Good morning, everybody. This is Michael Cembalest with the late-May 2025 Eye on the Market podcast. This one is called Chicken Hawks. For those of you that remember, the most famous chicken hawk of all time was a guy named Henry Hawk. He was the tiny little chicken hawk that used to hang out with Foghorn Leghorn in the Looney Tunes and Merrie Melodies cartoons. He appeared from 1942 to 1961. I was going to show a picture of him that ChatGPT-4o was willing to draw for me, but we did not want to violate the copyright, so you’ll just have to imagine that in your head. But I was thinking of chicken hawks, which is a euphemism for people that are hawkish, but not really.
When I saw the passage of the budget reconciliation bill in the House, and this was supposed to be, this process was supposed to be impacted by all of those alleged GOP fiscal hawks in the House. I think it’s time that we retire that particular description, or at least refer to them as chicken hawks instead, because the bill that got passed by a single vote in the House, with their acquiescence, is really, a big debt and deficit expanding bill, despite what the White House press secretary has been saying about it.
So let’s dive into it. This is just a brief discussion of the dynamics of the reconciliation bill. So, okay, the House passed the bill by a single vote. And I, my team and I worked on this flowchart because it helped me understand what was going on.
A lot of the exhibits and things that were reading were confusing. So I decided to make something that made sense to me. Maybe it’ll make sense to you, or maybe it will also be confusing to you, but so you start out with some spending cuts, close to $1 trillion that falls under something called energy and commerce. Most of that are things like Medicaid cuts and specifically work requirements, provider taxes, state-directed payments.
So almost $1 trillion of cuts in the Medicaid, in the energy and commerce, and then you have around $350 billion of cuts to student loans, $240 billion in cuts to food stamps, and then some other cuts that amount to almost $200 billion. Then you extend all of the TCJA tax cuts from 2017, that cost you something in the neighborhood of $3.5 trillion. Then you try to raise some money back by doing some tax offsets and a restructuring of the energy bill, which is basically a sharp scaling back of the energy bill, mostly things related to EV credits and charging, and some of the extensions to the ITC impact credits for wind and solar. And in terms of other tax offsets, you’re looking at things like modifications to the premium tax credit, a retaliatory tax on foreign multinationals from countries that do bad things to the U.S., that kind of stuff.
And that gets you back a few hundred billion. But then you’re spending that and more by doing some—an increase in the salt cap, no taxes on tips and overtime. So manufacturing incentives, reduced taxes on seniors a few other tax cuts, and then if you throw in a little over $200 billion for homeland security and defense, you get something in the neighborhood or something in the neighborhood of $2.5 trillion, let’s say, of an expansion in the budget deficit over the 10-year window versus the CBO baseline.
Now, it’s really important to understand what that means versus the CBO baseline. So yes, this is a big budget expansion, but we shouldn’t be under the illusion that there wouldn’t have been some kind of budget expansion versus the CBO baseline if Harris had won the election. When we ran the numbers on her policies, she was going to allow the tax rates to sunset, meaning go back to where they were before.
On people with more than $400,000 in adjusted gross income, you probably would have gotten somewhere between a trillion to $1.3 trillion of budget deficit expansion versus the CBO baseline. But for starters, the, the Trump expansion versus the baseline looks to be at least twice as big, maybe three times as big, particularly when you factor in things like interest on the debt.
The other thing that’s notable about the reconciliation bill as passed by the House is how frontloaded it is. And we have a chart in here that shows two different estimates. One’s from the Committee for Responsible Federal Budget. The other one is from a, an economics research firm called Piper Sandler, the guy that does all the work there. He’s fantastic. His name is Dan Schneider, and he actually was the one that worked on the Hill for Paul Ryan on the 2017 TCJA, so he knows, he knows his numbers, and he knows the reconciliation process cold. And when you look at the forecasts from both of those entities, they’re the, the impact on this on the baseline deficit is really frontloaded, coincidentally to mostly be dumped in right before the, the both the midterm elections and the next presidential election. And then it kind of scales back. So, yeah, so he take that for what it’s worth.
Now these deficit projections, the impact on the deficit increasing by $2 trillion, $3 trillion, whatever it is, they’re static now. So what does that mean? They don’t include whatever benefits might accrue from additional growth. Due to the stimulus here. That’s called dynamic scoring, and that won’t hap—you won’t see the benefits of that until the next time the CBO runs their numbers later this year. And it also doesn’t include the impact of tariffs. And tariffs get complicated when people do budget forecasts like the CBO or the OMB, or places like the Committee for Responsible Federal Budget. They would only include the impact of tariffs if they were legislated in the reconciliation bill itself. And for the most part, the tariffs would be done by executive orders and not through the reconciliation bill, so they don’t get included. So I would agree with people that say, well, this this is kind of overstating the impact on the actual real-world deficit versus the baseline because there’s going to be some degree of tariff revenue.
Okay, let’s take the, the Tax Foundation, what I think is a very optimistic estimate of $2 trillion of tax revenues over the next 10 years. And I think it’s very uncertain. There could be retaliation. You could have reduced growth in tax revenue impacts. But let’s take that for what it’s worth, and then look at these charts from the Yale Budget Lab. And they looked at four different scenarios. Are the tax cuts permanent or temporary, and are we including these tariff estimates from the Tax Foundation or not? So obviously, the worst debt scenario and the worst deficit scenario are associated with some of the tax changes being permanent and excluding tax revenue. And then the most optimistic one would be the, the one when the tax changes are temporary, and you’re including the tax revenue.
