| Andy Lewin |
By Andy Lewin
As we near the end of this volatile political cycle, the media narrative now focuses on the rapid ascendance of the Tea Party, which has surged from nonexistence to relative political dominance within a year. As the media and other observers struggle to predict how long the Tea Party movement will last, who its leaders are, and how well it will or will not work with the Republican Party, an equally relevant question at this point in the cycle is how Tea Party-backed candidates might govern as members of the House and Senate.
Christine O’Donnell’s stunning win in Delaware led to a week of Democratic relief as observers across the spectrum assumed that O’Donnell can’t possibly win in November, and Rep. Mike Castle’s defeat in the GOP primary put the Senate majority out of reach for Republicans. Both of those assumptions may prove to be wrong.
Nate Silver’s respected political blog, FiveThirtyEight, gives Democrats a 35% chance of keeping the House majority. Historically, it is extremely rare for the House majority to switch without the Senate also changing hands. Only twice in the last 100 years has the House flipped without the Senate following suit. The last time it happened was 80 years ago, in 1930, during the Hoover administration.
Regardless of the electoral outcome in November, Republicans are guaranteed to have an influx of new members in the House and Senate next year. So what would a strong Tea Party presence mean for financial markets and the economy? The answer to that question is critical to investors trying to figure out how the new political world will look. Trying to assess political risk and make sense of the unpredictable Washington factor is challenging enough in a normal cycle. In this cycle, which has been dominated by Tea Partiers who favor confrontation over compromise, it will require a constant focus on inside-the-Beltway antics.
It’s anybody’s guess what a strong congressional Tea Party presence would mean for the hedge fund world. Tea Party members and Republicans generally would likely agree to oppose discriminatory changes to carried interest taxation and would probably oppose attempts made during the Dodd-Frank process to effectively tax hedge funds to pay for systemic risk regulation. At the same time, populist Tea Partiers tend to distrust Wall Street and big banks as much as those on the left and, like most members of Congress, many of them likely wouldn’t distinguish between Wall Street and hedge funds.
On tax policy, it won’t be hard for Tea Partiers to push House and Senate Republicans to make permanent the 2001 and 2003 tax cuts, from marginal rate reductions to cuts in dividend, capital gains, and estate taxes. Whether they’ll have the votes to override an Obama veto is the real question. How Republicans plan to simultaneously extend the tax cuts, at a cost of approximately $4 trillion over the next decade, and lower the national debt (another Tea Party rallying cry) isn’t all that clear.
On the spending side, it doesn’t take much more than a trip to defundit.org to figure out that starving the new health care law of funding for implementation will be a high priority for new Tea Party members. The House Republicans have already made health care repeal a core plank of their new “Pledge to America.” Should they retake the House majority, Republicans could vote to defund the entire health care law, which would have no chance of passing the Senate or surviving a presidential veto.
They would have a better chance of passage for initiatives that would lower taxes and regulation in a more targeted fashion. A new majority interested in chipping away at the health care law might instead decide to focus on the new taxes and fees that will hit businesses and individuals. Medical device makers and pharmaceutical manufacturers and importers face nearly $50 billion in new taxes and fees over the next decade. Instead of swinging for the fences, a Republican majority could decide that rolling back parts of the new law and cutting taxes provide a double benefit.
The 112th Congress that begins in January 2011 will not only be faced with Tea Partiers’ expected stances against taxes and spending, it will also have to decide whether to reauthorize the highway bill and the farm bill, both of which will expire by 2011 and 2012, respectively, and neither of which Tea Party members may be inclined to support. Extending both would likely cost over $100 billion, targeted to what Tea Partiers might view as wasteful spending. Both spending bills should provide a fascinating glimpse into what could be uneasy alliance between the Tea Party and the GOP.
Andrew Lewin is a principal at The Podesta Group, a Washington, D.C.-based bipartisan government relations and public affairs firm.
