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Don't Count On A Consumer-Led Recovery

Monday, 16 Mar 2009 | 8:44 AM ET
Credit Crunch
CNBC.com
Credit Crunch

There’s growing concern in some circles that the President’s economic policies are confusing massive stimulus with Big Government and will thus deliver a muted recovery in the next year.

Furthermore, with many measures colored by what some consider a social reform agenda--which may have some humanitarian merit--the wealth of initiatives is not pro-growth enough.

“This is Democratic trickle up [economics]; don’t even think about it working,” says Robert Brusca, chief economist at Fact & Opinion Economics. “When you help the bottom end of the market that is good for these people but you don’t create synergy. When you think about the economy and who you are helping you have to think about how it interacts with the broader economy."

Taxes Two Step

Chief among the concerns is the White House's tax policy.

On one hand, tax cuts on 95 percent of households may sound good, but are so small they are unlikely to more than soften the pain of the downtown.

Some 95% of American families at lower income levels will share about $770 billion in new tax breaks through 2019.

In particular, the stimulus package provides tax cuts of roughly $400 for individuals and $800 for couples.

Compare that to the rebate checks under the 2008 stimulus plan, which worked out to $600 per person and $1,200 per family, plus $300 dollars per child. They barely made a dent in the economy, with economists estimating as much as 40-percent directed to savings rather than spending.

“It’s not sufficient,” says Richard Hastings, who follows the consumer sector for Global Hunter Securities. “At this level you’d have to wait a year and a half to see anything.”

What’s more, the long-term Reagan and Bush administration tax cut measures involved a broad range of income groups and spared taxpayers far more money, but were still subject to a lag affect of a year or so.

Meanwhile, the White Houses’ budget proposal to hike taxes on the two top income groups (covering 3 million households), as well as capital gains rates, though not intended to take effect until 2011, will arguably begin to depress consumer spending even before that time.

As proposed under the $3.6 trillion-budget blueprint, rates will rise from 33 percent to 36 percent and 35 percent to 39.6 percent, respectively, generating $637 billion.

“The rich are going to pay for everything; we know that doesn’t work,” snaps Tom Schatz, President of Citizens Against Government Waste, which monitor federal spending.

The Obama team has tried to mute opposition by pointing to similar tax hikes by President Clinton early in his administration, but the economy had already emerged from recession by the time of their announcement and the 1990-1991 downturn was much less severe.

Consumer Contagion

Schatz and others say the tax hike proposal runs against the psychology that “people want to know they are going to have a job and feel comfortable spending money.” He says the tax talk also contributes to the current feeling that “it’s the worst ever.”

The highest earners, of course, have the most disposable income and thus any cutbacks in spending will be larger—especially when they have seen the value of their homes and stock portfolios plummet. That filters down.

“Look at anything that is $200 or $300 and up,” says Hastings. “They are the major drivers of price stability in the premium class.”

By the end of 2008, household wealth was down 20 percent from its third quarter 2007 peak of $64 trillion, according to the Fed.

The two top income groups also include a large percentage of the people who run small businesses, which still generate the bulk of the nation’s jobs. That also worries economists, policy experts and even some in Congress.

“It’s very easy to create an environment where people don’t want to create a business or hire people,” says economist Brusca. “People keep forgetting that employers provide jobs.”

More economists are now beginning to second guess the administration’s assumption that its measures will create or save 3.5 million jobs in the coming years.

Despite all that, the President thus far has not had to refute that alleged shortcoming of his plan.

“The public does not buy the argument that hurting business, hurting the affluent, is hurting them; in fact it is quite the opposite.” says Eric Dezenhall, a crisis management consultant in Washington, who worked in the Reagan White House.

Supporters of the Obama plan say it no more social driven than his predecessor and that there is going to be a tension with Corporate America and Wall Street for the time being.

"You can call it ideological," says Dean Baker, co-director of the Center for Economic & Policy Research. "It makes common sense and it hits some poweful interest groups. If he can stay there with 60-percent approval ratimsg, business will have to cut a deal."

Risk-Reward Analysis

Both history and the odds, however, may be against that.

“In next five or six months, he’s going to need to deliver and have some bright things to talk about, or they’ll turn on him pretty quickly,” saysLarry Smith, a crisis management expert and former press secretary for Sen. Dan Quayle.

The latest NBC/Wall Street Journal poll shows the President is more popular than his actual policies which – like his overall strategy – will only receive more scrutiny as the tough times drag on.

“The whole Obama agenda is being dumped into the stimulus part,” says Robert Bixby, executive director of the Concord Coalition, a non-partisan, watchdog of government spending.

“What’s getting blurred is spending on stimulus and spending on investment. You need to do some prioritizing; you have to cut back elsewhere. The long-term [budget] outlook was unsustainable before he started.”

As government spending continues to rise, it will have to be paid for--through higher tax revenue and/or borrowing. And that has people on and off Capitol Hill worried about more tax hikes.

“You simply have to broaden the base to pay for that,” says Rep. Michele Bachmann, (R-Minn), a critic of many of the Obama administration policies. She worries that the tax increases could fall on households earning below $100,000.

If so, that will create an even bigger drag on consumer spending, which accounted for as much as 70 percent of all economic activity before the recession.

Hastings, the consumer analyst, is forecasting that the consumer side of the economy will stabilize in mid-2010, as the lower-and middle-income segments start to benefit from modest job creation. However, don’t look to a return to the boom days of 2006.

“We don't expect any rebound in aggregate consumer spending to the historical peak,” he says.

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