• Dear Client: Washington, May 2, 2014

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1100 13th Street NW, Washington, DC 20005 • kiplinger.com • Vol. 91, No. 18
Dear Client:
Will Republicans win back the Senate?
It’s a risky bet, even in a good GOP year.
They’ll keep power in the House. But in the Senate...
They’ll gain three or four seats, maybe five,
capitalizing on President Obama’s sinking ratings,
an economy that’s recovering in fits and starts,
and a sense that U.S. foreign policy is bogged down.
They need six. Not impossible, but tough.
POLITICS Either way, the margin will be slender…
51-49, maybe. Perhaps even 50-50,
with Vice President Joe Biden breaking tie votes.
Washington, May 2, 2014
ECONOMIC FORECASTS
GDP growth
NEW
2.4% in ’14; picking up to 3%
or better in second half of ’14
Interest rates
By end ’14, 10-year T-notes at 3.3%;
30-year mortgages, 5%-5.5%
Inflation
Rising slightly to 1.8% in ’14,
up from 1.5% in ’13
Unemployment
NEW
Bouncing around;
about 6.3% by end ’14
Even if Republicans win the majority…
Gridlock in Congress will likely worsen.
Crude oil
Sure, the Republican agenda will get more attention
Trading from $95 to $100/bbl.
if the party commands both chambers. However,
through June
with 60 votes needed to pass big bills in the Senate,
Wage growth
a closely divided chamber complicates the math.
2.5% for production workers
Democrats need five Republicans to get to 60
in ’14, better than inflation
with their 55-45 edge now. If the next majority is 51,
Click here for exclusive, Web-only details
the party in power will need nine other votes.
of these Kiplinger forecasts
That’s a boatload in the current environment. So...
A budget deal that includes a major overhaul of the U.S. tax code? Unlikely.
Entitlement reform? No way. The same for immigration and other big issues.
Six months out, it appears races in eight states will decide who holds power.
The GOP seems poised to flip seats in Mont., S.D. and W.Va. In the last two,
longtime incumbents are retiring. In Mont., Max Baucus has already departed.
Incumbent Democrats in Alaska and N.C. appear to be in danger as well,
though both races could tighten if far right GOPers win upcoming primary contests.
But once-vulnerable Democrats are bouncing back in both Ark. and La.
One reason: Votes for Obamacare by the incumbents aren’t scaring off voters,
stripping Republicans of a key issue they were counting on in those two battlegrounds.
Republican efforts to tie the Democrats to Obama aren’t getting much traction, either.
Obama’s delay of the Keystone XL pipeline gives Democrats Mark Pryor (AR)
and Mary Landrieu (LA), both pipeline backers, room to criticize him for political gain.
If GOP chances in Ark. and La. don’t improve, look for additional targets,
including Colo., Iowa and Mich., where Democrats are narrow favorites to hold on.
There’s little to lose by trying to stretch the field, though the GOP can’t openly root
for what would help it most: An economic reversal, a war or an act of terrorism.
But Republicans will be set to pounce, saying Democrats have hurt the economy.
Republicans have to worry about at least one seat of their own, too…in Ga.
Much depends on the outcome of the crowded May 20 primary and a possible runoff.
If Democrats win there, the Republican gains elsewhere will go for naught.
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May 2, 2014
THE
The April surge in job growth to 288,000 confirms a pickup in the economy
ECONOMY after a hard winter. Monthly gains so far this year have averaged 214,000...
above expectations...indicating that a virtuous cycle of rising income, production
and employment is gaining momentum. By year-end, about a 3% pace of GDP growth.
Unemployment isn’t likely to drop much more, though it may bounce around
as more folks jump into and out of the job market. Most of the big decline in April
came from a drop in the labor force...folks too discouraged to keep hunting for a job.
STATE
A slow economic slog upward for most of the Midwest U.S. this year.
BY STATE And little or no improvement in unemployment, despite a modest uptick
in the pace of job creation in 2014 for most of these heavily industrialized states.
Wisconsin. Strengthening manufacturing, agriculture and health care sectors
will bring 1.4% more jobs to the state this year and trim joblessness slightly to 5.7%.
Michigan. Hard-hit Detroit and its environs will continue to struggle,
though the more diversified central and southwestern parts of the Great Lakes State
are on the mend. Job growth of just 1%, and unemployment edging up to 7.6%.
