What is the Inflation Reduction Act in the US?

On Sunday, August 7^th, the US Senate narrowly passed a budget reconciliation bill, coined the ‘Inflation Reduction Act’, by a vote of 51-50, with Vice President Kamala Harris breaking a tie. It primarily focuses on three goals: combatting climate change, expanding health insurance coverage, and reforming the tax code to reduce deficit spending. A heavily pared down incarnation of the discarded Build Back Better Act, it is expected to pass in the House of Representatives by the end of this week before being signed into effect by President Biden.

Provisions That Would Supposedly Curb Inflation

The legislation has been particularly marketed by Senator Joe Manchin (D-WV), one of its sponsors, as a means of subduing the 40-year high inflation rates currently gripping the US. The bill would allegedly do this by creating a new 15% corporate minimum tax to close existing loopholes, increasing funding for the IRS to enable higher auditing capacity, and introducing a 1% excise tax for stock buybacks. Between these measures, as well as enabling Medicare to eventually negotiate lower prices for a selection of prescription drugs, an estimated $700+ billion in additional revenue will be raised over a ten-year period. Of these funds, $300 billion will be used in lieu of current deficit spending, theoretically reducing the anticipated national debt increases as well.

Merits and Criticisms of These Claims

An optimistic outlook regarding the possible efficacy of these provisions in curbing inflation rates could highlight the reduction in capital that larger corporations would have available to allocate (for example, Amazon, FedEx, Unum, and many more companies have paid effective corporate income tax rates either at or below 0% in recent years). Net corporate subsidies stimulate the economy, increasing growth and thus inflation, while net corporate taxes restrict it.

However, a more skeptical outlook confronts the likely insignificance of these decreases in the deficit over a ten-year period. Given the United States’ $25 trillion GDP, penchant for trillion-dollar federal budget deficits, $30+ trillion national debt, and the effects of $8.9 trillion in mid-pandemic quantitative easing, a $300 billion promise in federal savings over a ten-year period is rather negligible. Slowing additions to the money supply by a fraction of a percent of GDP will likely not have much of an effect on slowing year-over-year inflation nearing double digits.

Potential Effects on Major Pairs

While it is difficult to say for certain, I am anticipating that if this legislation is signed into law, it will have either a minimal or virtually no effect on inflation and most USD fundamentals. I am personally maintaining my bullish bias on USD, and currently have open positions selling AUD/USD, NZD/USD, and buying USD/CHF. For those who are interested in finding supplemental analysis tools for gauging pair fundamentals and sentiment, consider investing in the EdgeFinder, a robust market scanner from A1 Trading.