Thanks to aneconomy that is a bit healthier than it was a few years ago, voters handed President Barack Obama the keys to the White House for four more years.
As a re-elected incumbent who campaigned on a platform of "stay the course," we have a pretty clear sense of what kind of policies and programs to expect from the administration. Or at least that's what many believe.
The actual path plotted by the Obama administration likely will be quite different: Simply put, the country's current challenges are quite different than what we saw four years ago. In early 2009, radical action was needed to forestall an economic collapse. In that respect: Mission accomplished.
Though the economy is not yet truly healthy, it could continue its path of modest 2%GDP growth -- assuming the so-called "fiscal cliff" doesn't come to pass. Such an economic backdrop will force the Obama administration to keep one eye on the still-weak employment picture while also figuring out ways to tackle the outsized budgetdeficit that still plagues Washington.
To tackle the employment challenges, Obama will again seek to provide some sort of stimulus, perhaps in the maintenance and rebuilding of our national infrastructure. But a recalcitrant Congress -- still in the hands of the opposition party -- may again thwart those plans.
It's the latter issue, the nation's massive budgetary problems, that you should expect to come into focus, and coming moves will have a clear impact on your pocketbook.
Taxes: Going up by how much?
Simply letting the Bush-era tax cuts expire, which appears increasingly likely, will raise taxes for many households. Although the top earners -- those making more than $250,000 a year -- will feel the deepest impact from a resumption of Clinton-era tax rates, even those in the middle class will feel the pain. For example, the 2% payroll tax cut that was enacted in 2009 during a time of crisis is likely to expire at year's end.
Yet if you make less than $250,000 a year, there is reason for hope. The scuttlebutt in Washington suggests Obama will seek to let all tax cuts expire so he can renegotiate the entire tax structure, primarily shielding sub-$250,000taxpayers in the process.
An area of bipartisan agreement: Both parties would like to dole out perks to small-business owners, especially with job-creating incentives. So if you are a small-business owner, look for newly proposed plans to hire veterans or replace outsourced jobs with local hires.
More broadly, both parties agree that the current tax code is too complex, with too many loopholes and too much room for tax abuse. Will Obama seek a bold initiative to lower tax rates while closing loopholes (taking a page from Gov. Mitt Romney's playbook)? History says maybe. Both Ronald Reagan and Bill Clinton pivoted to the center in their second terms and they scored many more legislative victories as a result.
Spending: Going down by how much?
Of course, Obama can seek to boost government revenues only to a moderate extent. He knows that the economy is simply too weak to withstand massive across-the-board tax hikes. Yet the budget crisis will still require bold fixes, and both Obama and leaders of the Democratic party have signaled a willingness to sharply cut government spending.
Why haven't they agreed to spending cuts already? Two reasons. First, the economy has been so weak in this recovery that many in the Democratic party have been pushing for deals that boost the economy in the near-term while pursuing deficit-shrinking moves a few years down the road. Obama has been caught between that position and the GOP push to tackle the budget gap immediately.
Second, both parties concluded at some point in early 2012 that a long-term budget deal might hand the other side a victory during the fall elections, so inaction took the place of action.
Now, with elections again a few years off, both parties are more likely to try to make a renewed push to come to a budget agreement. Will the Democrats succeed in their attempts to provide the economy with more juice now and deficit-shrinking moves later? Probably not. You can debate the merits of near-term economic boosts, but much of the U.S. public is so wary of the budget deficit that it's hard to conceive of any expansion in government spending at this point.
As a result, look for further reductions in government spending in 2013 and beyond, though not likely as draconian as is envisioned by the "fiscal cliff."
So what does a smaller governmentmean for your wallet?
- If you have family in the armed forces, be prepared for even tougher times ahead. The Department of Defense will almost surely go on a diet, even as it invests in new ships and other hardware. That means fewer soldiers and smaller benefit packages for those who remain in the military.
- If you are a school teacher, count on pay freezes and further job cuts. In the first part of his first administration, Obama sought to support states with funds that protect teachers' jobs. At the time, the move was seen as a stopgap in hopes that a firmer economy would restore state-level financesback up to historical levels. Now, lower state tax receipts appear to be the norm, and Washington is a lot less inclined to help out states at this point. A similar trend may play out among our nation's firefighters and police officers -- unless crime statistics spike higher.
- A smaller government is also likely to impact anyone living within commuting distance of Washington, D.C. The economy in that region has held up better than most, thanks in part to the still robust food chain of lobbyists and their spending. Fewer government employees, and fewer lobbyist dollars, are bound to create a drag on D.C.'s economy.
- Also, look for more user fees on the goods and services you buy. The government won't formallycall these tax hikes, but a reduction in federal contributions to state and local programs means the money will have to come from somewhere -- namely you. From highway tolls to DMV registrations to arts programs, get set for local and state governments to boost their slice of the taxing pie.
This scenario envisions an orderly reduction in the budget gap, with the efforts increasing over the span of Obama's next four years. Yet few things ever happen as orderly as is hoped.
And here's a greater concern that few are talking about right now: A key component of our government spending is interest on our national debt. Annual interest expense currently stands at $360 billion. But what happens if interest rates start to rise?
Well, government borrowing costs would quickly rise, consuming an ever-greater portion of our government spending, squeezing out funds for programs that have already been squeezed. (Roughly speaking, every 1 percentage point rise in interest rates would increase interest expenses by $100 billion). That's a doomsday scenario that few are even comfortable thinking about right now.
Action to Take --> Obama's first term was characterized by an initial economic crisis followed by an underwhelming economic recovery. Still, it could have been worse, at least compared to how global events were set to play out in late 2008.
But the next four years present their own challenges. For example, we still may see a big shoe drop in Europe, where Greece, Spain and others see their economies spiral out of control. That would undoubtedly impact our economy in myriad ways. And what if we get dragged into another military conflict? Where will the money come from to pay for that?
Frankly, our economy needs to stay afloat and continue to expand if these tough budgetary moves are to help lower the deficit. A slip back intorecession would make all these moves akin to treading water against a tide, and we'd still be in this same budgetary mess four years from now.
This article originally appeared on InvestingAnswers.com:
-- David Sterman
David Sterman does not personally hold positions in any securities mentioned in this article. StreetAuthority LLC does not hold positions in any securities mentioned in this article.
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