Is the Door Slightly Ajar?

Well its official… the US did not fall off a cliff as a result of the recent Presidential election. Despite the socialist rhetoric that preceded the election and the subsequent post-election ostentatious victory claims from both side of the aisle (note: Republicans point to their victory in Congress as evidence that the majority of the electorate support their position).

As the election dust settled investors were treated to their first bout of political grandstanding related to the looming fiscal cliff. John Boehner claims that the US Congress is ready to be lead. Of course whether Congress follows will hinge on whether the President is willing to match tax increases with spending cuts.

I read that to mean that Congress has moved towards the center. The willingness to engage in discussions around tax hikes is a major step forward which could gain some traction if the President took steps to the center with some matching tax reductions.

The President responded to Boehner’s leadership plea by suggesting that his re-election affirmed America’s support for a “tax the rich” strategy. To that end he promised to veto any bill that would extend tax breaks for wealthy families who earn more than $250,000 per year.

Such mind-numbing veracity after an election is to be expected. When you consider that the President and a lame duck Congress must engage in serious fiscal cliff negotiations neither side wants to weaken their negotiating position.

And that in my mind is the key takeaway. What we witnessed last week was the preamble to a negotiation. Such grandstanding is meant to outline a position followed by an exclamation point. The compromise can be found by reading between the lines.

The Republicans seem willing to move off their zero tolerance policy against revenue hikes. The exclamation point was an allegation that taxing small businesses earning over $250,000 would stymie job creation and push the country into a recession! Read that to mean that the $250,000 annual income threshold is a political hot button.

It is unlikely that a Democratic President will match revenue increases with immediate spending cuts. But the President did put the $250,000 annual income number in play by using his veto as the exclamation point. I think there is a deal here if the President is willing to re-characterize his definition of wealthy via a subtle shift in his $250,000 annual income line in the sand. Say raising the tax the rich bar to something north of $500,000?

With a subtle shift in how we define wealthy both sides could claim victory. Congress could adjourn knowing that initial negotiations lead to some resolve. Investors would welcome any movement that gets the US closer to the center. And in the process we would spawn green shoots that may well support grazing rights for bulls. The surprise would be a resolution to the fiscal cliff that would set in motion a serious rally in stocks. Obviously I do not think that is not the most likely outcome!

More likely we will see minor movements from both sides which will end in an agreement on some of the lessor issues – income thresholds, tax extensions, etc. – and that will push the deadline for final resolution somewhere into the second quarter of 2013.

Congress would adjourn, Washington will engage in the pomp and ceremony to welcome the new establishment, investors will forget the fiscal cliff as it moves to the back pages and markets will continue to trade in a range bounded by uncertainty.