6. Tax Rate Stays Put
Current tax rate for individuals and businesses remains constant in 2013. The single biggest worry than many economist have about U.S. growth is the “fiscal cliff.” The “cliff” is a combination of government spending cuts and an increase in tax rates that would go into effect at the end of 2013. Federal Reserve Chairman Ben Bernanke recently warned Congress that the events would be deadly to the American economy.
The so-called Bush tax cuts were meant as an economic stimulus, and they remain so in the minds of some experts. Recently, Senator Tim Johnson said, “If Congress doesn’t act, middle class families will see their taxes go up by $2,200 on Jan. 1. Working families in these tough economic times should have the certainty of knowing their taxes won’t go up in six months.” Johnson’s sentiments are echoed by most Democrats. It is logical that lower taxes increase the chances of consumer and business spending, even though they may temporarily increase the deficit due to a drop in receipts to the Treasury. However, an extension of low taxes would prevent a drag on the economy and probably would boost consumer spending — which is still two-thirds of GDP.
7. Retail Sales
Consistency of higher retail sales. Once again, the consumer is still the engine of the American economy. There are few better measures of consumer activity than retail sales. Yet, retail sales dropped three months in a row though June, mirroring to some extent the weakness in the job market. In June, sales declined by 0.5% compared to May. The trouble was widespread and included furniture, appliances and building materials. Most alarming, there was weakness in car sales, which have been one of the bright spots in the U.S. economy for over a year.
Retail sales should be getting a boost from lower interest rates, which are supposed to stimulate consumer borrowing, but that has not been the case. To augment the data on a national level, several of the largest chains turned in lackluster monthly sales. Macy’s (NYSE: M) missed expectations, and so did Costco (NASDAQ: COST). In the national pharmacy store segment, same-store sales at Walgreen (NYSE: WAG) were down sharply. The litmus test for retail spending will be the holiday shopping season, which now runs, based on industry measures, from the first of November through the end of December. Worry about tax hikes and jobs will damage revenue in a period during which many retailers make all of their annual profits. If holiday sales are good, one of the key components of the economy has begun to recover. If not, it may be until sometime in 2013, hopefully, when retail activity demonstrates a turn in the American economy.
8. Consumer Confidence
Consumer confidence rises sharply. The two primary measures of consumer confidence are from the Conference Board and the University of Michigan. According to an announcement on June 26, the “Conference Board Consumer Confidence Index”, which had declined in May, fell further in June. The Index now stands at 62.0 (1985=100), down from 64.4 in May.” The other major measure — The Thomson Reuters/University of Michigan index of consumer sentiment dropped to 72 this month from June’s 73.2 reading. That figure was the lowest so far in 2012.
Obviously, consumer confidence is tied to employment growth, retail sales and worries about taxes. They create a web of economic trends. A telling contrast to recent data is the reading from late 2006. Back then, when both GDP and home prices were rising, the University of Michigan index was near 100. The index would need to move back toward the high 80s or 90 for there to be a clear signal of a strong economic recovery
9. S&P Jumps
S&P quarterly earnings increase year-over-year on average. The AP recently reported: “Stock analysts expect earnings for companies in the Standard & Poor’s 500 index to decline 1 percent for April through June compared with the year before, according to S&P Capital IQ, the research arm of S&P. That would break a streak of 10 quarters of gains that started in the final quarter of 2009.” But much of the recent gains came from cost cuts, including jobs. With companies worried about their sales, they tried to boost earnings through such measures.
Another reason for those gains was an actual recovery, especially when compared to depressed earnings levels in 2008 and 2009 caused by the financial wreckage of the recession. Revenue at many large companies, from banks to auto manufacturers, fell so fast during those two years that cost cuts could not keep up. Many large companies have now stripped their expenses down to the bone. Capital expenditures that could be delayed have been postponed. Layoffs have driven up productivity per employee. With capital expenditure and labor costs now so low, it will require substantial revenue improvements at most public corporations to push earnings higher.
The corporations most analysts will watch for a turnaround will be the largest in each industry, hoping to see a rebound in sales. Apple (NASDAQ: AAPL) will be an exception, since its sales have been recession proof. A much better indication will come from improvement at General Motors, Microsoft (NASDAQ: MSFT), Citigroup (NYSE: C), General Electric (NYSE: GE), Walmart (NYSE: WMT), Pfizer (NYSE: PFE) and AT&T (NYSE: T). A broad rise in sales and earnings will be a sure indication that the economy has started to improve across multiple sectors.
10. Low Interest Rates
Fed announces it will shorten target period for low interest rates. Low interest rates have been at the core of the Federal Reserve’s efforts to revive the economy. The central bank has bought bonds through programs with names like QE2. But a promise to keep short-term rates near zero through 2014 is as close as the Fed can come to a blanket assurance that it will do nothing to undermine a recovery.
When the Fed first made this pledge early this year, Bernanke said, “It’s important for us to say what we think and it’s important for us to provide the right amount of stimulus to help the economy recover from its currently underutilized condition.” What more can the agency do beyond offering money at such extraordinary rates? Yet, some Fed governors believe that low rates through 2014 could cause inflation. A sudden snap back in the economy coupled with cheap capital could cause a bubble in assets like housing and stocks. Should the Fed believe there is such a risk, it would likely raise rates before 2014 to keep the U.S. economy from overheating and prevent asset inflation. Nothing would better signal that the central bank believes that an expansion is well under way.
Douglas A. McIntyre