Well, the economy continues to move forward in fits and
starts.
Well, the economy continues to move forward in fits and starts.
Economic policy has responded with more stimuli, and financial markets are trying to make sense out of it all. The focus on getting the economy going seems appropriate.
This has been a slow economic recovery and just about everybody is impatient with the anemic results to date.
Yesterday, the Federal Reserve moved yet again to lower short-term interest rates, cutting the fed funds rate to one percent. This is the lowest that the rate has been since 1958.
Other monetary policy indicators look good – the M2 money supply and bank lending are rising at better than eight percent.
Two weeks ago the president signed another round of tax cuts into law. For those of you holding dividend-paying stocks, the tax cut on dividend income was retroactive to January 1, 2003 as were the reductions in individual marginal tax rates.
These tax cuts will show up in July for some of you in the form of reduced payroll withholding and checks (up to $400) for the increased child credit. There are many other tax cut provisions that affect businesses as well as individuals.
Interest rate and tax cuts should help stimulate the economy, but there are two significant obstacles. First, businesses have continued to focus on cutting costs in order to get earnings rising again.
This has meant falling employment and weak capital goods and inventory investment.
Second, both Europe and Japan’s economies remain quite weak, so the United States has to lead the world recovery – dragging them along (this is called the “United States as locomotive” growth model).
While the business of cost cutting hurts now, it does provide the foundation for future growth. So when cost cutting draws to a close, the economy should accelerate.
We shouldn’t be so optimistic over foreign economies though, as it is not uncommon for the United States to lead a world recovery.
The U.S. stock market has staged a ragged, but impressive recovery so far this year. The Dow is up about eight percent, the S&P 500 is up about 11 percent and the NASDAQ is up about 21 percent.
The gains from the market bottom in early March are even larger and some are calling this a new bull market.
That assessment may be premature, but these stock market gains may be reflecting growing optimism about the economy, rising expectations for company earnings and lower interest rates.
The question now is whether these market gains are sustainable.
While near-term moves in the market are unpredictable, in the longer-term, equity markets can continue to recover. Watch the second quarter earnings reports and various economic statistics for clues to risk and return potential.
Dan Newquist is a Registered Representative with Linsco/Private Ledger (Member SIPC). His office is in downtown Morgan Hill.
