In yesterday’s newsletter we asked you to consider where the biggest tax hike in 30 years will lead. That is what the new White House administration is proposing to do to cover the budget deficit. Let’s think now about where it will lead.
Classical economic theory says the following. An increase in taxes on companies, such as income tax from 21% to 28%, leaves less money for the companies themselves. So they have less opportunity to invest in their development.
This is a very important point. Why are stock returns higher than bond yields over the long term? The fact is that bond yields are close to bank interest rates. And companies borrow money from banks to expand production. This means that when they borrow money, they don’t just expect to pay it back with interest, they expect to earn money. Otherwise, private businesses would simply not borrow money.
By leaving companies with less money, once taxes are raised, the US government is taking a very big risk. A decline in investment rates does not just lead to a decline in GDP rates. It hits the entire economy. Demand for labour decreases, wage growth declines, and business activity declines.
How should stock markets react to this, according to that same classical economic theory? At the very least by a decline in growth, and at the very least by a sharp fall.
What will happen after the highest tax increase in 30 years?
Firstly, it must be understood that no one has raised taxes yet. The bill may not pass the US Senate or may be heavily amended.
Secondly, it is worth remembering that the monetary stimulus has turned the economy upside down. If the same issue had arisen 10-20 years ago, with tax hikes, no one would have doubted the future course of events.
And now there are very strong doubts that the markets will react to the tax hikes, according to the economic theory we are accustomed to. After all, they continue to be flooded with newly printed money.
However, we do know what the analysts will say in about 1-2 months, if a hard fall takes place. They will say that this declines were to be expected. And the final nail in the coffin was hammered in by Joe Biden’s drastic tax increases. And, interestingly enough, for once, the analysts will be right.
01.30 Australian retail sales for February
04.00 Bank of Japan interest rate decision
13.30 Canadian retail sales in January
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