Our Big Beautiful Mess

Bombs Away

As is typical of recent times, there seems to be no rest from endless tape bombs, and more recently, actual bombs. On June 13th, Israel unleashed a surprise attack on Iran’s nuclear facilities, which has led directly to the U.S. bombing Iran in a massive show of solidarity with our Israeli allies. For well over a decade, the world has speculated whether Iran has the capability to build nuclear weapons, but just like with Iraq 25 years ago, the intelligence on the matter is inconclusive. When that’s the case, interested parties will interpret the data according to their worldview, and their political agenda.

Israel has long felt an existential threat from their neighbors in the Middle East - particularly Iran. The hatred of Israel and Jewish people among Muslim nations defies easy explanation. The more extreme Islamic groups have long called for the destruction of Israel, and within many Middle Eastern countries, these radical ideas hold sway within the government. Iran is well-known to be a “state sponsor” of radical Islamist terrorists’ groups, and the free world generally agrees on one thing – Iran cannot be trusted with nuclear weapons. For obvious reasons, Israel is much more hardline than any other nation in this assessment.

The Iran Nuclear Deal, formally known as the Joint Comprehensive Plan of Action (JCPOA), was a landmark agreement reached in 2015 between Iran and six world powers—the U.S., U.K., France, Russia, China, and Germany. The deal aimed to curb Iran's nuclear program in exchange for lifting economic sanctions. Iran agreed to limit its uranium enrichment, reduce its stockpile of enriched uranium, and allow international inspections to ensure it was not developing nuclear weapons. In return, the international community eased sanctions that had been crippling Iran’s economy.

Republicans opposed the Iran Nuclear Deal from the beginning, believing it was too lenient on Iran, giving the country economic relief without ensuring permanent limitations on its nuclear program. GOP members of the House and Senate complained that the deal lifted sanctions too early, failing to address Iran's support for terrorism and destabilizing activities in the Middle East. Critics also felt that the agreement's sunset clauses—allowing some restrictions to expire after a set period—would ultimately enable Iran to develop nuclear weapons. Republicans saw the deal as a flawed concession that could strengthen Iran, undermine U.S. allies, and threaten global security.

Despite the naysayers, Iran handed over stockpiles of uranium that had been enriched to a level of 20%, which experts say was only a stone’s throw away from weapons grade uranium. United Nations weapons inspectors then set a hard limit of 3.67% enrichment, which allows for creating uranium used in electricity generation, but precludes any nuclear weapons applications. However, like practically everything Barack Obama accomplished in his presidency, Trump sought to remove the U.S. from the deal. In 2018, Trump withdrew the U.S. and reimposed severe sanctions on Iran. Unfortunately - all stick, and no carrot doesn’t typically work well.

Even though all the other countries in the JCPOA stayed in the deal, Trump had greatly lessoned Iran’s desire to comply with the terms. It wasn’t long before Iran started to ignore the previously imposed limits. Now experts believe Iran has as much as 400 lbs. of 60% enriched uranium. While not at the 90% enrichment level needed for weapons, it is a significant advancement and considered an amount that would allow for 9 nuclear missiles if further enrichment is undertaken.

So, it’s no mystery as to why Israel decided to bomb Iran, but the general consensus is that they were counting on pressuring the U.S. to act as well. Being our only real ally in the region, and the only stable, democratic country, it was a good bet. Trump knows as well as anyone that an Iran with nuclear weapons is too dangerous to allow. Ironically, the bombing might never have needed to take place if Trump hadn’t removed the U.S. from the Iran Nuclear Deal in 2018.

When it comes to foreign policy, DA doesn’t believe in hard and fast rules. Every situation is different, and there are significant nuances which must be considered. Historically, the Republicans have been in favor of hawkish policies that have tended to lead us into long-term wars (Iraq, Afghanistan, etc.). MAGA, with its “America First” philosophy, is fed up with such exploits. Saturday’s bombing of Iran’s nuclear facilities has created a massive rift in the MAGA coalition, with many of the most prominent members condemning Trump for potentially dragging us into another war. Congress is finally seeing some Republican legislators willing to stand up to deny Trump the sort of unlimited power he seeks, and this seems to be a bipartisan effort regarding military action. It remains to be seen whether this will do permanent damage to Trump and/or the MAGA in general.

