US Industry Cuts Spending on Uncertainty

MS

US manufacturers are canceling new investments and putting off hiring, as they fear the gridlock in Washington DC will force hundreds of billions in tax increases and budget cuts in January, undermining economic growth of the nation going forward.

More executives are saying the fiscal stalemate is prompting them to pull back, rather than wait for a resolution on Capitol Hill .

Democrats and Republicans are still far apart on how to extend the Bush-era tax breaks beyond January, the same month automatic spending reductions are set to take effect unless there is a deal to pare the deficit.

The combination of tax increases and spending cuts is creating an economic threat called the "fiscal cliff" by US Federal Reserve Chairman Bernanke.

The loudest warnings about the economy have come from policy makers and economists, along with military industry executives who rely heavily on the Pentagon's largess and who would be hurt by the government reductions.

The worries come amid broader fears that the economy is losing momentum; the annual rate of economic growth in Q-2 fell to 1.5 from 2% in Q-1, and 4.1% in Q-4 of Y 2011.

Last Thursday, the Commerce Department reported that factory orders unexpectedly fell 0.5% in June from the previous month, and the data on the labor market released Friday showed job creation short of the level needed to bring down the unemployment rate.

All in all, the political gridlock in the United States, along with the continuing debt crisis in the EU, will shave about half a percentage point off growth in 2-H of this year according to estimates.

More than 40% of companies surveyed by Morgan Stanley (NYSE:MS) in July cited the fiscal cliff as a major reason for their spending restraint, that portion is expected to rise when the poll is repeated in August.

Unless the US Congress acts to extend the tax provisions and comes up with a budget deal that averts the planned reductions in military spending and other government programs, taxes will rise by $399-B while federal government spending will fall by more than $100-B, according to an analysis by the Congressional Budget Office.

The end-of-year battle comes after Democrats and Republicans have failed over the last year to reach long-term agreements on how to tackle the budget deficit.

Last week, Congressional leaders did manage to agree tentatively to keep the government financed through next March, extending a deadline that had been set to expire 1 October, but that deal did not address the extension of the tax cuts or spending reductions.

The fiscal cliff's impact equals slightly more than $600-B, or 4% of gross domestic product (GDP), and if no action is taken, the Congressional Budget Office projects the economy will shrink by 1.3% in 1-H of Y 2013 as a result.

Many Fortune 500 companies now setting budgets and planning for Y 2013, CEO's say they cannot afford to hope for the best.

Wall Street is also paying more attention: over the last few weeks, CEO's are citing the uncertainty as a threat to earnings in 2-H of Y 2012.

In Washington, powerful business lobbies like the National Association of Manufacturers, the Business Roundtable, and more specialized groups like the National Electrical Manufacturers Association have grown more vocal about their frustration with the inaction of Congress, and the possible dangers ahead.

Business leaders say the latest fight feels different. Many in Washington predict a solution that keeps most of the tax cuts in place and avoids the worst of the budget cuts in the short-term will emerge after the November election.

But for the time being everyone is sitting back and waiting to see how this drama plays out. Stay tuned..

Paul A. Ebeling, Jnr.

Paul A. Ebeling, Jnr. writes and publishes The Red Roadmaster's Technical Report on the US Major Market Indices, a weekly, highly-regarded financial market letter, read by opinion makers, business leaders and organizations around the world.

Paul A. Ebeling, Jnr has studied the global financial and stock markets since 1984, following a successful business career that included investment banking, and market and business analysis. He is a specialist in equities/commodities, and an accomplished chart reader who advises technicians with regard to Major Indices Resistance/Support Levels.