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Commentary: Fiscal Cliff Friend or Foe?

The media didn’t waste anytime moving from 24/7 election coverage to inundating us with talk of the so-called fiscal cliff. But despite all the doom and gloom, there is much to be optimistic about. The fiscal cliff is the set of policy changes set to go into effect on Jan. 1. It includes expiration of the Bush-era tax cuts, including higher marginal tax brackets, higher capital gains and qualified dividend tax rates, reversion of estate taxes back to 2001 levels, approximately $110 billion in across the board budget cuts; and expiration of unemployment benefit extensions, the 2 percent reduction in the payroll tax and a host of other items too numerous to mention. For perspective however, the top marginal tax bracket would rise from 35 percent to 39.6 percent, which compares very favorably to the 50 percent tax rate in the early ‘80s, a 70 percent tax rate in the ‘70s and fully 90 percent during the 1950s.

If these changes go into effect, the independent Congressional Budget Office forecasts a deficit reduction from more than $1.1 trillion to $641 billion. This $500 billion reduction in deficit spending would cause Real Gross Domestic Product (GDP) growth from decline from around a 2 ¼ percent annualized rate to an estimated negative 0.5 percent and a rise in unemployment to about 9 percent (from 8 percent) in the second half of calendar 2013. Importantly however, growth is expected to then rebound late next year, average a healthy 4.3 percent from 2014-2017 and remain quite healthy through 2022, the forecast period. Deficits would continue to decline and remain quite low, especially compared to recent history. The unemployment rate is projected to decline to under 6 percent by late 2017 and to just over 5 percent in 2022.

However, if Congress once again kicks the can down the road, deficits would remain unsustainably large, national savings and investment would be hindered, the economy would grow more slowly over the 2015-22 period and interest rates would be elevated. Undoubtedly, there are better solutions than across the board “sequestration” tax increases and budget cuts, but changes are indeed called for.

The stock market is a discounting mechanism. Participants make collective “best guesses” about what future years hold and discounts that back to the present. The market absolutely looks past a single year and considers the sum of the matter into infinity. Regardless, as 2008 reminds us, human psychology (fear and greed) often causes us to extrapolate current events. Consistent with your longer term goals, if the market does pullback in anticipation of a recession, be sure to rebalance and add to your equity position in anticipation of better days ahead.

To increase peace of mind about your money matters, focus on what is important to you and what you can control. Focus on your goals and aspirations, your retirement life style, your kid’s college experience, or your next trip abroad. Regardless of what happens in January, it is beyond our control. But as noted, it is more a bump in the road than a cliff.

 

Robert V. Bolen, CFA, CFP®, President, Envision Wealth Planning, Brentwood, Tenn. He can be reached at 615-242-3808 or visit www.envisionwealthplanning.com.

 

Posted on: 12/14/2012

 
 

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