Financial markets keeping wary eye on US election

Further spasms in global financial markets could follow today’s US presidential election.

The key issue is going to be only partly whether Democrat Barack Obama gets a second term or whether Republican Mitt Romney moves in to the White House on January 20 [UPDATE: Mitt Romney has now conceded].

Of equal importance will be the make-up of the House of Representatives and the Senate, and what the prospects are for dealing with the country's ongoing economic and fiscal crisis  [UPDATE: Democrats are poised to hold the Senate, while Republicans will comfortably hold the House of Representatives].

The key initial issue will be the “fiscal cliff” – a series of tax and other stimulus measures which expire early next year.

These total more than $US718 billion and if all come to a dead-end stop it would shave about 4.5% off US economic growth in the coming year.

Given the US economy is only growing at a little more than 2%, that points to a firm return to recession, which would pull many other countries with it.

Yet that is highly unlikely. Unless there is a massive clean-out among the House of Representatives there is likely to be sufficient bipartisan agreement to deal with about two-thirds of the measures which expire next year, with some of the lower-cost measures being axed and others being continued.

The political dust-up will be about the measures, worth around  $US249 billion, where there is minimal agreement across the aisle in Congress.

Some nervousness already

The markets have already shown some nervousness over the past few weeks as the outcome of the presidential race looked more difficult to predict, says Harbour Asset Management’s head of fixed interest Christian Hawkesby.

“The markets have been a bit schizophrenic about the outcome – they’ve leaned towards Obama because at least he’s a known quantity, and then they’ve leaned towards Romney because the Republicans are usually more market friendly.

“But in a way that is all a side issue. The bigger issue is not who wins the presidential race but what is the ability going to be to navigate the negotiations over the ‘fiscal cliff’. And that depends on the mix that gets elected in Congress as much as who wins the big race.”

An uncertain outcome from today’s race is likely to lead to financial market jitters, but a more upside scenario is also reasonably possible, he says.

“The risks around the fiscal cliff have been obvious for some time and the markets are already braced for a rough ride – to a certain extent at least some of the risk has been priced in.

“So there’s scope for a positive response if the politicians are able to come up with a deal – a credible deal, that is. If they are able to do that it would give the market a push along.”

Market turmoil possible

More pessimistically, if there is no deal – and/or if, in the shorter term, tonight’s result delivers an uncertain decision for the presidential race – market turmoil could bring a similar jolt to global financial markets of the kind seen last year when the US political system went into gridlock over the debt ceiling debate.

“With New Zealand equities looking reasonably fully priced, it is unlikely our local equity market would be immune to a bout of negative sentiment.”

The other question is what any post-election turmoil, and also any post election surprise settlement, would do to the US/New Zealand currency cross-rate.

Here, Mr Hawkesby says, “it’s a bit of an ironic world”.

Political and financial market turmoil would, paradoxically, see investors push the US currency upwards.

“Despite everything, it is still a safe haven, still the world’s reserve currency, and we will probably see a flight to safety.”

That might take some of the heat off New Zealand exporters battling the high New Zealand currency.