According to the nonpartisan Congressional Budget Office, the last-minute fiscal cliff deal resulted in spending cuts of $15 billion while increasing tax revenues by $620 billion. That represents a 41:1 ratio of tax increases to spending cuts. While the compromise makes some progress toward creating a sustainable balance, the federal budget equation remains awash in a sea of red ink.
The January 1 compromise reduced the much-feared “cliff” to a less scary “bump.” By increasing taxes for those in the top 2% and maintaining current rates for the rest of America, our leaders made some attempt to address the revenue side of the budget equation, but Congress did not address the spending side of the equation. Instead of making a meaningful attempt to cut spending or submit to their own prior sequestered spending cuts, Congress kicked the can two months down the road, ensuring that we will be saddled by unresolved fiscal issues as well as the debt ceiling.
Has the Congress delayed this fiscal cliff only to create another, perhaps steeper precipice on the near horizon? Only time will tell, but one thing is certain: failing to address these pressing issues now serves to extend the uncertainty for the economy and the markets. Congress has once again demonstrated its unwillingness to act unless brought to the brink; given how the markets responded to Congress’ 2011 dalliance over raising the debt ceiling, I am not encouraged.
As far as how these events might affect your investments, again, only time will tell. In the immediate aftermath, stocks rallied around the world to celebrate the deal. Over the short-term, I believe the newly passed budget package could benefit municipal bonds and both investment grade and high yield corporate bonds at the expense of U.S. Treasury bonds. Municipal bond holders can breathe a sigh of relief that Congress did not alter the preferential tax treatment of muni bond interest. Further, risky assets might continue to run ahead. With the prospect of needing to reach another deal just 60 days from now, uncertainty will continue to be the watchword.
Please stay tuned for more information and details on an upcoming webinar on how you can invest in an environment where the market’s fate might rest largely in the hands of politicians and policymakers.