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WashingtonWise Investor: Episode 31


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Georgia’s Senate Runoff Election Carries Outsized Impact

Control of the Senate—and the fate of President-elect Joe Biden’s policy agenda—will be determined by Georgia’s runoff elections on January 5. What impact could the potential outcomes have on the markets?

In this episode of WashingtonWise Investor Mike Townsend takes a look at the various outcomes of the upcoming Georgia Senate runoff election, what they could mean as President-elect Joe Biden works to implement his policy agenda, and how what does—and doesn’t—get through Congress may impact the markets.

Mike also provides perspective on the sudden momentum on Capitol Hill for another round of economic stimulus; explains what a new law that could result in some Chinese stocks being delisted from U.S. exchanges means for investors; introduces investors to a new face at the Federal Reserve; and examines how Democrats ended up with their smallest House majority in more than a century.  

WashingtonWise Investor is an original podcast from Charles Schwab.

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It’s December in Washington, and that means it’s deal-making season in the nation’s capital. With a bitter election in the rear-view mirror, the holidays approaching, and the end of this Congress just days away, the end-of-the-year scramble that strikes Capitol Hill every December is alive and well.

That means that an economic stimulus and coronavirus relief package that has been the subject of fruitless debate since the summer suddenly has momentum—but could also fall apart at any moment.

It means that the annual effort to avoid a government shutdown is underway, as Congress struggles to complete perhaps its most fundamental responsibility: approving the yearly funding for every government agency.

And it means that a nominee for a seat on the Federal Reserve Board of Governors who has been in limbo for 17 months suddenly finds himself confirmed by the Senate—yet the timing of his confirmation still generated controversy.

But what’s different this December is that it’s also campaign season … still. The election isn’t quite over. So while this Congress sprints toward the finish line, the new Congress remains in a state of suspended animation, waiting for voters in Georgia to decide which party will control the Senate.

Welcome to WashingtonWise Investor, an original podcast from Charles Schwab. I’m your host, Mike Townsend, and on this show, our goal is to cut through the noise and the nonsense of the nation’s capital and help investors figure out what’s really worth paying attention to.

Today, I want to focus on those unprecedented runoff elections in Georgia that will determine not just which two senators will represent that state in Washington, but will shape the political landscape for the next two years.

But first, let’s look at some of the other news in the headlines right now.

Four things for investors to know.

At the top of the list is the last-minute effort on Capitol Hill to approve a coronavirus aid and economic stimulus package before the end of the year.

Last spring, Congress responded quickly to the initial outbreak of the pandemic, passing four bills in March and April that totaled about $2.8 trillion in aid. All four bills were negotiated in a bipartisan fashion and were approved by both the House and the Senate by unanimous or near-unanimous votes. But in the nearly eight months since then, Congress has been unable to agree to another round of stimulus.

Prior to the election, House Democrats were pushing for a package of at least $2 trillion, but Senate Republicans never showed much interest in more than $500 billion—and their interest in even a package of that size was lukewarm at best. Weeks of talks between House Speaker Nancy Pelosi and Treasury Secretary Steven Mnuchin appeared to close that gap some. Yet a deal never materialized.

But with the election over and a devastating spike in COVID cases around the country, there’s been a sudden flurry of activity on Capitol Hill—and there’s a growing chance that a modest stimulus package gets approved before the holidays.

It started just before Thanksgiving, when a bipartisan group of senators met for dinner to talk about drafting a compromise bill. By early December, they had an outline of a $908 billion package that attracted positive feedback from both sides of the aisle.

This week, the hard part is underway—turning that outline into a detailed legislative proposal that can attract enough votes in both the House and the Senate before Congress adjourns for the year by late next week.

As I’ve said all fall, the markets have been anticipating another round of stimulus either in late 2020 or early 2021. Most analysts, including me, felt that it was more likely that an aid package would have to wait until after the inauguration of the new president.

But now there is real momentum around a package that would reportedly include some money for state and local governments, an extension of the $300 in enhanced unemployment benefits through March, an expansion of the small-business loan program, and money for airlines, Amtrak, education, student loans, rental assistance, and more. Now this is very much a moving target, so the details can and will change. And given the track record of Congress on this topic over the last eight months, it’s possible that the entire plan could fall apart.

