Goldman: What The Post-Midterms ‘Closer-Than-Expected, But Still Divided’ Government Means

Despite all the prognostications of a ‘red wave, the (early) results of the Midterms elections appear to be barely a red ripple with both chambers seeing a much closer than expected split.

House races are still being counted, but Republicans are poised to only have a majority of a handful of seats.

This means that a small group of House lawmakers can drive or reject the agenda for the chamber. This is essentially a rerun of Democrat Joe Manchin’s role in the Senate over the past two years, where one man could make or break Democrats’ ambitions.  The widely-followed NY Times “needle” forecast puts the odds of a Republican House majority at 84%; prediction markets are roughly the same.

The Senate outcome likely won’t be known for a while.

The contest between incumbent Democrat Raphael Warnock and Republican Herschel Walker in Georgia remained too close to call early Wednesday, making a Dec. 6 runoff increasingly likely. Democrats lead by 6pp in Arizona, with 1/3 of the estimated votes still outstanding. Prediction markets imply an 88% probability of a Democratic win there. Republicans lead in Nevada, by 2.7pp, with 1/5 of the estimated vote still outstanding. Prediction markets imply 67% probability of a Democratic win there, likely on an assumption that many of the remaining ballots reflect mail voting from Democratic-leaning areas. Democrats lead in Georgia with most votes counted, but the election looks likely to go to a run-off election on Dec. 6 as none of the candidates won more than 50% of the vote. If Democrats win Arizona and Nevada, they will have control of the Senate regardless of the Georgia result. If they lose either Arizona or Nevada, the Georgia result on Dec. 6 will determine the Senate majority.

While the GOP’s Kevin McCarthy is still the most likely candidate to become House Speaker, a tight majority likely means that conservatives will be able to extract additional concessions from him as they set the House rules for the coming Congress. It’s possible the speaker’s race could be thrown into chaos in the coming days. Republican leadership elections are next week. If trouble is brewing, those may get delayed.

All that being said, while Democrats outperformed expectations and Democratic Senate control would be a surprise, the end result nevertheless appears to be divided government and the policy implications are broadly similar to what would have been expected with Republican majorities in both chambers.

Goldman’s Alec Phillips lays out the key points:

• Senate control matters much less if Republicans have won the House majority. There are two general differences between a divided Congress and a Republican Congress. First, the Senate confirms presidential nominations with a simple majority, so continued Democratic control would limit Republican influence on President Biden’s nominations over the next two years. Second, passing legislation in a divided Congress would be harder than in a Republican Congress, though in either scenario bipartisan support would be needed (as President Biden could veto in either scenario, and Republicans would lack the 2/3 vote to override) so the amount of legislative activity could be similar.

• Reaching agreement on fiscal policy is likely to become more difficult. Congress will need to raise the debt limit by Q3 2023. Under a Republican House and Democratic Senate in 2011 and 2013, debt limit uncertainty disrupted financial markets and led to substantial spending cuts. A similar scenario could play out next year, though a Democratic Senate would make it less likely that a debt limit deal would involve spending cuts of the sort enacted in 2011. A legislative response to a potential recession would also be more difficult, we believe, as the House and Senate would likely pursue different approaches and the odds of gridlock would be somewhat higher than if Republicans controlled both chambers.

• Sector-focused policy changes would be even more limited under a divided Congress than under Republican control. Changes to energy or health policy—such as rolling back changes made in this year’s Inflation Reduction Act (IRA)—did not appear very likely under a Republican Congress and appear even less likely if control of Congress is split. For regulatory issues the difference between a Republican-majority and divided Congress is limited, as 60 votes are typically necessary in the Senate for regulatory (or any other non-fiscal) legislation and would have been elusive on most issues regardless of which party holds the Senate majority.