Inflation will persist no matter what happens to taxes



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It will be a big surprise if Jerome Powell & Co. does not announce a drop in their purchases of securities at the Fed meeting this week.

Kevin Dietsch / Pool / AFP / Getty Images

Perhaps the old view of death and taxes was only half right. What seems really certain is inflation, which is proving to be more persistent than transitory.

After a week of throwing plates of pasta at the legislative wall to see what might be left, the Biden administration proposed a framework of reduced social and environmental spending and tax proposals (see Karen Hube’s story here). What was as interesting as the details were what was left on the cutting room floor, most notably the lead test balloon for a so-called billionaire tax on unrealized capital gains.

While high earners with annual incomes over $ 1 million would be subject to surtaxes on their ordinary income, as well as on capital gains and dividends, those earning only six figures would keep their tax rates below those of the 2017 law on tax cuts and employment. However, estate tax exemptions would return to their previous levels of around $ 6 million per person, up from more than $ 11 million now, but the increase in the base cost on death would survive. Finally, a 1% levy on share buybacks would take effect, but would probably have little impact, as our colleague Bill Alpert explained.

One sector that didn’t hamper goodies much was the municipal bond market, which had hoped for a pick-up in prepayments (which involve the sale of bonds to pay off more expensive debt before its call or maturity date. ) or a new federally subsidized taxable municipal program similar to the Build America Bonds of the past decade.

But for those who would be hit by new income tax surcharges (5% on $ 10 million, with an additional 3% on $ 25 million), munis would now make more sense. In the upper 48.8% all-inclusive federal range, the 1.77% on investment grade tax-exempt bonds would equate to a taxable security at a yield of 3.46%, which is more than the 30-day yield. 3.25% on the

iShares iBoxx High Yield Corporate Bond

exchange traded fund (ticker: HYG).

Still, it’s uncertain whether those taxes will be imposed, given that there’s no guarantee that still-divided Democrats will come together to embrace Biden’s infrastructure and social spending programs.

Greg Valliere, chief US strategist at AGF Investments, believes that even after months of back-and-forth negotiations, the House Ways and Means Committee could change the framework further. Indeed, there is a 40% chance that the whole package could “crash and burn,” he wrote in a customer note. Thus, fiscal policy uncertainty will persist.

Regardless of future spending and tax plans, one thing is certain: the federal deficit is certain to decline, albeit from record levels produced by the measures used to offset the economic effects of the pandemic. This will mean that the Treasury will reduce its sales of notes and bonds, just as the Federal Reserve is likely to reduce its purchases, write Jefferies economists Aneta Markowska and Thomas Simons.

The Congressional Budget Office projects a deficit of $ 848 billion for fiscal 2022, down sharply from $ 2.672 trillion for fiscal 2021, which ended Sept. 30, they note. Even if Biden’s Build Back Better plan is adopted, Mizuho Americas economist Alex Pelle writes that the decline in the deficit since the expiration of the US bailout will exert a fiscal drag that would dampen growth (he is targeting 3.5% next year, about two percentage points below consensus) and reduce upward pressure on interest rates.

As for the Fed’s next week’s meeting, which begins on Tuesday, the big surprise would be that Jerome Powell & Co. does not announce a drop in their purchases of securities. More interesting will be the way they characterize inflation.

On Friday reported that the employment cost index, the most comprehensive measure of labor costs, accelerated to 3.7% year-on-year in the third quarter, as private wages and salaries rose. increased 4.6% from their levels a year earlier, both about half. their rate of increase in the fourth quarter of 2020, which is distinct from the story of the aging supply chain. Rather than transitory, higher inflation seems as inevitable as death and taxes.

Read more From top to bottom of Wall Street: Even if the Fed tightens, easy money will be available. This is good news for stocks.

Write to Randall W. Forsyth at [email protected]


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