THE TAX CUT GAMBLE

Just as Wall Street was celebrating imminent tax reform that would boost corporate profits by lowering taxes, Senate leaders delivered a plan on November 9 that differs substantially from the House bill, pointing to the need for negotiated compromise over hotly contested issues, a skill that has been notably lacking in Congress.  One of the legs upon which the stock market has been standing tall, suddenly appeared unstable and stocks sold off.

Time and again, this is the stock market’s pattern: climb on rising expectations, then tumble when anticipation turn to disappointment. This boom-bust tradition is an important reason to diversify one’s portfolio by investing in alternatives, such as gold which often climbs when stocks fall hard.

Congress may yet approve a tax reform package that will lower the corporate rate to 20 percent from 35 percent. But differences between the House and Senate plans make clear how challenging the task will be. The Senate plan would delay by a year the reduction in corporate taxes that investors so desire. The bills also differ over the estate tax, the deductibility of state and local taxes, the mortgage interest deduction, a reduction in the “pass-through” rate for small business owners, the deductibility of medical expenses, and a reduction in the number of tax brackets. That means lobbyists for the housing, mortgage, and health care industries will all be fighting hard for their interests, as will municipalities and small businesses.

And, it has yet to be shown that either proposal will not increase the federal budget deficit by more than $1.5 trillion over a decade, a requirement under Congressional rules that would allow the plan to become law if approved by a simple majority.

The uncertainty of tax reform hanging above a stock market that has not seen the Standard and Poor’s 500 suffer a correction, a decline of at least ten percent, in two years argues for the wisdom of reducing one’s exposure to stocks and increasing allocations to gold.