I don’t have to look at the calendar to know that it’s already August. All I have to do is notice that people waiting on the subway platform have a look of despair that comes only after giving up the hope of showing up for work wrinkle- and sweat-free. These days, my dog doesn’t linger on her walks and gets her business done in .0004 seconds. And if people aren’t already on vacation, they’ll show up for work in August–sure– but get nothing done. I mean, why hustle to get something on the boss’ desk when she won’t look at it until September 4?
August also reminds me that the year is passing quickly. It seems like not so long ago since the American Taxpayer Relief Act (“the tax bill”) was passed (back in January). Remember how everyone was worried that the moment January 1, 2013 came around, taxes would go up, estate exemptions would decrease and many credits and middle class benefits would disappear? And then good ol’ Congress swooped in with a last-minute bill that kept taxes low for many Americans and increased the tax rate for the “wealthy.” And other stuff. For a refresher on all the fun details of the tax bill, see https://moneymoxie.wordpress.com/2013/01/03/new-year-new-deal/
So what’s changed and what can we expect when Congress returns from summer break in September?
While the tax bill kept taxes at their low rate for most Americans, it allowed income and capital gains rates to go up for individuals/families who earn $400,000 and more. It also limited certain exemptions for higher earners (Pease and PEP exemptions), let some middle class benefits expire like the payroll tax holiday, and made permanent the AMT exemption. In addition, 2013 is the first year that an additional 3.8% tax will be applied on investment income earned by higher income individuals, thanks to a provision in the healthcare act.
2. The Deficit
Since the downturn began, politicians and economists alike were alarmed at the drastic increase in the federal deficit; not since the 1940s was our deficit at such dangerously high levels. Under normal circumstances, the deficit to GDP (gross domestic product–ie. national economic output) ratio hovers at around 3%. In the past few years, however, the deficit reached beyond $1.3 trillion in 2010 and about 10% of GDP, causing the US debt level to increase to historic levels.
The good news is that the Office of Management and Budget announced in July that it expects the deficit to fall to $759 billion for year ending 2013, or 4.7% of GDP, its lowest in five years. The improvement in the deficit is a result of the economy picking up speed as well as an increase in tax collections and the savings from the automatic spending cuts known as the sequester (for a refresher on the sequester, take a gander at https://moneymoxie.wordpress.com/2013/02/21/the-sequeezter-how-the-coming-budget-cuts-may-affect-you/ .)
3. The Economy
Since the beginning of the year, there’s been a marked improvement in the economy. Last week, it was reported that the economy grew by 1.7% in the second quarter which was an improvement over the 1.1% growth achieved in the first quarter of 2013. The unemployment rate also decreased to 7.4%, its lowest level in five years, although the increase in jobs was a result of discouraged unemployed workers leaving the workforce. Going forward, many economists are optimistic that companies across most industries will continue to expand, boosting employment and growth into 2014.
4. The Stock Market
Despite some gloomy reports about US markets in the beginning of the year, as well as the continued downturn in Europe and slowing economies of emerging markets, the US stock market has been on a roll! Recently, the S & P surpassed 1700 in intraday trading and has been consistently closing above 1500 for months. The market is up over 20% to date, and up near 12% from its pre-recession high.
What to expect after summer break…
1. Debt Ceiling Debate
Just when we thought the sunnier economic outlook would result in a more harmonious Congress, BAM! The debt ceiling debate comes along! While this winter, we mostly avoided a repeat of the summer of 2010 debt ceiling fights that caused Standard & Poor to lower the credit rating of the US–mainly because the automatic spending cuts were instituted in February which helped to reduce the deficit anyway—get your popcorn ready for another round of debates in September. While many Republicans and small business owners want the President to roll back the tax increases instituted by the tax bill, the President has called for a decrease in the corporate tax rate from 35% to 28% as long as Republicans will agree to additional spending on infrastructure and development projects. There are also calls for additional savings by limiting or doing away with tax write-offs of municipal bond interest, real estate interest and charitable contributions.
2. The Stock Market And The Fed
While the market has been on a high this year, many investors fear a pullback if not an all-out crash later this year. One huge factor in whether the market will continue to boil or bust is if or when the Fed will decide to slow its $85 billion in monthly purchases of bonds known as quantitative easing (QE3). The fear is that once the Fed bond purchases slow or stop, interest rates will go up which could have a drastic effect on investments and wealth. The good news is the Fed reported earlier this year that it would not begin to slow these purchases until 2014, but could change its mind sooner if the economy continues to improve.
What should you do to prepare for stormy weather?
– Make an appointment to speak with your financial advisor to discuss coming events in Washington and Wall Street and how they may affect your investment portfolio. Don’t wait for your advisor to call you; be proactive. After all, it’s your money!
– If you don’t already have an advisor, find out who is near you and who you click with. http://www.napfa.org/
– Consider low-cost investments that mirror a specific exchange or index like an Exchange Traded Fund (ETF) that can offer strong returns and an alternative to owning stocks or mutual funds.
– To hedge against rising inflation, consider adding TIPS, commodity funds and real estate trusts (REITs) to your overall portfolio.
– If you’re in the higher tax brackets, make sure to include tax efficient investments in your portfolio like separately managed accounts.
