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In the past 100 years, a clear pattern has been in place. The stock market has tended to trade in a similar fashion in each of the four years of a presidential cycle — that is to say, first-year results are similar from term to term, and so on. The logic behind such rational price action is quite simple: Presidential economic policies tend to follow predictable patterns that boost the chances a President (or his party) will stand a better chance of re-election.
For example, the first-year of a new term is characterized by policies that represent a break from a predecessor's policies, usually based on populist-oriented policies that were made during the campaign season. This “feel good” environment has, on average, generated an 8.8% gain in the first year of a new presidential cycle, according to veteran Wall Street strategist Mark Hulbert.
But once in office, presidents realize they will eventually need to rein in any policies that may lead to economic problems down the road. So by their second year in office, they are often looking to raise taxes, close loopholes, veto pork-barrel spending and enact other tough love measures. Think of Ronald Reagan's second term, when he agreed to a series of tax hikes in 1986. He would never have done so if his party had been faced with an imminent presidential election. That's why markets have historically been flat in the second year of a presidential term.
By year three, the President realizes voters will soon be thinking of the next election. In the ensuing months, the opposition party will step up its critical rhetoric and the field of potential candidates will start to come into focus. In response, the President will offer up a set of stimulative measures that will hopefully have the economy on a solid growth path a year later when the primaries and the election actually takes place. That helps explain why the stock market rises a whopping 15.5%, on average, in year three of the election cycle.
By the final year of a presidential term, the market tends to rise a respectable, though slightly subpar, 4.1%. The implications of why that is the case is unclear to me. It's important to note that these cycles are calculated from September 30 to September 30, as that is the date generally regarded as the point when who the next president will be has been largely decided. It also coincides with the government's fiscal year, when various policies take effect.
How exactly does one unwind a Ponzi Scheme? People like Bernie Madoff have done a fine job showing investors, and eventually the American public, how to build one up. Essentially, you use the contributions from incoming investors to pay â€œprofitsâ€ out to departing investors. And you repeat this process for as long as the incoming checks are larger than the outgoing checks. When the inevitable tipping point finally arrives â€“ and there isnâ€™t enough new money to pay off all the old money â€“ you skip the border and leave your clients waiting for their next share of the profits…and waiting…and waiting.
To describe American Social Security as such a scheme wouldnâ€™t be much of a stretch. For a system with so many complicated facets, advanced accounting and half-truths, there is one absolute fact: Social Security is not taking in enough money to write all the retirement checks it is obligated to write over the next couple of decades.
So last week, President Obamaâ€™s Bipartisan Deficit Commission set out to begin unwinding the scheme. Their proposal, like most things from Washington, was ambiguous at times and difficult to understand. Some suggestions included â€œcreating a new bendpoint,â€ â€œreducing replacement factors,â€ and â€œphasing into a higher taxable maximum.â€ But stripped down to the essentials, the plan has some merit. Here are the basics:
- The retirement age will go up to 68 by 2050 and 69 by 2075
- The government will make â€œhardship exemptionsâ€ for people 62 or over who are physically unable to work
- There will also be a minimum SS benefit for those making very little income
- The rich will likely be eligible for fewer benefits while having to contribute slightly higher FICA taxes.
- Cost of living adjustments will be gradually reduced by using a different measure of inflation (Chained CPI)
How does a government back its way out of an accidental Ponzi? Well, something like this proposal. In abstract terms, the Social Security system either has to pay out less, take in more, or both. That means lower benefit payments and/or higher taxes.
And to the credit of the Commission, this proposal would work just fine. Everything about it is built to please both Democrats and Republicans â€“ or rather, to displease both Democrats and Republicans. For starters, the commission is co-chaired by a member of each party, lest the whole thing be billed as a scheme to usurp power by the â€œliberal elite,â€ the â€œradical rightâ€ or some other political affiliation that actually makes most people nauseous.
Then thereâ€™s the mechanics of the proposal. To appeal to the left, there are several provisions aimed at the underprivileged and disadvantaged. In essence, no one who REALLY needs a retirement insurance plan will be hung out to dry. Those dastardly â€œtop earners,â€ on the other hand, will have to pay more. And the leftâ€™s precious â€œmiddle class Americaâ€ will be just Goldilocks…tucked in that warm sweetspot of relatively few benefit cuts and minimal tax increases.
For the right, the whole plan should appeal to the true blue Republicans (are there any?) that value fiscal responsibility above all. Allegedly, for every $1 of higher taxes in this plan, thereâ€™s $3 in spending cuts. Of course, hiking taxes sounds like nails on a chalkboard to that crowd, especially during a recession. But the plan also proposes to cut individual tax rates to a maximum 23%, which would counteract the higher FICA taxes that would help pull Social Security out of the red.
