U.S. political gridlock stunts manufacturing

Tax hikes, budget cuts create apprehension

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A rising number of manufacturers are canceling new investments and putting off new hires because they fear paralysis in Washington will force hundreds of billions in tax hikes and budget cuts in January, undermining economic growth in the coming months.

Executives at companies making everything from electrical components and power systems to automotive parts say the fiscal stalemate is prompting them to pull back now, rather than wait for a possible resolution to the deadlock on Capitol Hill.

Democrats and Republicans are far apart on how to extend Bush-era tax breaks beyond January, the same month automatic spending reductions are set to take effect unless there is a deal to trim the deficit. The combination of tax increases and spending cuts is creating an economic threat dubbed "the fiscal cliff" by Ben S. Bernanke, chairman of the Federal Reserve Board.

Until recently, the loudest warnings about the economy have come from policymakers and economists, along with defense industry executives who rely heavily on the Pentagon's largess and who would be hurt by the government reductions.

But more diversified firms like Hubbell Inc. in Shelton, Conn., have begun to hunker down as well.

Hubbell, a maker of electrical products, has canceled several million dollars' worth of equipment orders and delayed long-planned factory upgrades in the past few months, said Timothy H. Powers, the company's chief executive. It has also held off hiring workers for about 100 positions that would otherwise have been filled, he said.

"The fiscal cliff is the primary driver of uncertainty, and a person in my position is going to make a decision to postpone hiring and investments," Mr. Powers said. "We can see it in our order patterns, and customers are delaying. We don't have to get to the edge of the cliff before the damage is done."

The worries come amid broader fears that the economy is losing momentum -- the annual rate of economic growth in the second quarter fell to 1.5 percent from 2 percent in the first quarter, and 4.1 percent in the last quarter of 2011.

On Thursday, the Commerce Department reported that factory orders unexpectedly fell 0.5 percent in June from the prior month, while data on the labor market released Friday showed job creation still falling short of the level needed to bring down the unemployment rate.

All told, the political gridlock in the United States, along with the continuing debt crisis in Europe, will shave about half a percentage point off growth in the second half of the year, estimates Vincent Reinhart, chief U.S. economist at Morgan Stanley.

More than 40 percent of companies surveyed by Morgan Stanley in July cited the fiscal cliff as a major reason for their spending restraint, Mr. Reinhart said. He expects that portion to rise when the poll is repeated later this month.

"Economists generally overstate the effects of uncertainty on spending, but in this case it does seem to be significant," he added.

Unless Congress acts to extend the tax provisions and comes up with a budget deal that averts the planned reductions in military spending and other government programs, taxes will rise by $399 billion while federal government spending will fall by more than $100 billion, according to an analysis by the Congressional Budget Office. The end-of-year battle comes after Democrats and Republicans have failed over the past year to reach long-term agreements on how to tackle the budget deficit. And last week, congressional leaders did manage to tentatively agree to keep the government funded through next March, extending a deadline that had been set to expire Oct. 1, but that deal did not address the extension of the tax cuts or spending reductions.

All together, the fiscal cliff's total impact equals just over $600 billion, or 4 percent of gross domestic product, and if no action is taken, the CBO projects the economy will shrink by 1.3 percent in the first half of 2013 as a result.

With many Fortune 500 companies now setting budgets and planning for 2013, chief executives say they can't afford to hope for the best. Wall Street is also paying more attention: Over the past few weeks, chief executives of companies such as Honeywell, UPS and Eaton all cited the uncertainty as a threat to earnings in the second half of 2012.

"We're in economic purgatory," said Alexander M. Cutler, the chief executive officer of Eaton, a big Ohio maker of industrial equipment such as drive trains and electrical and hydraulic systems. "In the nondefense, nongovernment sectors, that's where the caution is creeping in. We're seeing it when we talk to dealers, distributors and users."

As a result, Mr. Cutler lowered Eaton's projected results for 2012 in late July. "I don't think there's any question the economy is starting to see an impact from the fiscal cliff," Mr. Cutler said. He noted that as companies retreat, the effect is multiplied by the impact it has on other sectors, like restaurants and hotels.

Siemens, the German industrial giant, remains optimistic over the long haul about the U.S. market, but has turned more cautious in the short term, said the company's chief financial officer, Joe Kaeser. Siemens has slowed filling openings among its 60,000-strong workforce in the United States, while delaying some new investments and capital expenditures. "We would expect volatility till after the election and the fiscal cliff is sorted out," he said.

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