But optimism on Capitol Hill that a deal can be reached is higher than it has been for months. And that would be a positive development for the markets, adding fuel to a market rally that has seen the S&P 500® rise almost 10% since Election Day.

The second thing happening on Capitol Hill right now is the effort to avoid a government shutdown at the end of this week.

Each year, Congress is required to pass the 12 appropriations bills that allocate federal funding to each government agency and every federal program. Lawmakers are supposed to finish that before October 1, the start of the government’s fiscal year, or risk a government shutdown. This fall, with the deadline approaching, Congress had passed exactly zero of the 12 appropriations bills. But neither party wanted to shut down the government right before an election, so they agreed to a temporary extension of all government funding through December 11.

Now that new deadline is here, and Congress still has not passed any of the 12 appropriations bills. Lawmakers from both parties have been trying to package all 12 into one massive bill but have not been able to agree on all the details. So they decided to pass a one-week extension to give them more time to reach a deal.

A government shutdown would be very disruptive to the markets, and we continue to think the odds are low of that happening. But if they can’t come to an agreement in the coming week, it is widely believed that they will pass another extension—perhaps to February or even March—and allow the new Congress to figure it out in early 2021.

The third thing for investors to know is that last week the House of Representatives unanimously approved a bill that could eventually force some Chinese companies to delist from U.S. stock exchanges if they won’t allow U.S. accounting regulators to inspect their books. The Senate approved the bill last spring, so now it’s headed for the White House, where the president is expected to sign it into law.

So what does this mean for investors? Well, for now, it doesn’t really mean anything. While at least 30 Chinese companies are affected, including some popular stocks like Alibaba, the new law would require that companies be delisted only after three consecutive years of non-compliance. So nothing is going to happen anytime soon.

In a related development, I’m expecting the SEC to propose its own rule in this area before the end of the month. That rule could be on a faster timetable—with Chinese companies that refuse to let inspectors from the U.S. Public Company Accounting Oversight Board review their audits possibly being delisted as soon as 2022. But that proposal has not been put forward yet, so we don’t know the exact details, or how it will work together with newly passed legislation.

The bottom line for investors is that while both policy developments are worth keeping an eye on, neither requires any action on the part of investors right now. There’ll be plenty of time to review the details before making any moves related to your holdings of Chinese companies. And China has indicated that it will work with United States regulators to try to resolve the issues in the coming months.

And the final thing for investors to know: There’s a new face at the Federal Reserve. More than 17 months after President Trump first announced his intention to nominate Christopher Waller to one of two open seats on the Federal Board of Governors, Waller was confirmed last week to the seat.

The vote was a razor-thin 48 to 47 in the Senate, with no Democrats supporting Waller’s confirmation. But that was less about Waller’s qualifications—as a long-time economist at the St. Louis Fed, he was widely seen as a relatively non-controversial pick—and more about frustration with the timing of Waller’s confirmation during a lame duck session of Congress. No Fed nominee had ever been confirmed during a post-election session of Congress until Waller. Democrats felt like the proper thing to do would have been to wait for President-elect Biden to make a nomination to fill the seat after he is inaugurated in January.

But while the confirmation of Waller may have violated historical precedent, there’s little question on either side of the aisle that he’s a qualified choice who will fit right into the current Fed board, with mainstream views on the economy, interest rates, and monetary policy.

That’s a contrast to President Trump’s nominee for the other vacancy at the Fed, Judy Shelton. Shelton has a long history of controversial views that ultimately doomed her nomination after several Republicans refused to support her in a procedural vote last month.

So Waller is in and Shelton is out. And President-elect Biden will have one vacancy to fill at the Fed early in 2021.

On my Deeper Dive this week, I want to focus on what the entire political world is focused on: the unprecedented situation in Georgia, where both Senate seats—and the balance of power in the Senate—will be determined in a pair of runoff elections on January 5.

So how did we get here? Well, two unique factors came together at the same time. The first is Georgia’s unusual election rules. Georgia, along with Louisiana, is one of the only two states in which candidates for federal office must receive more than 50% of the vote in an election in order to win the seat. If no candidate wins more than 50%, the top two candidates advance to a runoff election.

And the second thing that’s strange in Georgia is that this year both Senate seats were on the ballot at the same time.

