Headed Towards the Fifth Straight
Year of Trillion-dollar Deficits

Trillion-dollar DeficitsAs it stands, on January 1, 2013, tax benefits to consumers and businesses and government spending increases—which includes extended unemployment benefits—are set to expire.

These incentives that helped the economy “rebound” from the crisis add up to roughly $433 billion or approximately 2.9% of GDP (source: Bloomberg).

For the first quarter of 2012, Lombardi Financial believes that U.S. GDP growth is likely to come in well under two percent. For the remainder of 2012, I believe GDP growth in the one-percent range could be a best-case scenario.

The Congressional Budget Office (CBO) believes that GDP growth will be two percent in 2012. The optimistic economists believe that not only is two percent GDP growth attainable, but also higher levels can definitely be achieved.

For argument’s sake, dear reader, let’s assume a two-percent GDP growth rate for 2012. The CBO believes that, even after the tax benefits and spending increases expire, the U.S. economy will achieve GDP growth of 1.1% in 2013.

If the tax benefits and spending increases take away 2.9% of GDP growth in 2013, and GDP growth is to be 1.1% in 2013, then real GDP growth in the U.S. in 2013 would have to be four percent in order for these projections to materialize.

With the recession in Europe, the slowdown in China, and a U.S. consumer that is experiencing no real disposable income growth, the chances of this occurring are close to zero.

Even if these tax benefits and spending increases are extended another year, and GDP growth in 2013 is in the 3.0%-3.5% range, we know the economy is not growing on its own, but is completely dependent on the U.S. government, as the tax benefits and spending increases represent 2.9% of GDP.

Being an election year, faced with this scenario (of expiring tax benefits and spending increases, what will the newly elected government do? After all, a recession could occur if the government doesn’t extend the benefits. I don’t need to conduct a survey of economists to uncover the answer to this question. The government will extend most, if not all, of these tax benefits and spending increases.

This will lead to higher budget deficits and so make it the fifth straight year that the U.S. will experience a budget deficit that surpasses $1.0 trillion.

With slow economic growth at best, the Federal government will have to borrow more money to meet its budget deficit obligations—and pay for those tax benefits and spending increases.

For the individual investor, the best play on increasing government debt may be to take advantage of this correction in gold bullion and take a serious look at those out-of-favor gold bullion stocks. Given the scenario above, they are looking incredibly cheap.

Michael’s Personal Notes:

Small businesses are a critical part of the job creation that occurs in the U.S. jobs market. Small firms accounted for 48.5% of job creation in 2011, and 51.6% of job creation year-to-date in 2012 (source: ADP).

The National Federation of Independent Business released its latest index reading that showed that, despite the greater improvement in sentiment among small businesses, its optimism index remains at historic lows; dating back to 1986—25 years.

The most striking aspect of the report was that the number one problem among small business owners going forward was poor sales visibility.

The number of small business owners that were going to tap the jobs market, which would lead to job creation, has been falling steadily for the last three months. Twelve percent of owners dipped into the jobs market to create jobs; 14% reduced workers, while 74% decided to keep the status quo.

Many surveyed continued to be pessimistic about the economy recovery. This suggests that job creation among small businesses will continue to be weak. As a matter of fact, small business owners were 15% more pessimistic about an economic recovery than they were last year, which will certainly not improve job creation.

As a consequence, more small business owners that participated in the survey felt it was not a good time to expand and so were going to continue to hold off from large capital expenditures. According to the survey, the capital spending portion of the survey remained at historic lows, even though the reading has improved over the last few months.

Without significant capital expenditures, small businesses have no reason to tap the jobs market, which would result in job creation, which this country desperately needs.

The good news—like their large corporate counterparts—is that, with small businesses having been so careful with spending and job creation, their profits have been improving. Amazing how this trend holds true for the small and large businesses in this country: strong profit growth without job creation.

Some of the greatest uncertainties remain with policymakers in Washington. Where does health care stand and how does this affect current payroll and new hires? I described the tax benefits and spending increases above.

A small business owner must err on the side of caution and assume these benefits will expire on January 1, 2013, and so plan accordingly. In light of this, don’t expect small businesses to be at the forefront of job creation for the remainder of 2012.

Where the Market Stands; Where it’s Headed:

We close out the week with the Dow Jones Industrial Average around the 13,000 level. It’s been a great year to own stocks thus far, but the arguments against the bear market rally continuing through the year are mounting.

It’s a just a matter of time, dear reader, before the rally falls apart. Yes, there is more upside potential for stocks, but we are getting close to a top and the additional reward for owning stocks might not outweigh the risk for the majority of my readers.

What He Said:

“I’ve been writing to my readers for the past two years claiming the decline in the U.S. property market would not be the soft landing most analysts were expecting, but rather a hard landing. My view remains unchanged. The U.S. housing bust will be cut deeper and harder than most can realize today.” Michael Lombardi in PROFIT CONFIDENTIAL, June 13, 2007. While the popular media were predicting a bottoming of the real estate market in 2007, Michael was preparing his readers for worse times ahead.