The Midterm Election is Over

One of the theories floating around says that Biden wants a September pivot to boost the stock market into the midterm election. Let me count how many ways this is wrong.

1. Voters have memories. The economy was growing in 1992 with a recession having ended more than a year earlier, but President Bush lost reelection because of "the economy, stupid." It would take an extreme reversal in inflation and economic sentiment for Biden to save the Democrats this midterm.

2. It's not worth it. Assuming a stock market rally boosted Democrat performance in the election, would it be enough to hold the Senate? My forecast is not. Prediction markets have a Republican Congress at 75-percent odds. Things can change, but my guess is that's free money. (I bought contracts last year at sub-40 cents and still hold.) The odds are really about 85 percent at this point. Market manipulation might save a handful, or maybe ten House seats. Might save a Senator or two, but it won't save control.

3. It might not work. Gas prices are more correlated with presidential approval than stocks. Where will gas prices be in September? Where are they in November if the Fed pauses? 

4. It's not worth it. What's the cost of a Fed pause? If inflation isn't down yet, then the stagflationary recession that started in January 2022 won't be over. Investors won't see a pause as a prelude to another hike in November, they will see it as a shift in policy. They'll let commodity inflation rip higher. It'll carry on into 2023 and beyond. There probably won't be recession every quarter, but most people will say the economy is getting worse if real growth is low and inflation is high. By early 2023, see George Bush the Elder, the economy will start affecting Biden's 2024 re-election chances and the Democrat congressmen.

5. Go Ahead, Sucker, Bet on Reagan's Reelection

HAVE YOU HEARD the latest Conventional Wisdom? The economy is coming back, so Ronald Reagan is a heavy favorite to win reelection next year. The Democrats are in total disarray; they haven't got anybody who could stand up to the Great Communicator. Fritz Mondale? Hah.

    Turned out the conventional wisdom was right. The economy picked up steam after the recession and Reagan cruised to a landslide victory. His party gained in Congress. Obama saw the same trajectory in 2010 and 2012. He won reelection and his party held the Senate, despite having been hit hard in the 2010 midterm. Modern political history says Biden should accept the loss that's coming this November and pivot to the 2024 election.

Conclusion

The Fed paused all of 2016 before hiking after the November election. I think politics was a big reason for that, but inflation was low then and the economy growing slowly. Inaction didn't trigger a market melt-up. In November 2016 before the election, stocks were marginally higher over the prior 2 years.

If I cherry pick from the October 2014 low, it's still only a 20-percent gain over two years. Decent, but not enough for the Fed to think their monetary policy was too easy.

A pause this time will probably ignite energy and commodity prices, home prices, and so on...assuming there isn't a major market panic between now and September. Major enough that rate cuts don't spark a commodity buying because the memory of inflation will still be fresh. If gas is down to $3.50 in September and a Fed pause sends it back to $4 in November, voters won't care that it is down from the highs, they will fear the dip in gas prices is over.

Biden's best shot for 2024 is to front-load the bad news. Maximize economic losses in 2022 such that 2023 and 2024 are recovery and growth years. He needs to shake everything up. As things stand today, he's cruising to a 2022 defeat, and with a Federal Reserve still timid on inflation, an even larger loss in 2024. 

Finally, the Ultra MAGA branding failed immediately. Republicans are cutting into the Democrat's Hispanic base. Not only could Democrats lose in 2024, but at this rate, they could hand power back to Trump and a GOP Congress that is dominated by newly-elected Ultra-MAGA nationalists. A Congress that will implement the Trump agenda whether Trump himself likes it or not.

In summation, a pause would be a disaster politically and economically, and might even threaten the Federal Reserve because Rand Paul will be a very powerful Senator with many new allies in the House and Senate if the worst-case scenario for Dems and inflation plays out.