Economy Suffers as Congress Refuses to Cut Deficit
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The Fiscal Times
July 18, 2011

American businesses are fed up with Washington’s budget circus and the squabbling over raising the debt ceiling and a plan to assure future fiscal stability. When 470 CEOs sign a letter to the White House and Congress telling lawmakers to get their act together, it’s clear that business leaders are worried. The problem for the economy is that Washington’s paralysis is also paralyzing the business sector. Growing uncertainty has created a new round of corporate caution that is reducing the chances for stronger hiring and economic growth in the second half.

Federal Reserve Chairman Ben Bernanke echoed the popular line among economists when he told two Congressional panels last week that the first-half slowdown was the temporary effect of higher gas prices and supply disruptions after Japan’s earthquake and tsunami. Once the effects of those shocks passes, he said, he expects stronger economic activity and job creation. However, surprisingly pale reports on jobs and retail sales in June and July consumer sentiment suggest the economy’s vital signs are getting weaker not stronger, raising questions about the second half outlook.

Businesses hate uncertainty. It complicates planning, lessens willingness to commit funds to expansion, and—most important—puts a damper on hiring. The debt ceiling issue, while urgent, is only a small part of that uncertainty. Wall Street and political analysts generally believe lawmakers will not be so reckless as to fail to raise the debt limit. Any agreement, if only on that front, would avoid the sharp federal cutbacks and financial market turmoil that economists believe would lead to another recession. The 470 CEOs in their letter to policymakers said that, even in the absence of a debt ceiling crisis, what they need in making plans to invest and hire is confidence in the future regarding government policy.

A sigh of relief over the debt ceiling, by itself, will not alleviate business or financial market concerns. That’s because it will do nothing to answer the greater questions about when and how Washington will address its long-term fiscal instability and how those actions will affect the economy. The rating agencies put it more bluntly than the CEOs. On July 14, Standard & Poor’s, following a similar move by Moody’s, warned that there is a 50-50 chance it would downgrade the U.S.’s credit rating from AAA to AA if lawmakers “have not achieved a credible solution to the rising U.S. government debt burden and are not likely to achieve one in the foreseeable future.”

 

The new concern for the rest of this year is the impact of business uncertainty on the job market. In June, job growth ground almost to a halt, and the unemployment rate continued to rise. Economists at Barclays Capital see a clear correlation between uncertainty and job creation. Barclays economist Troy Davig says heightened uncertainty results in a wait-and-see effect that depresses hiring. “A real risk to the labor market is if the current debt ceiling negotiations, while avoiding default, fail to deliver a comprehensive fiscal agreement,” he says.

It’s not that companies, on the whole, face any great need to lay off workers and cut costs. They have already done that, and continue to reap the resulting rewards of higher profit margins and cash reserves. Companies just aren’t hiring. June’s negligible 18,000 increase in payrolls was the net result of about four million people hired and about the same number leaving work, either voluntarily or by layoff. Over the past year layoffs are down 2.3 percent, but gross hiring is down by an even greater 6.4 percent. “Businesses have the capacity to hire more aggressively but are holding back out of nervousness about policy,” Moody’s Analytics chief economist Mark Zandi says in a recent report.

Businesses are losing faith in both the economy and Washington policymakers. The Conference Board’s index of CEO confidence tumbled in the second quarter. The Board said only 33 percent of the execs surveyed said business conditions were better than they were six months ago, down sharply from 85 percent in the first quarter. “Expectations are that this slow pace of economic growth will continue,” says the Conference Board’s Lynn Franco. Just 43 percent of the CEOs foresee improvement in economic conditions over the next six months.

James C. Cooper
was BusinessWeek's senior editor, senior economist and author of its influential Business Outlook column. Prior to that, he was an economist at the American Paper Institute, performing economic analysis and forecasting. He holds bachelors and masters degrees in economics.