The American Rescue Plan (ARP) Act of 2021 - Part 2

Last post our goal was to let clients know how the American Rescue Plan, which included $1.9 trillion dollars of stimulus and relief in response to COVID-19, would impact them as individuals.  Today we will provide our take on how this bill could impact the economy, interest rates, and inflation. 

Before we begin, because of the many recent tax law changes, the IRS has extended the deadline to file your 2020 federal returns until May 17^th.  States will most likely extend their deadlines as well but check with your accountant to confirm.  However, the first quarter estimated tax payment deadline did NOT change, it remains due on April 15^th.

Impact on State and Local Governments

The American Rescue Plan (ARP) will provide support of approximately $350 billion to state and local governments.  In many cases, this is projected to maintain the pre-COVID-19 budgets for many municipalities.  This is important because state and local budgets employ a lot of people and fund many projects.  ARP will help maintain the budgets for most state and local governments which will allow projects to move forward and avoid large layoffs.

Bee Gees and Bell Bottoms

Will this amount of fiscal stimulus bring us back to the 1970’s when inflation spiraled out of control and crushed the economy?  Inflation has been subdued in most advanced economies for decades.  In fact, many central banks have tried for years to increase inflation to stave off deflation.  We believe inflation will certainly be higher over the next several quarters as the stimulus moves through the U.S. economy.  However, we believe this will be transitory and, in a year or two, inflation will again be low around the globe and central banks will be trying to come up with new, innovative ways to move it higher. 

We deem there are too many deflationary forces at play in the global economy to create lasting and runaway inflation.  These forces include globalization, advancements in technology, the gig economy, and ongoing headwinds in the labor market (unless there is a resurgence in Labor Unions, which we think is doubtful – wage inflation is one of the major causes of inflation and many workers continue to struggle to meaningfully grow their wages). 

Portfolio Adjustments

While we think runaway inflation is not a concern, we do believe in the reflation trade.  Certain segments of the market could do well as inflation moves up over the course of the next few quarters.  Value stocks make up many of these segments including financials (the recent record low-rate environment has been difficult for financial stocks), materials and energy, industrials, and real estate.  These sectors could perform well during a reflationary environment where interest rates and inflation are increasing.  Most of our portfolios are well balanced and diversified and should participate in a reflationary scenario.

Our Great-Great Grandchildren

Who is going to pay for all this stimulus?  It is up for debate, but many economists believe (as does the current Administration) that not enough stimulus was provided after the Great Recession, which prolonged the recession and created a drag on economic growth.  President Biden said he believes the risk of not doing enough far outweighs the risk of doing too much.  If the stimulus package jolts the economy back to life and growth and inflation outpace expectations over the next few years, that growth will help pay back part of the debt.  If growth continues to be subpar then the government will be in a pickle.  Fortunately, the debt is being financed at historically low interest rates, which helps, but there is little doubt that taxes need to be raised to offset some of the cost.

Who is Middle Class?

Who is middle class and who is rich?  These questions are much more than just semantics.  The latest stimulus package had a hard cutoff for benefits to individuals who made more than $75,000 (single) or $150,000 (joint).  Many people would argue these limits are traditionally middle class. 

For those interested, there is an income calculator on the Pew Research Center website, which can be found here:  https://www.pewresearch.org/fact-tank/2020/07/23/are-you-in-the-american-middle-class/  Input your state, region, income and size of household to find out where you lie (within their parameters). 

According to the Biden Administration, if you make over $400,000 you are in the upper class and you will be tapped to help pay for the stimulus bill and other priorities of the Administration.  We will be working on tax strategies for those of you who are above this threshold once any new tax legislation is passed.

There will certainly be a variety of unintended consequences from a stimulus package this large.  Investors will create bubbles in certain investments, if those bubbles pop, it will cause a great deal of pain and financial loss. 

We will continue to evaluate our outlook on interest rates and inflation and make corresponding adjustments to portfolios as needed.  As always, we remain balanced and diversified while maintaining a long-term perspective.

The Bond&Devick Team