Trump is proudly proclaiming that this weekend’s bombings have “obliterated” Iran’s nuclear program, but that doesn’t look to be the case. Early intelligence reports assessing the outcome of the strikes is acknowledging significant damage, but express skepticism that it has set Iran’s nuclear program back more than a few months Besides that, the stockpile of enriched uranium Iran is believed to have is still intact, unaccounted for, and in their possession. Iran claims the strikes did little damage to their program, but this has about as much value of Trump saying he obliterated it.

Markets Yawn

Despite a nasty spike in crude oil last week when Israel first started bombing Iran, equity markets have barely reacted to the Middle East turmoil. Since the near death experience the market withstood during the height of the tariff drama, everything has been coming up roses. That level of fear will always lead to a substantial rally once the negative catalyst abates. As Trump intermittently started lowering the absurd tariff levels he announced on “Liberation Day”, markets became cautiously optimistic. Once he backed off the 145% tariffs on China, and the U.S. International Trade court ruled most of his tariffs were illegal, it was off to the races. Sitting right at all-time highs, bulls see nothing but upside from here.

U.S. equity markets are also receiving a nice tailwind from the U.S. Dollar. A lower dollar has the effect of increasing earnings for U.S. multinationals due to currency translation effects. This affects the tech mega cap (Mag 7) stocks more than any other group, so it’s no surprise that they have performed quite well. It is interesting to note though, that while the Mag 7 stocks rocketed off the bottom back in April, since early May, they have performed in line with the market. Breadth indicators have mostly pointed to a gradual broadening of positive price action across the market, which is generally a good sign for an ongoing bull market.

Most economists’ recession models are showing lower odds of recession now that the tariff risk is believed to be substantially lowered upon Trump’s pullback from tariffs. DA’s experience is that geopolitical turmoil rarely leads to lasting market downturns, because the market will eventually ignore it if it fails to cause a recession. Investors have returned to business as usual for now. This resilience could signal confidence in the structural integrity of global markets, or it may simply reflect a dangerous complacency toward risks that are still outstanding.

Big…and Beautiful???

The ”Big Beautiful Bill” (BBB) that recently passed the House, is now being debated in the Senate. Senate Republicans are not falling in line as easily as the House Republicans did, as many of the proposals are seen as sure losers back in their home states.

A major flashpoint in the Senate debate is the bill’s proposed cuts to social services, particularly in Medicaid funding, food assistance programs, and federal housing subsidies. While the Republicans in the House framed these reductions as necessary fiscal discipline, many Senate Republicans—especially those representing rural or economically disadvantaged areas—are balking at the scale of the cuts. It seems completely lost on many MAGA politicians that many of these cuts will hit dark red MAGA states hard.

Several senators have pointed out that slashing support for low-income families, seniors, and veterans could backfire politically, especially in states where federal assistance plays a vital role in local economies. Critics argue that the bill’s social spending cuts reflect an outdated ideological push for austerity, rather than a pragmatic response to current economic realities, and warn that the backlash could energize Democratic turnout in the fall.

As an example, when a staunch Republican like Josh Hawley is saying Medicare cuts are “immoral”, Republicans would be wise to reconsider their position:

“The nub of the conflict: Will Republicans be a majority party of working people, or a permanent minority speaking only for the C suite?

Mr. Trump has promised working-class tax cuts and protection for working-class social insurance, such as Medicaid. But now a noisy contingent of corporatist Republicans — call it the party’s Wall Street wing — is urging Congress to ignore all that and get back to the old-time religion: corporate giveaways, preferences for capital and deep cuts to social insurance.

This wing of the party wants Republicans to build our big, beautiful bill around slashing health insurance for the working poor. But that argument is both morally wrong and politically suicidal.

Let’s begin with the facts of the matter. Medicaid is a federal program that provides health care to low-income Americans in partnership with state governments. Today it serves over 70 million Americans, including well over one million residents of Missouri, the state I represent.

