Economy to Grow in 2013, but Fiscal Cliff Drags Down Progress

Members of Congress and President Barack Obama are hurrying back to Washington before the New Year, hoping to reach a compromise on the fiscal cliff.

According to the Congressional Budget Office, going over the fiscal cliff--a series of spending cuts and tax increases set to take effect in 2013--would strip $600 billion from the U.S. economy, sending America back into recession. But according to economic analysts and money managers, the fiscal cliff is only the first in a series of challenges the U.S. economy will face in 2013. Even as the fiscal cliff looms, there are encouraging signs that the economy is poised for continued slow growth next year.

"There are tailwinds that are very exciting that are happening broadly speaking within the economy, but there are also headwinds that aren't going away," says Henry Smith, chief investment officer and director at the Haverford Trust Company in Pennsylvania. "When you add it all together, we look at 2013 and say we're expecting more of the same. For the past two years, we've been stubbornly stuck in a below-average gross domestic product [GDP] growth environment. We're going to be in the same position in 2013."

These headwinds are well-known, and have been dragging down economic growth since the start of the Great Recession. The tailwinds, however, are new and gaining speed. According to Jeff Layman, principal and chief investment officer at BKD Wealth Advisors, the economy should be able to recover from a rough few months at the beginning of 2013 and build strength as the year progresses.

[Read: Are Second Terms Good for Stocks?]

"We expect more of the same in terms of sluggish growth in the first part of the year. But we do see potential to see things improve as the year goes on," Layman says.

The headwinds. The fiscal cliff is still the biggest challenge facing the economy, according to Sean Snaith, director of the Institute for Economic Competitiveness at the University of Central Florida. But he adds that even if the fiscal cliff is resolved, the inevitable timing of the agreement--just days before the deadline--gives investors little confidence in Washington's ability to govern effectively.

"It's not likely that the solution to the fiscal cliff will be the grand solution that addresses short- and long-term deficit reduction," Snaith says. "The failure to get a timely deal done only increases uncertainty about the economy ... You have a horizon that has a high level of uncertainty [about Washington's ability to govern]. We're still stuck in that in 2013, and it's going to be hard to shake that burden."

Smith says this uncertainty adds to concerns about other policy debates. "There are also regulatory headwinds, from the Affordable Healthcare Act, to Dodd-Frank Financial Reform, to a more active Environmental Protection Agency," he says. "Businesses are unsure of how these policy debates will unfold and impact the economy."

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Another challenge is adding jobs to lower the unemployment rate, says Layman. Tens of millions of people are still looking for work, and many of them have been seeking jobs for a long period of time.

"It's difficult to say where new jobs will come from," Layman says. "The manufacturing sector has done better than most would have expected coming out of the recession ... but I look at [the] white-collar portion of the economy, and it's pretty tough."

The tailwinds. Despite these obstacles, a growing number of positive signs indicate the economy could gain strength in the second half of 2013. The housing sector is predicted to have one of the most notable improvements, says Haverford's Smith.

"With housing, it looks like we're coming off the bottom," he says. "Housing starts are picking up. This can only have a positive impact on the economy. There's going to be some rebuilding effects from Hurricane Sandy that will help in the beginning of the year."

Layman says for the first time since the housing bubble burst, the housing market is not an overwhelming burden on the economy. "We have gradual but very consistent improvement in housing in 2012. It's not going to drive the economy, but it's not detracting from it either," he says.

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Smith points out that the automotive industry--an historical indicator of the direction of the national economy--has shown signs that it's strengthening. "The average age of a car on the road is 11 to 12 years, and people are now looking to replace them," he says. "Gas prices have come down, and they are trending down. All of this translates to more people looking to buy cars."

According to experts, all of these positive signs are generating optimism that 2013 will continue to send the U.S. economy down the right path.



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