The economy is once again teetering on the edge of a so-called fiscal cliff. Investors don’t seem to care.
The broader stock market has roared back to life in recent months. The Nasdaq, led by big tech companies, has surged 16% this year and is not far from a record high.
Yet as July 31 approaches, there are growing concerns that Congress will only pass a watered down fiscal stimulus package — one that does not include an extension of the $600 in unemployment benefits that many Americans have come to rely on during the Covid-19 outbreak.
This has brought back memories of the last time the US was brought to the edge of a fiscal cliff back at the end of 2012. At that time, worries about the looming expiration of tax cuts and automatic spending decreases by the federal government rattled investors. A crisis was averted after President Obama signed off on a deal reached by Congress just after New Year’s Day of 2013.
The 2020 fiscal cliff is different. More fiscal stimulus is almost certainly coming soon from Washington.
But the estimated $1 trillion that Senate Republicans are said to be proposing pales in comparison to the $2 trillion in benefits already approved by Congress and signed by President Trump in March as part of the CARES Act.
It’s also significantly lower than the more than $3 trillion in aid that Democrats in the House approved in May but likely has no chance of being approved by the GOP-controlled Senate.
More spending may be necessary
So are investors overlooking the possibility of a deeper slump down the road if Congress doesn’t come to the rescue?
Economists are currently predicting a 35% annualized contraction in the US economy for the second quarter. That data will be released Thursday. The hope is that will be the worst quarter of this coronavirus-induced recession. But what if it isn’t?
Millions of people remain out of work and there are growing calls to provide new stimulus checks for even more low-income Americans.
Some experts warn that consumer spending could dry up if there isn’t a sufficient level of new stimulus.
“Sectors that are heavily dependent on consumer health — retailers, travel, homebuilders, real estate — could be especially sensitive to negative headlines” about the fiscal cliff, said Lindsey Bell, chief investment strategist with Ally Invest, in a report last week.
Bell added that “Congress’ decision on a new wave of support could make or break the next leg of the economic recovery” and that “pulling or reducing fiscal support could lead to a deterioration in the economic improvement recently recorded.”
The Fed coming to the rescue again?
Still, some fear that Washington hasn’t done enough to help lift the economy.
“The delegation of addressing the pandemic to the states, and what can fairly be described as the abdication of any responsibility for the pandemic on the part of the federal government, have contributed to a debilitating sense of policy uncertainty that is dampening economic activity,” said Joseph Brusuelas, chief economist with RSM US LLP, in a report earlier this month.
Brusuelas argued that “absent help from the federal government, the states are heading for a fiscal cliff.”
But even if Congress and the White House don’t step up, there still could be even more stimulus from another corner of Washington. Bell noted that the market has been able to keep rallying — despite fiscal cliff concerns — “thanks in most part to unwavering support from the Fed.”
The Federal Reserve has already slashed interest rates to zero and launched trillions of dollars in lending programs.
The market continues to believe that the Fed can (and will) do even more if necessary. Fed chair Jerome Powell is likely to be asked about the possibility of more stimulus at a press conference on Wednesday.
“The Fed will keep its foot on the gas. It is all in and fully vested,” said Noel Dixon, global macro strategist with State Street Global Markets, in an interview with CNN Business.
Still, the Fed can only go so far. Dixon conceded that much of its efforts are doing a better job of propping up the stock market than helping average consumers on Main Street.
“The Fed has also helped cause the disconnect between Wall Street and the real economy. You will need more fiscal support as well,” Dixon said.