Why the Stimulus Announcement Won’t Matter

When President Obama addresses a joint session of Congress tonight at 7 pm, he is expected to propose a $300B stimulus package consisting primarily of tax cuts and infrastructure spending. While many hope that this will give a shot of confidence to the markets and spur a rally in embattled sectors such as financials that have seen names like Bank of America (NYSE:BAC), JPMorgan Chase (NYSE:JPM) and Morgan Stanley (NYSE:MS) slump 10% this week alone, we believe that the reported elements of the stimulus announcement will fall short of these goals. Considering the efficacy, or lack thereof, of the previous near $800B fiscal stimulus, we hardly think that the country’s current economic troubles will be addressed by this new program.

Below we breakdown the key components of what we expect President Obama to announce tonight.

Tax Cuts & Extension of Benefits

Nearly $200B of the proposed stimulus will likely come in the form of tax cuts and an extension of unemployment insurance. A substantial part of tax cut will be an extension of the 2% payroll tax cut from the last stimulus that was set to roll off at year-end. It will also likely include an undisclosed reduction in the payroll tax paid by employers.  ^[1]

Outside of the tax cuts and unemployment benefits, the largest portion of the package will be the $100B infrastructure program that the administration believes could substantially reduce the current 9.1% unemployment rate. The remainder of the proposal will likely consist of direct aid being provided to state and local governments.

We do not believe that, in its rumored form, this stimulus package will have a significant impact on the unemployment rate or consumer spending, which are the two main issues facing the economy.

First and foremost, the majority of this “stimulus” package is an extension of the status quo; the payroll tax cut is already in effect for employees and didn’t make much of a difference when it was first implemented. A tax cut for employers is also unlikely to result in greater spending. And while a large infrastructure project would ostensibly create jobs, we don’t believe that it’s enough to result in a noticeable and lasting improvement in the unemployment rate.

Will This be Enough to Create Jobs?

Let’s assume the following estimates:

– Of the $100B said to be allocated to infrastructure spending, we estimate that about 40% will be spent on labor, meaning that $40B would be going to workers

– If the entire amount is spent in one year, it could create nearly 870,000 new jobs assuming a $46k average salary for construction workers (source: Bureau of Labor Statistics)

– If each of these 870,000 jobs were to be filled by currently unemployed workers, we estimate that the unemployment rate would be 8.5%

So even in a best-case scenario – in which every new position is filled by currently unemployed workers and the entire amount is spent in one year – unemployment would remain very high at around 8.5%.

A more realistic scenario in which a portion of the jobs go to currently employed workers (workers who may be laid off in the future or who have been working on existing infrastructure projects that may be completed soon) and the money is spent over a period of more than 12 months, the new jobs going to unemployed workers could be cut in half and unemployment would stand at 8.8%.

While we believe that the administration is simply looking to make a modest impact in order to justify a larger, presumably bigger stimulus program, we don’t believe that the extension of an ineffective tax cut and a 0.3% improvement in unemployment is enough to get it done. Moreover if this move is intended to give markets a boost of confidence, we believe any rally on the stimulus announcement will be short lived.

1. Obama Said to Seek $300 Billion Jobs Package, Bloomberg, Sept 2011 [↩]