are expected to resist policies that could worsen the fiscal situation.
Furthermore, the populist shift within the Republican Party may lead to opposition against tax cuts for corporations perceived as "woke."
BCA Research recalls that, despite the initial increase in the 10-year Treasury yield following the 2016 election, the rate experienced a decline by August 2019.
This was attributed to the lack of significant rise in capital spending after the Tax Cuts and Jobs Act was passed, countering the argument that further tax cuts would substantially boost aggregate demand.
The analysis also considers the potential impact of the Federal Reserve's approach to the growing government debt. If the Fed opts not to use inflation to manage the debt, the result could be deflationary due to the need for spending cuts to manage increased interest payments.
On the other hand, fears of the Fed inflating away the debt could drive long-term bond yields higher.
Lastly, BCA Research suggests that other aspects of Trump's agenda, such as higher tariffs and reduced immigration, might temporarily increase inflation but would also likely slow down long-term economic growth.
"The conventional wisdom is wrong: Trump is not going to substantially cut taxes once in office; he is going to raise taxes by jacking up tariffs," strategists said.
"To the extent that this dampens economic activity, it is bad news for stocks but good news for bonds."