So, what weâ€™ve got here is a fair, bipartisan proposal. Itâ€™s flawed, of course, like any other first attempt. But is it that insufferable? Apparently so:
- â€œThis proposal is simply unacceptable,â€ lame duck Speaker Nancy Pelosi said flatly, and in the same breath insisted we â€œdo what is right for our children and grandchildrenâ€™s economic security.â€
- â€œWeâ€™re not talking about cuts in Social Security,â€ blackballed Jim DeMint, supposedly one of the biggest Republican debt and deficit hawks. He promised to somehow fix this mess â€œwithout cutting any benefits to seniors or veterans.”
- â€œEspecially in these tough economic times, it is unconscionable to be proposing cuts to the critical economic lifelines for working people, Social Security and Medicare,â€ said AFL-CIO President Richard Trumka. â€œThe very people who want to slash Social Security and Medicare spent this week clamoring for more unpaid Bush tax cuts for millionaires.â€
- â€œDeficit Reduction Plan Draws Scorn From Left and Rightâ€ headlines the liberal New York Times, noting that â€œRepublicans face intense pressure from their conservative base and the Tea Party movement to reject any deal that includes tax increases.â€
- â€œCommission Offers Controversial Solutions to Axe Deficitâ€ reports conservatives at FOXNews
- Even the Independents hate it! The Commissionâ€™s proposal is â€œextremely disappointing and something that should be vigorously opposed by the American people,â€ said Vermontâ€™s Bernie Sanders, the Houseâ€™s only official Independent.
Dear reader, bad-mouthing the Commissionâ€™s proposal on fixing Social Security might be the most bipartisan effort in the history of Washington DC. Alan Simpson, the Republican Co-Chair of the Commission, half joked on Thursday, â€œWeâ€™re entering the witness protection program.â€
Simpson and his Commission colleagues forgot they were in the business of politics. And politics, of course, is the business of being re-elected. It doesnâ€™t matter if none of the changes proposed would be felt for years, and that not a single current Social Security beneficiary would be affected. What does matter is that Nancy Pelosi, Jim DeMint, Bernie Sanders and all their brood can hear the 2012 campaign ads already… â€œPelosi voted to CUT your Social Security benefitsâ€… â€œJim DeMint abandoned his Republican roots and voted to RAISE your Social Security taxes,â€ and on and on.
By even hinting at messing with Social Security, no matter Republican or Democrat, any politician is ruffling the feathers of the greatest golden goose of them all: seniors. Is there any demographic as coveted and important to election results as the grey hairs? No, there isnâ€™t. Seniors, much thanks to the entitlement programs their generation built, have plenty of time and wherewithal to shuffle over to the polls and vote down any candidate with the political fortitude to cut benefits…whether the threat to their actual retirement is real or just perceived.
Thus, the Deficit Commissionâ€™s proposal is dead on arrival, shot down by the most bipartisan hunting party assembled in years â€“ all of whom are acting on behalf of a constituency that claims it cares for future generations, but has historically voted to save its own skin. Entitlement reform? Itâ€™ll have to wait.
â€œDemocrat or Republican, Elephant or Donkey, nothing much ever seems to change,â€ famous bond investor Bill Gross wrote in his monthly letter to investors earlier this month. â€œEach party has shown it can add hundreds of billions of dollars to the national debt with little to show for it, or move our military from one country to the next chasing phantoms instead of focusing on more serious problems back home. This isnâ€™t a choice between chocolate and vanilla folks, itâ€™s all rocky road: a few marshmallows to get you excited before the election, but with a lot of nuts to ruin the aftermath.â€
With that in mind, nuts to you Republicrats, and you too, Bernie Sanders… and to anyone else who wants to reduce the deficit without making a single sacrifice. Interestingly, one of the only Washingtonians making sense last week was President Obama. â€œIf we are concerned about debt and deficits,â€ he said, â€œthen weâ€™re going to have to take actions that are difficult and weâ€™re going to have to tell the truth to the American people.â€™â€™
Well, you know the truth. Ready to take action?
Fixing Social Security… Some Other Day originally appeared in the Daily Reckoning. The Daily Reckoning, offers a uniquely refreshing, perspective on the global economy, investing, gold, stocks and today’s markets. Its been called “the most entertaining read of the day.”
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Fixing Social Securityâ€¦ Some Other Day
The Daily Reckoning is a contrarian e-letter, brought to you by New York Times best-selling authors Bill Bonner and Addison Wiggin since 1999. The DR looks at the economic world-at-large and offers its major players – investors, politicians, economists and the average consumer – some much-needed constructive criticism.