Democrats' Congressional Win Sparks Policy Changes, AI Investment Impact

In a significant shift in the U.S. political landscape, Democrats have achieved control over both chambers of Congress following the recent midterm elections. Coupled with notable gubernatorial victories in states typically leaning Republican, these results could herald shifts in policy that may influence economic growth, financial markets, and various asset classes.

Investors are notably paying attention to possible tighter regulations on data center development, which may dampen enthusiasm for artificial intelligence (AI) investments. Conversely, Democratic leadership in Congress could potentially offer benefits to the healthcare sector and consumer spending, particularly if there are opportunities to alter planned federal spending reductions on healthcare and food assistance.

We have identified three pivotal policy developments to monitor in the near term, which may also form the basis for themes in the 2028 election, each carrying different implications for the market.

1. Fiscal Policy: Modifications to Planned Medicaid and SNAP Reductions

The One Big Beautiful Bill Act (OBBBA) outlines significant cuts, specifically around $900 billion from Medicaid and $200 billion from the Supplemental Nutrition Assistance Program (SNAP) over the coming decade.

With Democrats at the helm in Congress, there is potential for these reductions to be delayed, lessened, or even reversed during negotiations tied to upcoming fiscal deadlines.

A substantial Democratic majority could assist in bridging internal party disagreements, allowing for a coherent focus on key policy objectives.

Despite these potential changes, projections suggest that federal fiscal deficits may hover around 6% of GDP, even if proposed spending cuts are fully implemented.

2. Executive-Led Policy: Continued Uncertainty Expected

The uncertainty in policies throughout President Donald Trump's second term has largely been a result of executive actions rather than legislative measures.

Even with Democratic control, significant changes in the administration's geopolitical strategies, trade policies, and deregulatory agenda are unlikely, particularly with the anticipated review of the United States-Mexico-Canada Agreement (USMCA) on the horizon.

Investors should brace for persistent policy indecision, especially in areas under strong executive influence.

3. AI Infrastructure: Heightened Risk of Data Center Limitations

The election outcomes may pose new challenges for AI infrastructure investments, as incoming state officials may enforce more stringent regulations on data center developments.

State utility commissions, legislatures, and county boards mainly decide on data center projects, including grid connectivity, electricity pricing for large consumers, site selections, and tax breaks.

Such state-level decisions could create a fragmented regulatory environment, with some areas welcoming new data centers while others impose stricter controls.

The election of Democrat Gina Hinojosa as the Governor of Texas is particularly notable for the industry, as her campaign included a moratorium on new data center approvals, potentially leading to significant delays in projects.

While these developments may negatively impact short-term AI investment sentiments, Morgan Stanley Research anticipates that the larger AI capital expenditure (capex) cycle will persist.

Potential Upsides in U.S. Economic Growth

Amidst these policy changes, our outlook remains positive for U.S. economic growth and disinflation, with the election results potentially providing additional support for growth.

Potential delays or reductions in planned Medicaid and SNAP cuts might bolster household financial stability and consumer spending, offering a slight boost to economic activities. Such delays could also marginally raise Treasury issuance in the medium maturity range.

Ultimately, the Democratic control of Congress prevents the possibility of a Republican-driven budget reconciliation bill when the new Congress sessions begin in January, removing a major risk factor concerning the Treasury's borrowing needs.