As for Missouri, it is one of 40 Medicaid expansion states — because our voters wanted it that way. In 2020, the same year Mr. Trump carried the Missouri popular vote by a decisive margin, voters mandated that the state expand Medicaid coverage to working-class individuals unable to afford health care elsewhere. Voters went so far as to inscribe that expansion in our state constitution. Now some 21 percent of Missourians benefit from Medicaid or CHIP, the companion insurance program for lower-income children. And many of our rural hospitals and health providers depend on the funding from these programs to keep their doors open.

All of which means this: If Congress cuts funding for Medicaid benefits, Missouri workers and their children will lose their health care. And hospitals will close. It’s that simple. And that pattern will replicate in states across the country.”

Josh Hawley: U.S. Senator in the Wall Street Journal

https://www.hawley.senate.gov/hawley-op-ed-dont-cut-medicaid/

Another Supply-Side Gambit

DA has spoken of the supply-side “theory” of economics at various times, having been a former believer. Once again, the Republicans are playing the part of the “Tax Cut Santa” (as opposed to the Democrats’ “Entitlement Santa”). Since Reagan, the GOP mantra has been that tax cuts will spur the economy so much that there will be little or no increase in the Federal Budget Deficit. History says otherwise. The 2018 TCJA bill cut taxes with little or no offsetting spending cuts, and the deficit continued to expand into 2019. Chart 1 below shows that as a percentage of GDP, the budget deficit went from 2.4% to 4.5% during Trump’s first term even while the economy expanded. Once Covid hit, tax revenues plummeted, and supportive government spending surged, pushing the deficit to 15% of GDP! We’ve recovered somewhat, but deficits are still above 5% of GDP, which is historically elevated.

Chart 1: Federal Deficits/Surplus as a Percentage of GDP

Tax cuts can certainly stimulate economic growth, which can raise federal tax receipts. However, the spur to growth never creates enough revenue to offset the tax cuts. For many years, the deficits caused excessive worry among the leadership, but on a short-term basis, they weren’t that detrimental. However, cumulatively, it’s obvious from Chart 2 below that since 1980, U.S. Federal Debt to GDP has risen with little respite. The one exception would be the late 1990s, when progressive tax hikes, fiscal prudence, and the tech bubble created a massive surge in tax receipts. Then came war in Iraq and Afghanistan, the Great Financial Crisis, and the Covid pandemic.

For political purposes, our large deficits are often presented as purely the result of reckless fiscal policy (by the opposition party of course), but the reality is not so straightforward. Six trillion dollars or so to wage war in the middle east over the last 20 years is certainly an ugly price tag, but trying to prevent economic crises from becoming catastrophes has been a larger contributor. This doesn’t show up as one or more line items in the budget – it’s a function of taking in less receipts due to weak growth, along with using fiscal spending to offset the massive deflationary forces of the crises.

Chart 2: Gross U.S. Federal Debt to GDP Ratio

Regardless of the cause, it would be foolish to ignore the precarious level of outstanding debt now, but it looks as if that’s what Trump is aiming to do with this bill. DOGE was seen as a massive cost cutting initiative that would free up as much as $2 Trillion to offset tax cuts, but it has been a massive failure. First, the estimates of fraud that were bandied about by Elon Musk were fanciful from the beginning. Second, his claims to have found massive fraud were never backed up by any proof.

The whole exercise seemed to be more about cutting spending he and other right-wingers don’t like, rather than cutting waste or fraud. Furthermore, they attempted to do this without any regard for the power the Constitution provides Congress (“Power of the Purse”). Many rightly saw this as an unconstitutional power grab, and the courts have generally agreed, regardless of judges’ ideological predilections.

Even though DOGE has failed to bring about any substantial spending cuts, this hasn’t stopped Republicans from going along with the tax cuts in Trump’s BBB. Even with the spending cuts for Medicare, the Congressional Budget Office (CBO) still projects that our Debt to GDP level will continue to rise. The bottom line is that there is little evidence that tax cuts without offsets can spur the economy without raising deficits. Given that the U.S. has now surpassed WWII levels of Debt to GDP, this looks like a horrible and dangerous bet. MAGA is a populist coalition, but many of their political leaders don’t seem to understand that - or at least have forgotten. It would behoove them to start paying attention to their constituents, or they’ll be looking for new jobs in 2026.

The Devil’s Advocate

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