The US midterm elections are traditionally a difficult milestone in the US presidency for the ruling party, and have implications for financial markets.
President Joe Biden has only been in office for a little over a year, but time is already running out for the Democrats. The midterms are slotted for the fall – and they are likely to result in a new balance of power in Washington. That’s not good news for the Democrats. They still hold a slim majority in Congress. But experience has shown that the White House usually loses the midterms. The fact that, according to American poll website FiveThirtyEight, Biden is one of the most unpopular presidents in US history doesn’t help. This political uncertainty could also cause additional turbulence on stock markets.
Since 2021, the Democrats have controlled both chambers of Congress and held a majority in both the Senate and the House of Representatives. However, their majority is extremely shaky. In the Senate, which has 100 members, the Democrats have 50 votes, two of which belong to independent senators. Since Vice President Kamala Harris has the casting vote, the Democrats can win by a hair's breadth in the event of a stalemate. The situation is not much more comfortable in the House of Representatives, where 222 Democrats face 212 Republicans. For a majority, 218 votes are required.
This constellation leaves no room for dissent within their own ranks, a painful lesson that the Democrats have already learned. In its current form, Biden’s “Build Back Better” prestige project is thus on the brink of failure. Democratic Senator Joe Manchin has announced that he will vote with the Republicans against the package. It provides for spending on social programs and climate protection measures amounting to US 1.75 trillion dollars.
After the midterm elections on 8 November, it could become even more difficult for Biden to push through his policies. All seats in the House of Representatives and one-third of the seats in the Senate will be up for election. The probability that the Democrats will lose the majority in both chambers is significant.
Hardly any US government is immune to setbacks in the midterms. For example, in 2006, the “Grand Old Party” lost its majority in both chambers under George W. Bush. In 2010, the Democrats suffered heavy losses under Barack Obama, and in 2018, the Republicans experienced a blue wave under Donald Trump. An analysis of midterm elections since the postwar era shows that the party in power has gained seats in the House of Representatives only twice, in 1998 under Bill Clinton and in 2002 under George W. Bush. In the Senate, the party in power usually does somewhat better, but here, too, seats are usually lost. It’s unlikely that this fall’s midterm elections will be the exception to the rule. On the contrary, it currently looks like the Republicans’ chances of victory are quite good.
This can be deduced, for example, from Biden’s popularity ratings. Although he will not be on the ballot in November, history has shown that the more unpopular the president, the more likely that the ruling party will lose seats. And, according to polls conducted by Gallup, an analytics firm, the 79-year-old Democrat’s approval ratings have declined steadily since he took office in January 2021. This kind of voter disenchantment has been experienced by numerous presidents after an initial honeymoon period, however, by the end of January, only about 42% of Americans thought Biden was doing a good job. According to polling data from the past four decades, only Trump was more unpopular after a year in office.
One of Biden’s problems is inflation. It is currently rising as fast as it last did in the 1980s. Market observers and economists have argued in recent months about whether this is merely a temporary phenomenon. Americans, on the other hand, are increasingly concerned about the rising cost of living. For the White House, the fact that inflation is making itself felt at the gas pump is proving particularly problematic. Why? Because studies suggest that a president’s popularity drops as gasoline prices rise. But it’s not just inflation that’s creating problems for Biden. Voter dissatisfaction about how the pandemic, foreign policy and immigration are being handled is also steadily increasing.
Initial polls indicate that the Democrats will be facing icy headwinds. They lost substantial support in the gubernatorial elections in Virginia and New Jersey last November. The seat in Virginia was eventually won by the Republican candidate, and in New Jersey, the incumbent Democratic governor won narrowly. In both states, Biden had won the 2020 presidential election by a clear majority.
What is happening in politics is also being closely followed in financial markets. To date, the midterm elections have not played a major role on Wall Street: investors are currently primarily concerned with the Federal Reserve’s change in monetary policy. This led to some severe distortions on stock markets at the beginning of the year. However, a look at past election cycles shows that US stock markets have behaved differently in midterm election years compared to other years.
It is therefore quite possible that the congressional elections will once again fuel the already rising volatility on stock markets. For example, the volatility of the S&P 500 Index was 16% on average in a midterm election year (based on data since 1970), and therefore higher than in other years (13%). Moreover, the blue-chip index barely budged in the months leading up to the midterms. It was only a few weeks before the polls, when uncertainty about the election result waned, that the S&P 500 Index started to move upwards.
Things will get even more interesting after the midterm elections: in the past, US stocks continued to play catch-up after the midterms, switching gears into a rally that continued into the following year. Since 1950, the S&P 500 Index has averaged +15% in the twelve months following the election. That’s more than double the gain in all other years (7.1%).
A lot of unexpected things can still happen between now and November. Nine months is an eternity both in politics and in financial markets. What is certain, however, is that the midterm elections will add another element of uncertainty in an already volatile market environment. Moreover, the end of the midterms won’t herald in a quieter period in American politics: they are regarded as the unofficial starting signal for the next presidential elections.