Notes on the Revolution XXVI Jude Wanniski December 20, 1995

BUDGET BREAKTHROUGH: With Republicans displaying a united front and the White House rattled both by Monday’s stock market nosedive and signs that it was losing the public-relations contest, the President finally agreed to the process which will almost certainly lead to a budget reconciliation. It was clear to GOP leaders yesterday morning that the momentum had shifted to their favor. A 340-to-40 House vote late Monday afternoon in support of the Gingrich position on the budget was all the President needed to make his break with House liberals who had been arguing for a stonewall. There will be plenty of debate over the details, and it may even be early January before a budget is inked at the White House, but we are 99% certain that a 50% capital gains exclusion will be made retroactive to January 1 of this year even if work on the budget is not completed this year. Democrats will argue that there’s no point in retroactivity because those who sold will simply get a windfall. They will be tempted to stretch negotiations into January to pick up the revenue from reneging on the commitment. Gingrich thoroughly understands the importance of Ways & Means Chairman Bill Archer’s commitment to the markets on retroactivity to the first of this year. The practice was originally established by a Democratic chairman of Ways and Means, Rep. Wilbur Mills of the President’s home state of Arkansas, whose word on such matters was as good as gold. 

THE FED SQUEAKS: Conventional wisdom on Wall Street had persuaded itself that the Fed would not cut interest rates unless there was a budget deal. Yesterday’s quarter point drop came against the backdrop of the budget impasse, but Fed Chairman Alan Greenspan was almost certainly on the phone with the White House and Treasury all day Monday during the Wall Street selloff. There always had been plenty of room for the rate cut, inasmuch as all other government instruments except the 30-year bond were already at or below the overnight rate of 5.75%. The effect on the financial markets was obscured by the fact that President Clinton’s press conference was being aired live on CNBC during the period of the Fed announcement. The DJIA was down 12 at the time of the announcement and 15 minutes later had steadied at plus 5. NASDAQ had been rallying during the day on signals from the White House that it expected concessions would have to be made to Gingrich & Co. at the 3 p.m. meeting with the President.

NEWT’S FORECAST: Monday’s 101-point drop in the DJIA was critical in the budget breakthrough because of House Speaker Newt Gingrich’s prediction 10 days ago that there would be a crash in stocks and bonds if there were no budget deal. President Clinton was clearly rattled by the accuracy of Newt’s forecast because of its profound political implications. The President clearly could see that if there were no deal and the market collapse continued, Newt would be able to club him every day from now until next November for the economic decline that would have followed. Bill Clinton, who has modeled himself after Franklin Roosevelt and Harry Truman, had to have seen himself taking his place in American history alongside Herbert Hoover. 

MARKET SWINGS: The bond market clearly rallied on the Fed announcement, making its entire gain of the day in the brief period following the 2:15 p.m. report. The New York Times business page today tries to sell the argument that the stock market boomed because of the rate cut, but those who watched the tape all day surely saw the disconnect. CNBC’s Neil Cavuto noted the relatively slight reaction in stocks, with the DJIA pausing before its later run up -- an advance coincident with cheery reports on a budget breakthrough. We have been advising GOP leaders that there is no way the financial markets can seriously capitalize a budget projection seven years out, no matter how many academics and Wall Street touts say so. The markets are being driven almost entirely by betting on the fate of capital gains -- which represents a real increase in the rewards to successful risk taking that are immediate and can be capitalized immediately. We have been trying to convey this analysis to the White House via one route or another, because there is no mention of it in the mass media. It would further help secure a budget deal if the President were to see that it is in his political interest to protect capgains from those who will still try to chip away at it.

HURRAY, COMMUNISTS WIN BIG! If you have been following our analysis for the last several years, you will know we are thrilled to pieces to see the Communist Party make spectacular gains in the weekend parliamentary elections in Russia. Early reports were pooh-poohed in Washington, but it is now becoming clear that the CP coalition will dominate the parliament -- an astonishing setback for President Yeltsin and his government reform party led by Viktor Chernomyrdin. This is a wake-up call from ordinary Russians who have been impoverished by Yeltsin’s economic policies, which are the residual effects of the “shock therapy” programs promoted by the International Monetary Fund, Harvard economist Jeffrey Sachs and his pals in the U.S. Treasury and at The New York Times, and by Albert Wohlstetter’s punish-the-Russians crowd. The official tax rates in Russia are so high that it is virtually impossible for entrepreneurial capitalism to exist above ground. The system is perfect, though, for a Mafia that protects its friends from the tax collectors for a piece of the action. If the West wants to stop the Communist Party from taking root and thriving as a new experiment in collectivism, it need only encourage Chernomyrdin to adopt a version of the Armey Flat Tax. He has been mumbling about tax reform for years. Maybe now we will see it happen. Thank goodness for democratic Communists. 

DOLE CAMPAIGN: Dole’s latest reversals on the abortion issue have undercut his campaign at the exact moment it was trying to persuade conventional wisdom that he has the nomination locked up. He leads in the New Hampshire poll with 41% of the vote, but Jack Germond in The National Journal points out that only one in four respondents say they are committed to him. Germond, the best of the bunch at presidential horse race assessments, is beginning to smell the longshot possibilities of Steve Forbes.

FORBES CAMPAIGN: We have been encouraging our hero to reorganize his presidential campaign for the push that begins in earnest after the first of the year. He remains by far the best candidate in the field, drawing ever-growing crowds everywhere he goes. He is a solid second to Bob Dole in the early primary states of Iowa and New Hampshire, with roughly 12-to-15% in the polls, and is roughly neck-and-neck with him in Arizona. His professionally-assisted campaign is decidedly second rate, which is to be expected inasmuch as he has nobody in his campaign with any experience in presidential politics. His fundraiser at the Waldorf last week drew a packed house of 1500, but his speech was a so-so recasting of the basic stump speech the crowd had all heard before. He has to broaden his message to get to a higher plateau, I think, but his team seems happy with its progress and resists change. I point out that he’s already spent more on third-rate TV spots than we figured he would need to win the nomination. He is doing as well in California with no paid ads, for example, with 11% of the Field Poll, as he is in the states where he is saturating the air waves. He is taking the week off between Christmas and the New Year to catch his breath and hopefully make some necessary adjustments.