In the regular election, Senator David Perdue, a Republican, was running for his second six-year term against Democrat Jon Ossoff. Perdue captured 49.7% of the vote to 47.9% for Ossoff. But the presence of a third-party candidate kept Perdue just shy of that 50% threshold, so Perdue and Ossoff will face off on January 5.

The other seat was not supposed to be on the ballot this year—Senate terms in every state are staggered so that the state’s Senate seats are up for election in different years. But one of Georgia’s senators resigned due to health reasons at the end of 2019. Kelly Loeffler, a Republican, was appointed to fill the vacancy for 2020, but a special election was held in November to determine who would serve out the remaining two years of the unexpired term. Whoever wins the seat will have to run again for his or her own six-year term in 2022.

There were 20 candidates in the special election, including Senator Loeffler. The wide-open field of candidates meant that no one received anywhere near 50%. Democrat Raphael Warnock was first with 32.9%, followed by Loeffler at 25.9%, so they advanced to the runoff.

Of course, there is one other important factor that makes this situation historically unprecedented. As luck would have it, the Senate margin for 2021 currently stands at 50 Republicans and 48 Democrats, including the two independent senators who caucus with the Democrats. If both Democrats prevail in the Georgia runoffs, that will create a 50-50 tie in the Senate. Ties are broken by the vice president, meaning that Vice President-elect Kamala Harris would be that tiebreaking vote after she takes the oath of office—and that would give Democrats the absolutely slimmest majority possible.

But if one or both Republicans win on January 5, then the Republicans will maintain a narrow majority in the Senate for two more years.

The uncertainty has even stalled preparation for the 117th Congress, which begins when lawmakers are sworn in on January 3—two days before the Georgia runoffs. Normally, December would be filled with planning for the new Congress, with leaders determining things like which senators will be committee chairs and what the ratio of Democrats to Republicans on each committee will be.

But these processes are frozen until the results are in from Georgia. At this point, it’s not even clear whether Senate Majority Leader Mitch McConnell will continue in that role for another two years or whether the chamber’s top Democrat, Senator Charles Schumer of New York, will take over.

For President-elect Joe Biden, the outcomes in Georgia next month have even bigger implications: They will literally determine what parts of his policy agenda are achievable in 2021 and beyond. If Democrats win the Senate majority, then the president-elect will have much more flexibility to pursue his policy agenda over the first two years of his presidency. The narrow margins in both chambers mean he would likely have to focus on more centrist policies in order to maintain the support of the moderate members of his own party on Capitol Hill.

But if Republicans maintain their Senate majority, then they would have the ability to block much of the new president’s agenda. Biden would have to dramatically scale back his plans to the limited number of issues on which the two parties could find common ground. Campaign priorities like aggressive energy and climate change policies, health care enhancements, and tax increases on the wealthy would likely have to be shelved.

And the challenges would begin almost immediately, with a Republican-controlled Senate potentially able to block some of the president-elect’s Cabinet nominees, all of whom need Senate confirmation. Historically, a lot of deference is given to the new president to select his Cabinet nominees, but if Republicans retain their Senate majority, expect them to give at least a couple of Biden’s choices a very tough time in the confirmation process.

So what do I think will happen in the Georgia elections? Well it all depends on turnout.

The state was the most closely contested battleground of the 2020 presidential race, with Biden winning the state’s 16 electoral votes by a margin of about 12,000 votes out of 5 million cast. Although the state has certified the outcome after a hand recount and a machine recount, President Trump continues to dispute the result. Biden was the first Democrat to win the state since 1992.

There’s no question that Georgia’s role as a key battleground state in the presidential election spurred increased turnout on both sides. The unknown is whether that will translate to the Senate runoffs.

Will Republicans who came out to support the president in November return to the polls to vote for two Senate candidates in January if President Trump is not on the ballot?

Will Democrats who were energized to defeat President Trump show the same enthusiasm for voting for two challengers in the Senate races?

The answers to these questions will determine the Senate result. The Republican candidates are likely slight favorites, given Georgia’s Republican lean over the last two decades. But the state is clearly trending purple, and most observers are calling the two races toss-ups.

