Last week's election results were largely as expected. The President won reelection, Democrats still have a majority in the Senate, and Republicans control the House of Representatives. The only surprise was the brutally negative reaction of Wall Street.
Ed Mills of FBR Capital Markets says the risk of going off the fiscal cliff went up last week, in part explaining some of the negativity among traders. Mills says both sides have reason to believe they will prevail in a showdown based on the results, encouraging them to dig into their positions as the arguing and horse trading pick up steam into the new year.
Democrats can point to the President's victory as evidence that the public is backing his "tax the rich" posturing. Republicans have exit polling data showing 63% of the public oppose new taxes, emboldening them despite Romney's loss. Speaker Boehner and the President are making the right conciliatory noises, but without the backing of the rank and file it doesn't matter.
Mills says the most likely outcome of the back-and-forth is a three-step process certain to terrify, disgust and enrage voters on all sides of the debate. First we go off the cliff. Second, we realize going off the cliff is an absolutely horrendous turn of events. Third, the government comes up with a solution that results in higher taxes for the upper class.
Such an idiotic dance allows Republicans to not vote for higher taxes, the Democrats to look like they held the line and each side to declare victory — even if the win comes at the expense of the economy for at least the first half of 2013.
The President needs the deal to secure his legacy, says Mills. Obama has four years to let the economy recover from whatever horrors befall it as a result of the cliff. With the Republicans stymied by the same obstructionism of which they are so often accused, the President will go to the Democratic Congress and tell them the combination of entitlement reforms and tax hikes is the best they are going to get.
Selling the deal is Obama's "opportunity and responsibility." Let's hope he takes it.