- The Washington Times - Saturday, January 3, 2004

The stock market’s impressive year-end rally has more political content than most observers recognize. Let’s not forget that the market is a key weather vane for next year’s election as well as the new year’s economic performance. One key market message: political risk for President Bush’s re-election is falling rapidly.

First, both the rising economy and the rallying markets are voting for Mr. Bush. The investor class is moving strongly into the president’s column.

Second, Saddam Hussein’s capture in Iraq was a huge event — not just a morale booster, but a safety and security booster as U.S. defense and intelligence forces gained valuable information from the prisoner and his papers. Dominoes are falling our way in Libya, Syria and Iran.

Third, the inside-the-Beltway media is giving the Democratic presidential nomination to Howard Dean, an angry and pessimistic left-liberal who is far from the mainstream of American politics today. Note the rise in Bush support from independent voters according to any number of recent opinion poll surveys. There’s a Bush landslide in the making here.

A Dean victory would raise marginal tax rates across the board. Most importantly to the stock market and economic recovery, rising tax rates on capital gains and dividends would knock the stock market off its stride and pose a tall barrier to the new recovery of business capital goods investment spending. Rapid depreciation write-offs would be repealed under Mr. Dean, another blow to the nascent business expansion.

This is why a Bush re-election is so important to the economy. That Mr. Dean is out of step with anything remotely close to mainstream thinking that could be acceptable to middle-ground independent voters who will decide this election in numerous key states is a huge plus for Mr. Bush, the stock market and the economy.

In a Bush second term, a new push to expand savings accounts is baked in the cake, according to the president’s campaign advisors. Lifetime and retirement savings accounts will be included in the new presidential budget released next month. These accounts will accumulate after-tax deposits that will not be taxed again. That means a zero tax rate for capital gains and dividends.

Encouraging tax-sheltered savings is a huge pro-growth step forward from an economy that simply does not save enough. In our modern system of high-tech markets, savings are instantly turned into investments. This investment process is exactly what fosters capital formation for our nation’s businesses both large and small.

Internationally, because we invest more than we save, the negative differential has built up our current account trade deficit because we rely too heavily on foreign saving and investment. While there’s nothing inherently wrong with this, it is nonetheless true that a more balanced economy would have a smaller trade gap with less reliance on foreign investors.

In effect, a Bush second term could well move our tax system toward a consumption-based tax rather than the overburdening of investment taxes we have lived with for so long. This tax-reform movement would dovetail into personal investment accounts for Social Security contributors, another significant shift toward fiscal balance and economic growth. Instead of handing over middle-class savings in the form of payroll taxes paid to Uncle Sam, who then consumes the money, millions of workers would be free to choose a retirement savings plan that would enormously benefit both them and the overall economy.

Just as the stock market rally has refunded the pension plan deficit of big companies like Ford and GM, so would a savings account program refinance the deficit-ridden Social Security system. In both cases, the surplus savings and wealth are re-channeled into productive entrepreneurship and job-creating business expansion. A second-term Bush presidency can achieve these goals.

A nonpolitical threat to stocks and the economy is the age-old debate over interest-rate policies from the Fed. Until recently, the stock advance was held up by concerns of a major Fed tightening in the new year. Recently, however, the hard-headed supply-side president of the Dallas Fed, Robert McTeer, stated his view that inflation pressures are non-existent. So, painful rate increases are unnecessary. Numerous other Fed officials have made the same point. But it was Mr. McTeer, and his record of independence, that tipped the market scales into pushing aside fears of big interest rate increases in 2004.

The economic universe is in proper alignment for a 5 percent or 6 percent new year growth rate. Spurred by low interest rates, low taxes, big profit gains and remarkable productivity increases, the stock market could rise by 15 or 20 percent next year.

Of course, this scenario plays into the president’s hands. But even more importantly, the combination of Mr. Dean’s leftism and a return to economic optimism will permit Mr. Bush to seek and receive a strong pro-growth policy mandate from the voters.

This is certainly grounds for a very rational exuberance as we move into the new year.

Lawrence Kudlow is a nationally syndicated columnist and is CEO of Kudlow & Co., LLC, and CNBC’s economics commentator.

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