Two Pitches with One Swing

December 14, 2010

Major market indices were mixed last week. The DJIA gained 0.25%, the S&P 500 increased 1.28%, and the Nasdaq rose 1.78%. Value stocks outperformed growth stocks. And the small cap index rose 2.70%. The 10-Treasury yield gained 36 basis points on the week, closing at 3.33%.
President Obama announced a compromise with Republicans including a two-year extension of the Bush-era tax cuts, a one-year payroll tax reduction and a huge investment tax credit, Bloomberg reported. Without the compromise, middle-income families would become "collateral damage for political warfare here in Washington," Obama said.
Analysts at Goldman Sachs estimate that the proposal, if signed into law, will add more than $185 billion in stimulus next year, in addition to the current programs.
This was brilliant maneuvering by the president. Obama recognizes that his re-election depends on reviving the economy. Realizing that the new congress does not want to hear the word "stimulus," he instead enables small business owners to fully expense all business investment. This represents a huge backdoor stimulus program for small business owners, the largest employment segment in the economy.
If effective, this will positively impact business spending as well as employment.
What could this mean? Simply this: the president has put the tax issue to bed in the way most desired by the electorate, while also giving himself a chance to hit two pitches with one swing--stimulating business investment and employment at the same time. Regardless of what the mediacracy says, this president had better not be counted out yet. This move could be the equivalent of landing a haymaker to the chin after decisively losing the first six rounds.
Following are the central facets to the tax program:
- Two-year extension of tax cuts for all income levels. This much was expected. The 15% rate on capital gains and dividend income would also be extended as part of the deal. President Obama also suggested a 35% estate tax rate, with a $5 million estate tax exemption.
- Payroll tax deduction. This would reduce the 6.2% Social Security payroll tax applied to employee wages by 2 points, saving businesses as much as $120 billion in 2011.
- Renewal of emergency unemployment benefits through the end of 2011. It puts around $60 billion in the hands of the unemployed.
- ARRA tax-cut extensions. Several small tax cuts in the American Recovery and Reinvestment Act, passed in 2009, will be extended, including an expanded earned income tax credit, $1,000 per child tax credit, and various education-related tax breaks. This puts $20 billion more in citizens' hands.
- Full expensing of business investment in 2011. This is a huge deal, and will allow the expensing of business investment in 2011, and reducing corporate taxes by $100 billion next year. This allows companies to put up new facilities, make capital expenditures of all types, and take the entire expense off their taxes. Great idea.
If you think this market run-up has peaked, you're wrong.
Last week's announcement represents a massive stimulus plan. This is in addition to the $750 billion stimulus from 2009, and the recent quantitative easing announcement. Even before this announcement, the stimulus infusion was the largest in history. Now, it becomes much more dynamic. And the impact on small business owners could be huge.
Following the huge stimulus after the nineties recession, the market grew by 500%. Well, this economy has much more stimulus to count on. Things could get really interesting. Stay tuned.

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