In a research note this week, Dr Oliver said the US election was more significant than usual for equity markets given policy differences between US President Barack Obama and Republican presidential candidate Mitt Romney, and the need to resolve US fiscal challenges.
The ‘fiscal cliff’ has taken on ‘Y2K’ proportions in recent months, as markets worry about the expiration of Bush era tax cuts, payroll tax cuts and extended unemployment benefits that were part of President Obama’s stimulus measures, and cuts to health and defence spending.
Left unchecked, the fiscal cliff, due on January 1, would wipe 4 per cent off gross domestic product in 2013, plunge the US into recession, and reverse gains in global equity markets.
Dr Oliver said: “Ultimately, the fiscal cliff is likely to be averted, helping a continuation in the rising trend in shares. … The most likely outcome is that the fiscal cliff will be cut to around 1.5 to 2 per cent of GDP, with the Bush tax cuts likely to be extended along with some other measures (and) agreement on long-term budget deficit reduction measures next year in return for raising the debt ceiling.”
But Dr Oliver warned that uncertainty around the fiscal cliff and the approaching debt ceiling in the US would make markets nervous in coming months. How the US solves its public debt problem, which is bigger than Europe’s, is a key issue for institutional investors in the fourth quarter.
Much depends on the November 6 US election, says Dr Oliver.
“The election is looming as a potentially significant event for investment markets. In contrast to past US elections, there seems to be more at stake this time around with the looming fiscal cliff and the threat of more sovereign ratings downgrades if the US does not come up with a long-term plan to address its budget deficit and debt.”
The potential upside is markets over-estimating the threat of the fiscal cliff and pricing in too much bad news.
A smooth resolution, as Dr Oliver suggests, could be the next catalyst that extends the global equities market rally into the New Year.