– Pay attention to how you invest your retirement account vs. your investment portfolio. It may be more advantageous to include taxable investments in your retirement account since those will be tax-deferred until retirement, and keep tax efficient or tax-free investments in your taxable investment portfolio.
But first–enjoy the rest of the summer!
A recent USA Today poll revealed that about 25% of Americans know little to nothing about the sequester–the mandatory across-the-board budget cuts set to be instituted on March 1 (that’s next week by the way). This is alarming since these budget cuts could affect us on a daily basis and could make life pretty inconvenient. Probably because of this collective cluelessness, another Pew/USA Today poll revealed that if nothing is done to resolve the sequester issue, about half of Americans will put the blame on Congressional Republicans and about 30% will blame the Obama Administration. And so, the finger-pointing continues in yet another politican-created crisis.
How did we get ourselves into this mess?
The sequester resulted from the debt ceiling debacle in the summer of 2011. Congress was debating whether to raise the debt ceiling and had a deadline of August 1st to come up with an agreement along with a deficit reduction plan. A “supercommittee” of politicians from both parties worked together to figure out mutually beneficial tax increases and budget cuts. Not surprisingly, the committee failed to agree on final terms; what they did come up with was a plan to decide to plan to hopefully-maybe-fingers-crossed come up with some deficit reduction options sometime in the inter-galactic future.
This mandate was part of the Budget Control Act of 2011, and also included the sequestration language; that is, failure to agree on deficit-reducing legislation would automatically trigger the sequester, which are automatic cuts that would affect every discretionary area of the federal budget.
When the Budget Control Act was drafted, no one thought Congress would be so irresponsible as to allow these budget cuts to be triggered. But like the 2011 debt ceiling debacle that lasted over 6 months and culminated in deadline drama, and the recent fiscal cliff thriller that ended with “cliff”-hanging legislation on New Years Eve, it looks like Congress is going to ride this one out too.
How will the sequester affect government budgets & the economy?
The sequester calls for $1.2 trillion in deficit reducing budget cuts over ten years, about $85 billion in cuts for this year alone. All areas of discretionary government spending will be affected, including social services, defense, education and housing. The areas not affected by the sequester are funding Social Security, Medicare, Veterans Benefits, etc.
Economists and politicians fear that implementing the sequester will have negative effects on our economy. Some economists believe that these austerity measures would reduce economic growth by .5% –so that the US economy would grow at 1.5% annually instead of the 2% growth that was forecasted (already well below the healthy 3% minimum growth we’ve seen in past years). The cuts are also expected to increase the unemployment rate, expected to hover around 7.9% by end of 2013.
Recently, Erskine Bowles, former Clinton White House Chief of Staff and more recently, a co-author of a famous deficit reduction proposal that was commissioned by Obama but that went nowhere (the Bowles-Simpson deficit reduction plan), was quoted regarding the spending cuts from the sequester:
“They are dumb and they are stupid, stupid, stupid. They are inane. There’s no business in the country that makes cuts across the board. You go in there and you try to cut those things that have the least adverse effect on productivity.
“Second, they’re cutting those areas where we actually need to invest: education, infrastructure, research.
“And third, they don’t make any cuts in those things that are growing faster than the economy. And that’s stupid, stupid, stupid.”
What Do The Cuts Possibly Mean For Us?
While the cuts have not yet been instituted, it’s possible that government-funded programs, agencies, infrastructure initiatives, etc. will be curbed in the next few months. Here are some likely outcomes:
– Government and military civilian worker furloughs are likely.
– National parks, monuments, camp sites, forests, etc. could be closed or reduce hours of operation and services. Libraries may also reduce hours, services and close branches.
– Fewer teachers as well as cuts to education funding and grants; access to after-school and Head Start programs may be reduced or eliminated.
– Housing and mortgage assistance could be affected as cuts may affect HUD (that provides housing for lower-income Americans) and government-funded mortagage assistance programs.
– Less spending for research and programs for National Institutes of Health (NIH), Center for Disease Control (think West Nile, bird flu, etc), Food & Drug Administration (the return of cosmetic testing on kittens??? NO!), etc.
– Fewer government workers like the TSA (longer lines at airport security!!!), border control agents, immigration and drug enforcement agents, etc. IRS agents may also see reduced hours or cuts.
– Budget-slashing at the Justice Department could lead to fewer investigations of wrong-doing and more abusive practices slipping through the cracks. Budget cuts to other government-funded regulatory agencies like the SEC, FDIC, etc. could result in less oversight and possibly more abuses in the financial industry.
– The sequester could hurt Hurricane Sandy government-funded recovery efforts.
– Cuts to defense resulting in less training for deployment readiness, cuts to equipment and weapons maintenance, investment in weapons, etc.
– Major cuts to defense funding could result in decreased naval and Air Force operations.
The Sequester Squeeze
With a week left to go before the sequester kicks in, Congressional politicians have been busy doing what they do best: finger-pointing while on vacation. The Republicans have been putting the responsibility on the Obama Administration, calling it the “Obama sequester” (even though the vast majority of Republicans voted for the Budget Control Act and the sequester in 2011.) The Democrats have taken their turns at the blame-game, accusing the Republicans of dragging their feet and not caring whether the cuts kick in.
Either way, it looks like we’re in for a bit of austerity starting next week. If so, now might be a good time to check out a ton of library books you don’t plan on returning and fudging on your taxes. There may not be anyone on the other side to check up on you.