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THE BATTLE OVER FISCAL POLICY has been joined.
In one corner stands Jean-Pierre Trichet, urging an immediate adoption of austerity. In what the Financial Times described as a "strident" article published in its own op-ed pages, the European Central Bank president last week proposed tax increases and spending cuts throughout the industrialized world.
Trichet's call for fiscal austerity in the FT reiterated his assertion last month at the Group of 20 meeting that such hair-shirt policies would boost confidence and therefore the economy, an argument last heard 80 years ago. ("G20 Channels Herbert Hoover," June 8)
In the other is Sir Harold Evans, who accuses Treasury Secretary Timothy Geithner of impersonating Hoover. Writing in The Daily Beast, the Web site overseen by his spouse, Tina Brown, likened Geithner's refusal on Sunday's Meet the Press to push for more government programs to Hoover's declaration in 1930 no government action was needed because the depression had ended.
But these macroeconomic arguments between policy-makers and intellectuals are blind to obstacles to growth faced on a micro level by real, live entrepreneurs and managers. Confronted with incredible uncertainty about the future business climate brought about by massive regulatory and tax changes, they are sitting on cash instead of investing in capital equipment and, especially, hiring new workers.
White House Chief of Staff Rahm Emanuel famously said never let a crisis go to waste. But the policy changes on health-care and financial services that have emerged from the current crisis, plus the largest tax increase in history that will hit Jan. 1 without Congressional action, are restraining companies, especially mid-to-small-sized ones.
Atlas didn't shrug; he's sitting on his handsâ??and his wallet.
That is the message heard repeatedly from entrepreneurs, their private-equity investors and their wealth managers. And it is becoming increasingly apparent, not so much in the parade of stronger-than-expected second-quarter earnings numbers from Standard & Poor's 500 companies, but in regional Federal Reserve Bank reports. The Chicago Fed's economic gauge released Monday was much weaker than anticipated, just as were indexes from the Philadelphia and New York banks released last week.
This uncertainty for business threatens deflation is similar to what Japan has experienced, says Adrian Cronje, chief investor for Balentine LLC, an Atlanta-based investment adviser. At any suggestion of recovery in Japan, authorities tightened monetary and fiscal policies in the 1990s, which made corporations skittish. Now, he says, the same pattern is threatened in Europe with Trichet's urging of fiscal austerity following upticks in some indicators on the continent.
In the U.S., uncertainty about regulatory reform, the timing and sources of fiscal consolidation and reluctance of banks to lend has companies such as Intel (ticker: INTC) continue to accumulate cash rather than invest it, Cronje observes. All because of a lack of clarity in what they face in the future.
From an investment standpoint, this uncertainty (plus the increased richness of valuations) has Cronje advising Balentine's clients to reduce risk by increasing hedged positions and trimming exposure to international equities. The exception: large-capitalization U.S. equities, which rarely have been cheaper relative to alternatives, especially small-caps.
I would add that large-cap companies have the infrastructure to deal with the regulatory challenges ahead. They also aren't dependent upon banks for financing should they need it but can tap the very accommodative capital markets.
On the latter score, Intel's rival, Advanced Micro Devices (AMD), a below-investment credit, was able to issue $500 million 7.75% 10-year notes to refinance convertibles due in 2015. Even for junk-rated (single-B-plus) big-cap companies such as AMD, raising a half-billion dollars to help restructure its balance sheet is no problem. For small companies looking for a tiny fraction of that amount, the banks aren't so forthcoming.
In those circumstances, what would a new federal "stimulus" accomplish? And how does the prospect of higher taxes and more onerous regulations encourage business to hire and invest?
The conceit of the arguments over fiscal austerity is that policy-makers can make something happen just as puppeteers pull on a marionette's strings. It's doubtful more stimulus will encourage business owners or managers to hire or spend. There's no doubt, however, that more regulations and taxes will discourage them.
The focus should be less on the macro and more on the micro of the economy. That's the message from the folks whom we want to hire and invest.
Email: online.editors@barrons.com
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