VERSACE: Tax reform uncertainty could hinder hiring

ANALYSIS/OPINION:

Both investors and consumers are now aware we averted the debt crisis earlier this week. That’s the good news. The bad news, however, is the solution and what it may call for in terms of potential tax reform that will fuel uncertainty and negatively impact an already weakening job market. Combined with shortfalls in recent economic data, this will drive economists to recut economic forecasts for the balance of 2011 and pressure the overall stock market near term.

After several weeks of acrimonious congressional fighting, the debt ceiling was raised, but a lingering concern is the country’s credit rating as seen through the eyes of Standard & Poor’s, Moody’s and others. Despite congressional approval to raise the debt ceiling, the credit rating firms said they still could downgrade their top ratings for the U.S. if the nation’s fiscal situation worsens or needed spending cuts don’t take place. That debt ceiling deal did not stop Chinese credit-rating agency Dagong Global Credit Rating Co. from downgrading its view on U.S. sovereign debt this week. Dagong cut U.S. Treasury’s to “A” from “A+,” with a negative outlook, saying growth in U.S. debt is still outpacing revenue growth.

While many had hoped the eventual debt and deficit solution would calm fears of uncertainty, I would argue that the passed solution once again kicks the can down the road and fuels uncertainty for both consumers and businesses for the next few months. That uncertainty centers largely on tax reform, which may mean a new tax code where everyone’s rates are lowered, but deductions are limited or non-existent. Similar to the lead-up to the passage of President Obama’s health care bill, tax reform uncertainty will stymie businesses when it comes to hiring in the coming months.

That is for those companies that are in a position to hire. It appears the number of such companies waned in July according to Challenger Gray & Christmass July Job Cut Report. That report showed job cuts surged 60 percent in July to a 16-month high due to layoffs from the likes of Merck & Co., Borders, Cisco Systems, Lockheed Martin, Boston Scientific and others. So far this year, employers have announced 312,220 cuts, 8 percent fewer than the 339,353 announced in the first seven months of 2010. While that sounds like good news, the bad news is that July marked the third consecutive increase in monthly job-cut announcements. Adding fuel to the fire was the month over month drop in July’s ADP employment report, which confirmed a slowdown in hiring.

The real question now is what this all means for Friday’s July Employment Report. As I write this, the Wall Street consensus calls for 84,000 non-farm jobs to be added in the month, up from the paltry 18,000 added in June. Recently the Labor Department provided more granularity on its June employment report which revealed the unemployment rate rose in 345 large metropolitan areas, up from 210 cities in May and a reversal compared to April, when unemployment actually fell in nearly all urban areas. Based on the Challenger Gray and ADP reports for July coupled with sentiment and recent reading on economic confidence, I would be shocked if Friday’s July employment report comes in better than the 84,000 expected by Wall Street.

Already economists, analysts and investors are re-jiggering their economic forecasts to account for last week’s revision to gross domestic product figures, which included a weak reading for the second quarter of 2011, a contraction in June durable goods orders and the drop in June personal income and spending levels. If Friday’s reported July employment data is a wide miss to the downside compared to that 84,000 consensus figure it will mark two consecutive months with little to no job creation. Not only will that result in more forecasts getting reworked and retooled, it will also pressure what has an already nervous stock market.

Stay tuned.

• Chris Versace, the Thematic Investor, is director of research at Think 20/20, an independent equity-research and corporate-access firm in the Washington, D.C., area. He can be reached at cversace@washingtontimes.com. At the time of publication, Mr. Versace had no positions in companies mentioned; however, positions can change.