The Super Committee fails: Now What?

Morris Segall      Bush tax cuts, consumer spending, democrats, Economic Growth, economic outlook, employment, eroding middle class, future trends, mandatory federal spending cutbacks, military spending, public education impairment, republicans, U.S. credit rating downgrade, U.S. economic and military superiority

Yesterday’s announcement that the Bipartisan Congressional Committee, charged with formulating a long term deficit reduction plan, could not come to an agreement on such a plan was anti-climatic. It had been rumored for weeks that the members of the committee were far apart on critical issues and by this past weekend, it was apparent no agreement was going to be reached. We had long been skeptical this committee was going to succeed (See our blog video of October 7) but we felt there was a chance statesmanship would triumph over politics at the eleventh hour. We were wrong. We have commented since last summer’s near disastrous debt limit negotiations that the ideological divide between Republicans and Democrats is so wide that the parties are incapable of bridging the gap, even when the well being of the nation is at stake. It will reside in America’s voters in next year’s election to decide this country’s long term public and fiscal policy by electing a President and Congress of one political party or the other. A split vote that results in continued divided government in Washington will be a formula for economic and social disaster.

In the meantime, Congress must fund the government past next month and decide if it will extend last year’s tax breaks via a reduced payroll tax on wage earners and extended benefits to this nation’s chronic number of long term unemployed. In the present partisan atmosphere in Washington, none of these important issues can be counted as certain of passage. Failure to pass any of these items will certainly diminish the economic outlook for next year at the least, and potentially plunge this country into economic chaos at the worst, if the government is shutdown for lack of funding.

Beyond the immediate issues affecting the economy for next year are the prospects of mandatory federal budget cutbacks and the expiration of the Bush tax cuts in 2013 as a result of the failure of the “Super Committee” to fashion a long term deficit reduction package. The combination of increased taxes and federal government spending cuts will result in higher taxes, particularly on the already stressed middle class, and significant reductions in federal assistance in vital areas such as education, again disproportionately affecting middle and lower income sectors of our economy. At the same time, mandatory federal spending reductions will fall heavily on the Defense Department causing drastic cuts vital to our national defense while our strategic enemies are increasing their defense spending and closing the gap on our technological superiority. It is this technological superiority, through necessary research and development, that allows us to field a world class military with fewer numbers than our adversaries. Oh and by the way, defense spending cutbacks of approximately $500 billion over the next ten years are estimated to cost approximately 1 million defense related jobs according to estimates by the Defense Department.

The sum of such fiscal developments, we believe, will be a low level of economic growth on an extended basis from suppressed consumer income and spending and continued high levels of unemployment. Erosion of our public education system to the detriment of a future generation of students and impairing our ability to compete in the world economy. This combination may well result in the creation of a burgeoning number of low income earners replacing what has historically been a growing and thriving American middle class. The disparity between the “haves” and “have nots” will reach historic proportions threatening the future social, economic and military superiority of the U.S. Lastly, there is no guarantee that such mandatory spending reductions will stave off a further lowering of our credit rating. Indeed, we expect the rating agencies will be taking an unfavorable opinion of our economic prospects in the near term. Lower spending matched by lower tax receipts may not result in the improved federal fiscal situation necessary to maintain our AAA credit rating. In short, absent a robust economic recovery, hallmarked by substantial job and income growth, the future social and economic outlooks for this country are not encouraging.

Morris R. Segall

Second Qtr. GDP, Ben Bernanke and Intel

Morris Segall      2009 economy, corporate earnings, deflation, Economic Growth, economic outlook, GDP

On Friday the Commerce Department released its first revision of second quarter GDP, Fed Chairman Ben Bernanke delivered the opening speech at the Fed’s annual summer retreat and Intel announced a downward revision to its third quarter earnings outlook. All of these items were important news stories and all served to cement our previous comments on our blog and website that the economic recovery in the U.S. has stalled and is in danger of aborting.

The downward revision to second quarter GDP was expected after the June trade deficit widened to almost $50 billion led by a surge in imports and a surprising decline in U.S. exports. Economist estimates dropped into the 1%-1.5% range. The actual number reported on Friday was 1.6% and the equity markets breathed a sigh of relief and rallied that the number wasn’t worse. It shouldn’t have. Details behind the headline number reveal economic growth from the last vestiges of federal stimulus that we believe will not be repeated in future quarters. So we view the revised GDP report as dangerous to the outlook for the economy going forward. Personal consumption is not improving and government and business spending in the quarter have been augmented by factors we do not believe will continue.

Ben Bernanke announced on Friday the Fed would not allow the economy to fall into a deflation cycle similar to the Japanese experience in the 1990′s. However, his speech was devoid of new details about how that would be accomplished. Nonetheless, the stock market was reassured and rallied strongly if incorrectly.

Lastly, Intel reported a downgraded outlook for revenues in the current third quarter. Of all the news on Friday we believe this was the most important because it is a warning to us of the vulnerability of the current recovery cycle in corporate earnings. A faltering in corporate earnings would remove the primary support to the stock market and a major prop to the U.S. economy.

Please see our detailed article on these items and a more thorough analysis of the economy in a new Economic Presentation we are publishing on our website, www.spgtrend.com.

Morris R. Segall, CFA, CIC