The money flowing into Georgia for the runoffs is staggering, and the national attention on the two races will be unrelenting over the next three and a half weeks. I’m not confident that polling will give us an accurate take on the races, given the uncertainty around turnout, so view any polls you see with a hefty degree of skepticism. We’ll just have to wait until January to see what happens. And as with the November election, hundreds of thousands of voters are expected to vote by mail. So it could take a while to count all the ballots and determine the outcome—we may not know the results for a few days.

For investors, the biggest concern is likely the uncertainty over whether there will be tax code changes in 2021. On the campaign trail, Biden discussed a number of potential tax  priorities, including an increase in the corporate tax rate, taking the top individual tax rate back to 39.6%, taxing capital gains and dividends as ordinary income for filers earning over $1 million per year, making changes to the estate tax, and capping itemized deductions for wealthy filers, to name just a few.

But those ideas will be non-starters if Republicans retain the Senate majority. And even if Democrats achieve their best-case scenario and forge a 50-50 tie that gives them the slightest of majorities, there is not Democratic unanimity on many of Biden’s tax ideas. Biden will undoubtedly have to scale back those proposals to win the support of moderate Democrats in the Senate.

Furthermore, I think some of the most ambitious structural changes that have been discussed by Democrats in recent months—things like changes to the Electoral College, an end to the legislative filibuster in the Senate, and the expansion of the Supreme Court—are also unlikely no matter which party ends up with Senate control. These ideas are impossible with Republicans in control, but there are enough Democrats, including the president-elect himself, who have publicly expressed concern about some of these ideas that I think they are unlikely to be approved even if Democrats win control.

Finally, I want to conclude with my Why It Matters segment. With all the focus on how closely divided the Senate will be no matter what happens in Georgia next month, there’s one other aspect of the recent election that has not received much attention but may be the most surprising outcome of last month’s voting. That’s the historically narrow margin in the House of Representatives.

Pundits had expected Democrats to expand their majority in the House, but the opposite happened. Republicans picked up at least 13 seats in the House, narrowing the Democratic majority to single digits.

We don’t know the final margin yet because of two incredibly close races. According to Dave Wasserman of The Cook Political Report, there were only three House races that were determined by a margin of fewer than 20 votes in 100 years before 2020. But in a result that feels very 2020, there are two such races this year.

In Iowa, the Republican candidate won the state’s 2nd Congressional District by exactly six votes out of nearly 394,000 cast. The outcome is expected to be appealed to the House Administration Committee, which could ultimately decide which candidate is seated.

And in New York, the Republican leads the race for the 22nd Congressional District by 12 votes. But courts are already involved in that case, and it could be a while before the winner is determined.

The outcome of those two races will determine whether Democrats have a majority of five, six, or seven seats in 2021. Either way, it’ll be the narrowest majority the party has had in the House since 1877.

Why does it matter? Well, two reasons. First, it gives House Speaker Nancy Pelosi very little wiggle room to make sure her party is united. A small group of progressives could wield outsize power if they withhold their support and force Pelosi to move to the left to win their votes.

And second, it makes Democrats even more vulnerable in 2022. Midterm elections are historically terrible for the incumbent president’s party. In the House, going back to the Civil War, the president’s party has lost seats in 37 out of 40 midterm elections. The average loss has been 33 seats. With only a single-digit margin, Democrats will have an uphill battle to maintain their majority in 2022.

Well, that’s all for this week’s episode of WashingtonWise Investor. We’re going to take a break for the holidays, but we’ll be back with a new episode shortly after the new Congress takes office in January.

Please take a moment now to subscribe so you don’t miss an episode in 2021. And if you like what you’ve heard, leave us a rating or a review on Apple Podcasts or your favorite listening app—those ratings and reviews really do matter.

For important disclosures, see the show notes or, where you can also find a transcript.

Finally, as we come to the end of 2020, I want to take a moment to thank the incredible team who works so hard behind the scenes to make this podcast a success. To Gay Matthes, Patrick Ricci, Nathan Crenshaw, Melanie Garvey, Deborah Hinton-Brown, and Pete Knezevich—a thousand thank-yous. I literally couldn’t do it without you.

I’m Mike Townsend, and this has been WashingtonWise Investor. Wherever you are, have a happy holiday, stay safe, stay healthy, and keep investing wisely.

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