The domestic economic outlook is less certain over the remainder of 2012, with the pull forward in activity over the last two quarters yielding to an undefined payback in the immediate period.
- Economic growth outside of the U.S. is slowing, and with it, U.S. export growth will moderate.
- Government spending (local, state and national) is retrenching.
- The residential real estate market is slowly coming out of its funk.
- Banks are liquid but cautious.
- Financing for the largest corporations is cheap and available -- but less so for small businesses and consumers.
- Debt-laden households are still deleveraging, and real disposable incomes are still flat-lining. (Savings rates are being drawn down which is likely to restrain retail spending.)
In the fullness of time, pent-up demand will be unleashed (as is currently the case in the automobile industry), but the timing is uncertain (particularly with elevated gasoline prices). On the other hand, the reduction in the price of natural gas has led to lower energy usage, and recent signs of slowing growth suggest that inflationary pressures will be easing.
If the domestic economy falls further than consensus forecasts, moderating inflation lays the groundwork for more Fed
easing. In this case, the June-end monetary cliff would be less dangerous.
At the same time, the fiscal cliff at year-end poses much risk to the markets and to the U.S. economy. Currently, the constitutionality of the health care law is being decided by the courts. But even more important is the political gridlock and paralysis in Washington, D.C., which puts a pause on spending and tax decisions until after the November election (at the earliest). Even if there is some smooth solution to the vexing year-end tax and government spending issues (that will potentially result in more than a 3% hit to GDP and could trigger a recession), the structural deficit will grow ever larger, and a confrontation regarding the federal debt ceiling lies ahead.
It should not be surprising that the business community, facing numerous economic, tax and political uncertainties (after having already experienced a halving in the business tax credit on Jan. 1, 2012), is tentative and restrained in making meaningful and effusive capital spending and hiring decisions.
Then there is the long tail of the European debt crisis. Though, to some, 2012 doesn't feel as bad as 2011, Spain's woes likely represent the greatest systemic challenge to the eurozone since the contagion began, and it is hard to see the market making much headway until there is some meaningful resolution. (The next data point for Spain is Tuesday morning's remarks by Mario Draghi, in which we might receive hints regarding ECB policy options involving more LTROs or even an activation of the SMP.)