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October 28, 2012 5:55 pm

CEOs speak up as US heads for fiscal cliff

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Industry leaders want action on the structural problems of the budget

As Republicans and Democrats in the US Congress race towards the “fiscal cliff” like James Dean and Corey Allen in Rebel Without a Cause – daring each other to chicken out first – the country’s chief executives are trying to stamp on the brake.

The “cliff” they are fast approaching is the economically dangerous concurrence of two events: the scheduled expiration of tax cuts enacted under President George W. Bush and public spending reductions agreed as part of a deal to raise the legal ceiling for the US national debt. Both will take effect at the beginning of January unless Congress can agree a plan to prevent them.

But while the politicians argue over directions, more than 80 CEOs – including the leaders of companies such as Microsoft, UPS, JPMorgan Chase and General Electric – came out last week as public supporters of the “Campaign to Fix the Debt”, a lobby group calling for a long-term plan to curb US government borrowing.

The CEOs want action on the structural problems of the US budget, of which the most serious is rising healthcare costs. Their motivation for speaking up now, though, is the threat over the next few months, rather than coming decades. Their success or failure will decide the outlook for US business next year.

If the cliff is not avoided, the lower spending and higher taxes would have an immediate impact on government borrowing, cutting it by 3.7 per cent of gross domestic product, according to the London School of Economics. This would also almost certainly tip the country back into recession.

The National Association of Manufacturers, an industry group, says uncertainty over the issue is already deterring hiring and investment, and will cut 0.6 percentage points from US GDP this year. If the US goes over the cliff, it adds, “the effects will be far worse”.

Several CEOs, including Jeff Immelt of GE, say they expect Congress to pull back from the brink because the consequences of failing to do so would be so serious.

Dave Cote of Honeywell, one of the debt campaign’s leading figures, said that if politicians were playing with fire last year when they dragged their feet over raising the debt ceiling, “this time they’re playing with nitroglycerine”.

If Congress cannot reach a budget deal, he added, “we could have a recession in my view that is significantly greater than [anyone] is forecasting today, because it’s an indictment of our ability to govern”.

While CEOs are working for a deal, they are also planning for what will happen if they fail.

Whether the country does go into recession will depend on how long Congress goes on without reaching agreement. Although the tax increases and spending cuts formally start on January 1 and 2 respectively, the full impact will not be felt immediately.

Bob Stevens, chief executive of Lockheed Martin, the largest US defence contractor, said last week he had been told by the Pentagon that its contracts were not likely to be affected for three months. If, as many in Washington expect, a deal is done early in the new year, the worst effects could be forestalled.

However, there is one consequence that could hit very quickly: turbulence in financial markets. If taxes rise and spending is cut, interest rates on Treasury bonds are likely to fall as a result of the reduction in the budget deficit and the heightened threat of recession.

On the other hand, a short-term deal that avoids the cliff while showing no signs of tackling long-term budget problems could push rates up, according to economists at Bank of America Merrill Lynch.

Prolonged political wrangling is also likely to raise corporate debt spreads. The US Federal Reserve found investors’ appetite for risk declined last summer during the argument over the debt ceiling, and the impact from disagreement over the fiscal cliff may be worse.

If a recession looks a real possibility, the effect will be even greater. Even the largest US industrial groups still make about half their revenues in their home market, according to Jeff Sprague of Vertical Research Partners. In a world where Europe has been predictably weak and China has disappointed, the health of US demand is critical for corporate earnings.

A budget deal that averts the short-term danger while offering some reassurance about the long-term position could give a significant boost to US business. In Mr Cote’s words, “we can provide a stimulus to the world”. The fear is that Congress may take a while to see it that way.

Explaining GE’s recent move to refinance $5bn of debt maturing in February, Keith Sherin, GE’s chief financial officer, said financial markets might be “choppy”.

He sounded like a driver preparing passengers for what could be a bone-shaking ride.

Ed Crooks is the Financial Times’ US industry and energy editor



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