So let’s go to that one first because that’s really all we need to talk about here. Even when you assume that some of the, the, the budget tricks that the administration has, has put into the House bill are temporary, and you include the $2 trillion of tariff revenue, you still have an inexorable rise in the debt from around 100% of GDP to 120% of GDP over the next 10-year budget window, and you have a budget deficit, the GDP, that really never gets better than 6%, which is, which is a pretty scary number as budget deficits go. Just as one indication, the Maastricht criteria, which Europe sometimes does or doesn’t adhere to, is half of that. So bottom line, even when including the benefit of tariffs, and even when assuming that some of these tax cuts are temporary and will sunset the future, you’re still looking at a bill that is very expansionary as it relates to both the debt and the deficit.
Now the White House disagrees. There was a comment from the press secretary, the bill doesn’t add to the deficit, it will save $1.6 trillion. The House understands the concerns of the fiscal conservatives, aka the chicken hawks, who want us to get our fiscal house in order. There’s $1.6 worth of savings in the bill. I don’t have the energy right now to deconstruct this. I can’t find, the, the background work to substantiate this, so I’m just going to leave it for what it is.
This is, after all, an administration that keeps insisting that exporters to the U.S. are the ones paying for U.S. tariffs, even though there’s almost no evidence in practice that that’s the case. And you can look in our Trump tracker to see what’s been happening to import prices this year. They’re not going down. Some of them are going up, which means, that we can see that a combination of U.S. importers and U.S. consumers are paying for those tariffs.
Now just a couple more comments. The first place people tend to go when they see a budget bill that is expansionary is to think about potentially higher rates. I think this bill, this bill has been visible, the spirit of this bill has been visible to the markets for quite some time. And, and I would argue that in September of last year when the 10-year in the U.S. bottomed at almost 3.5%, that the rise to the current, you know, 4.5% levels, so a 100-basis-point increase is mostly a reflection of the market’s understanding that Trump’s going to be running expansionary fiscal policy and the impact of other inflationary policies like tariffs.
And I wouldn’t be surprised to see the rates continue to drift up. The rates have been drifting up in Europe as well, for different reasons there. You’ve got the need for expansionary policy for Europe spending more on its own defense based on changing U.S. policy with respect to NATO, and you’re also seeing a pretty sharp rise in interest rates in Japan, again, for different reasons. There, the Bank of Japan is no longer propping up the JGB market as they once did. The one bond market, ironically, that continues to rally is China, but that’s more reflect—a reflection of, of weaker growth rather than some kind of improved growth inflation trade-off.
So if we have a recession in the United States, and it’s still unclear exactly whether we will or we won’t, I think most evidence is pointing towards something like 1% growth or half a percent for a couple of quarters. If we do have a recession in the United States, bond yields would rally as they typically do, but I—so for me, the takeaway of this budget bill is that the equilibrium level of interest rates in a normal business cycle will be higher than they otherwise would be, and we could be flirting with a normalized 10-year in the neighborhood of 5% at some point.
As all of the implications of this bill become reality, now it has to go to the Senate, and we’re not expecting major changes. There may be some tinkering with it, but I think for the most part the House version of this bill is going to look a lot like the final version of the bill. And again, it passed by a single vote in the House, which is kind of amazing.
So that’s it on the reconciliation bill. I just—a couple of other things. The quote of the week comes from The Wall Street Journal, which wrote about, an article called “Is Trump Trying to Destroy Harvard? The order against foreign students turns away the world’s brightest.” And they had a couple of statistics in here I thought were interesting. They cite the National Foundation for American Policy that, that, that found that immigrants have founded or co-founded around two-thirds of all the top AI companies in the United States. And that 70% of full-time graduate students in the United States in fields related to artificial intelligence are foreign students. They’ve also started more than half of America’s privately held startups valued at $1 billion or more. And, you know, obviously, the, the Journal is, is expressing concern here, that, that this is not necessarily a way to attract the world’s brightest young people, and that they’re going to get the message and take their talents elsewhere. It’s interesting as well, the, the Journal agrees that Harvard needed some kind of a jolt to return to its mission of educating open minds and not having such a one-sided ideological policy, but they—and agree with the notion of some kind of reform, but that destroying Harvard to save it is not necessarily the way to go.
And I also think it’s interesting that of all the places that have been in expressing their opinions about their core beliefs, The Wall Street Journal of all places has been doing that much more consistently about what it is they believe and don’t believe than places like the Business Roundtable or the Business Council.
Okay, last thing for—just as a preview, it’s the 20th anniversary of the Eye on the Market, yay! And we’re working on a retrospective piece with some of the most interesting work that we’ve done, and we’ll be coming out with that at some point this summer. And whether it’s the Euro project, a review of the financial crisis, the course of empire and the origins of the housing crisis, the origins of the tariff wars, the Armageddonists, the vaccine wars, a lot of the, a lot of the topics that we wrote about that were interesting and controversial, many of which are still relevant today, are gonna be included in this retrospective, and I look forward to sharing that with you. And it’s going to include this, if you’re watching this podcast, not just listening to it, it’s going to include this diorama that I made in 2011 out of Lego minifigs. And the diorama is meant to show the various options for solving the bailout’s payments crisis, and I thought this was pretty creative even if the Lego people weren’t huge fans of this. I thought it was an interesting way to demonstrate that. So we’re going to include that in the piece, and I look forward to sharing that with you.
Thanks for listening, and I hope you—everybody had a great Memorial Day weekend. Bye.
