The surprise sweep by Democrats in Georgia should pave the way for a faster economic recovery from the pandemic, says Goldman Sachs.
The bank upgraded its 2021 GDP and unemployment forecasts Wednesday evening after CNN and other media outlets projected Democrats will take control of the US Senate, saying it means they will have enough votes to provide hundreds of billions of dollars of additional relief to an economy being hurt by the worsening pandemic.
"Democrats are likely to pass further fiscal stimulus in Q1," Goldman Sachs economists wrote in a client note.
The optimism from economists helps explain why investors have mostly been unfazed by the chaos rocking Washington. The Dow finished at record highs Wednesday even after a mob of Trump supporters stormed the US Capitol.
Goldman Sachs is now projecting GDP growth of 6.4% in 2021, up from 5.9% previously. That's well above consensus estimates of about 3.9%.
That faster growth also should translate to more hiring and less firing. The Wall Street bank now expects unemployment to dip to 4.8% at the end of 2021 and 3.9% at the end of 2023.
Morgan Stanley is similarly growing more optimistic about the economy: The bank anticipates US GDP growth of 5.9% in 2021.
"With the likelihood of further fiscal expansion, this gives us greater confidence that the recovery in the US economy will be on a solid footing," Morgan Stanley economists wrote in a note to clients Wednesday.
Another $750 billion in relief on the way?
President-elect Joe Biden has called the $900 billion stimulus package enacted by Congress last month a "down payment."
Goldman Sachs now expects Congress to enact another $750 billion in fiscal stimulus in February or March, including $300 billion in stimulus checks, $200 billion of aid to state and local governments, and $150 billion in additional unemployment benefits.
The bad news is that it increasingly looks like the economy will need more aid to get through the intensifying pandemic. Private-sector employers unexpectedly shed jobs in December, according to ADP.
Not only have Covid-19 deaths and hospitalizations surged to record highs, but the vaccine rollout has also been sluggish. Fewer than half of the vaccines distributed by the federal government have been administered. There also are concerns about how quickly new strains of the virus are spreading around the world.
"Discouraging news on the virus front -- including the slow pace of vaccination and the emergence of more infectious virus strains -- suggests the spending boost from stimulus will be more lagged than usual," Goldman Sachs economists said.
In other words, the next stimulus package may not accelerate economic growth as much as hoped, at least initially.
Economists and policy analysts do not expect Democrats to enact dramatic tax hikes that would threaten the recovery. The narrow majorities in the Senate and the US House of Representatives will make it difficult to get sweeping legislation through Congress.
Top Democrat is bullish on infrastructure, stimulus
However, some senior Democrats are optimistic about the ability to pass major legislation.
Democratic Senator Sherrod Brown said the fact that Republican Senate Majority Leader Mitch McConnell will no longer control the agenda is a gamechanger.
"McConnell put a lid on our ability to address issues that the public supports," Brown told CNN Business on Thursday.
Brown, who is in line to become chairman of the Senate Banking Committee, predicts there will be enough votes to enact $2,000 stimulus checks, a higher minimum wage, additional rental assistance and increased unemployment insurance. And, he added, multiple Republicans will back these initiatives -- now that they have the opportunity to vote on them.
The Ohio Senator is also bullish at the prospect of bipartisan support for a long-elusive infrastructure package that includes funding not just for roads and bridges but expanded access to broadband.
"We've talked about it forever," Brown said.
Will the Fed raise rates during Biden's first term?
The big debate on Wall Street now is whether the Georgia sweep by Democrats disrupts the goldilocks environment boosting financial markets. Very low inflation has led the Federal Reserve to promise to keep interest rates at zero for the foreseeable future. With bonds yielding next to nothing, that emergency stance has forced investors to plow money into stocks.
But the Fed's plans could change if inflation starts to show signs of life.
Goldman Sachs said it now projects inflation to nearly hit the Fed's 2% goal by the end of 2023. The bank also now expects the Fed to "liftoff" from zero during the second half of 2024, compared with early 2025 previously.
But Morgan Stanley is warning that inflationary conditions are already brewing. The bank expects US core inflation to hit 2% much sooner -- by the end of this year -- and "overshoot" that goal in 2022. That's because the company expects US officials to take more forceful actions to address worsening inequality.
"The Covid-19 shock has exacerbated the impact on lower income households," Morgan Stanley economists wrote, "creating even greater urgency for policy makers to act to provide relief for affected households."