COLUMN: Why are USA mid-terms important to us?

It would not be surprising if a fair few of us had a bit of nostalgia with the sudden overflow of the word mid-term. Luckily it has nothing to do with late-night cramming for an exam - the key focus this week is the mid-term elections in America.

As South Africans, we are easily confused by the American political system when it comes to voting with electoral colleges where – for example, you can become president, but not have the majority vote.  So, what are the mid-term elections and how does it affect the US and the markets?

As the name implies, the elections are held halfway between the presidential elections. It is typically a gauge of how well the president is faring in his first two years in office. The key to the election is that voters elect one-third of all US senators and all 435 members of the US House of Representatives. Mid-terms determine which political party — Democratic or Republican — will control each chamber of Congress for the next two years.

Interestingly President Donald Trump's approval rating stands at 40%, which is a cause for concern for the Republicans as the party might lose their grip on the House of Representatives. There has been a big push by Democrats to get voter numbers up this mid-term, which are normally characterised by low voter turnout.

Should the Democrats wrestle control of the House of Representatives away from the Republicans, it will become a lot harder for President Trump to push through additional fiscal stimulus and infrastructure spending through Congress that would have provided additional economic activity.

It will also bring an impasse in Congress regarding trade policy. While this is the most likely scenario, and already priced into the market, we cannot ignore the fact that should the US Congress deadlock, investors will seek new avenues of yield and Emerging Markets (EM's) could be on the front foot. 

There are two other scenarios that could play out with either the Republicans keeping both houses or the Democrats sweeping both. Should the Republicans keep both houses, it will probably be US dollar-positive in the short term and it would be a case of much of the same.

The key point to watch then would be the tiff between Trump and the Chair of the Federal Reserve, Jerome Powell, should inflation increase with the additional stimulus that Trump wants to inject into the American economy.

This will force the Fed to hike rates, which the president is not too fond of. Emerging Markets will probably take the continued strain with Trump looking to implement further trade tariffs if the meeting with the President Xi Jinping of China proves fruitless. 

The other extreme is that the Democrats take both houses. This could have serious implications for President Trump as the likelihood that he will be impeached, will then dramatically increase. The Democrats will undoubtedly put a stop to President Trump's future tax plans and it will be US dollar-negative, which will be good for EM's. 

With a divided house already priced into the market, we can expect a subdued reaction regarding the final results. However, it should be EM positive in the short term as we expect the US dollar to slide after the results are made public. 

To catch up on today’s market commentary, have a look at the TreasuryONE blog which is updated daily.