Stock prices do not reflect real possibility of automatic tax hikes, spending cuts
If Washington powerbrokers don't address the so-called fiscal cliff, the economy could be driven back into a recession, according to analysts at BlackRock.
In a report released today, Blackrock Inc. says the automatic spending cuts and tax hikes due to go into effect should a deal on the budget and debt ceiling not pan out would cause a 5.1-percentage-point hit to gross domestic product.
Combined, the tax levies and cuts would put an $807 billion drag on the economy, the report says.
Voter polls suggest that President Barack Obama will be re-elected and Congress will remain divided, making the fiscal-cliff risk difficult to gauge, according to Blackrock.
“The parties are far apart on the basic questions of managing the country's fiscal policies, making it difficult to imagine what compromises might be made to avoid the fiscal cliff,” the report says.
The financial markets, though, are not pricing in a high probability that political leaders will drive the economy off the cliff, Blackrock analysts suggest.
GDP growth projections of around 2% for next year and a still-buoyant stock market suggest “that the risks are to the downside and that markets remain vulnerable to a negative surprise,” the report says.
How should investors protect themselves?
Municipal bonds and mega-cap multinational companies should hold up relatively well in a fiscal-cliff-induced downturn, Blackrock says, because higher tax rates would help tax-free bonds, and large global businesses are less dependent on U.S. growth.
Higher rates on dividends would be a negative, but companies might respond by raising payouts.
“Corporate balance sheets are in pristine shape and dividend payout ratios are at historic lows, suggesting there is ample room for companies to increase their dividend payments,” according to Blackrock.
