Dan’s Blog

Stocks and the Inevitable "Fiscal Cliff"

Dan Calandro - Sunday, August 12, 2012

"The market" continues to tiptoe towards the action zone’s high point. The Dow Average is up 8% for this year despite lackluster economic growth and poor Market fundamentals. Stock market strength is up 34% year-to date and gold is keeping pace with nominal GDP, up 3%. Here’s the picture.


For the most recent twelve months, the DJIA is up 22%; the 15-51 Indicator is up 36%. What justifies such a pace in the face of a shrinking economy? See chart below.


Gold is down 3% in the most recent year. But viewing only these short-term charts can cast a false shadow over gold, which has been on a torrent run since the last monetary disaster. See the chart below. 


In this five year stretch, gold is up 155%, stock market strength is up 144% and the average is up just 5% – barely keeping pace with Real GDP.   

While gold looks to be flattening long-term, there can be little doubt that it will regain its steam once America slips off the "fiscal cliff" and plummets into recession. Yes, plummets. I’ve been blogging about the "fiscal cliff" since before it got its stupid name (see: Unleashing American Ingenuity, October 2011.) 

Without Congressional action, the Bush tax cuts will expire at the end of 2012 along with $2 trillion of automatic spending cuts. That will turn a $15 trillion economy into $13 trillion – a 13% drop in market activity. That’s the so called "fiscal cliff" – and there’s no avoiding it. 

The government simply cannot keep spending $4 trillion per year when it only brings in $2 trillion. Like modern examples from Europe (i.e. Greece, Italy, Spain, and France) taxes cannot be raised high enough to cover faulty government and monetary shell games.   

It’s only a matter of time until over-leveraged governments implement austerity programs to save their fiscal standing. Cuts in health and education programs are always at the top of the list – and these cuts have no choice but to shrink markets and economies.  

It is these shrinking markets that always cause inflated stock markets to correct.

Stay tuned…

PS: To see remedies to the above condition see the rest of my Fixing the Market series located in the right rail.    

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