Illinois. Chicago, which accounts for about 75% of the state’s economy,
is still reeling from the recession’s blow to its financial services sector and real estate.
By year-end, look for a modest drop in statewide unemployment to about 8%...
still well above the U.S. average...with job growth of 1.4%. Ill. lost jobs last year.
Indiana. Job growth will slow a bit to 1.4%, from 1.7% last year, with gains
coming mostly in automaking, pharmaceuticals, business and professional services,
leisure and hospitality. Still, the jobless rate will top 6.5% by the end of this year.
Ohio. Growth in manufacturing, construction, leisure and hospitality,
as well as education and health services, will nudge the number of jobs up by 1.3%,
following a meager 0.3% gain last year. That won’t be enough to keep unemployment
in the Buckeye State from rising by about half a percentage point to 6.6% at year-end.
Kentucky. With job growth of 1.8% expected this year, the Bluegrass State
will top the performance of its northern neighbors and trim unemployment a bit.
But after losing 1.4% of its jobs last year...in part because of coal mine closures
and layoffs plus less oil and gas drilling...Ky.’s jobless rate will end the year at 7.3%.
INVESTING In a climate of gently rising interest rates and gradual economic growth…
REITs are an investment worthy of consideration. Eight times since 1993
there have been stretches of 12 months or more when 10-year Treasury yields climbed
by at least half a percentage point. During those spans, real estate investment trusts
returned an average of 14.8%, including dividends. So far this year…12.4% returns.
Some attractive candidates: Boston Properties, an office REIT with buildings
in San Francisco, N.Y. and other low-vacancy cities. Prologis, which manages
and leases distribution facilities to retailers, transportation and logistics providers,
capitalizing on e-commerce growth. Public Storage, with 2,200 locations in 38 states.
Simon Property Group, the owner of 156 high-end shopping malls around the U.S.
And Chesapeake Lodging Trust, a REIT with 20 upscale hotels in major U.S. cities.
HUMAN
The aging American workforce spells tough challenges for employers.
RESOURCES Chief among them: Finding enough skilled workers to replace retirees
and keep the economy growing. People 55 and older now account for about one-fifth
of the workforce, up from 12% two decades ago. And the share will continue to climb.
Between now and 2030, some 10,000 baby boomers will turn 65 every day…far more
than the number of young people aging into the workforce. Working-age immigrants
will add to the totals, but not by enough to prevent labor force growth from slowing.
That’s a huge incentive to retain, retrain and motivate older employees...
coaxing them to stay on the job longer. Fortunately for employers, many oldsters
want or need to keep earning a paycheck, often well past traditional retirement age.
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May 2, 2014
STATE
SPENDING
A sign that states are bouncing back financially: Fatter reserve funds.
In total, about 5% of state revenues will be set aside, up from 2.4%
four years ago, when states wrestled with the recession, cuts in federal spending
and higher-than-usual unemployment. Plus, social services were stretched thin.
But it’s a far cry from 2006, when state reserves held nearly 11% of revenues.
Some states are getting a boost from higher tax revenues coming in.
Others are benefiting from temporary payments. A tax amnesty program in Conn.,
for example, brought an infusion of $175 million to the state’s treasury.
And La. is receiving settlement payments from BP for the Gulf Coast oil spill.
One common use for the reserves: Education, which has been lagging.
In many states, K-12 spending per pupil remains below prerecession levels.
Also, nearly every state is spending less per pupil on higher education programs.
FEDERAL Federal budget cuts will trim the number of defense contractors by 20%
SPENDING over the next decade as the sequester continues to slash Pentagon spending.
Already, 11% of suppliers and service providers have lost Uncle Sam’s business.
Most of those hurt will be smalls…the majority of subcontractors and contractors.
Even more contracts will be lost if money needs to be diverted to a military operation.
The effects on the military will be felt for decades. Lawmakers are adamant
about protecting the Pentagon’s operating budget, so about 60% of the defense cuts
will come from research, development, evaluation and procurement of new systems.
As a result, fighter jets, drones, support aircraft, warships and other projects
in development will be reduced, delayed or scrapped, threatening technical superiority.
Bridge-fixing projects will keep construction firms busy for years to come…
Even though the federal share of repair money is unlikely to rise very much.
Some projects can’t wait, so states are raising taxes or borrowing to cover the tab.
Pa., which has the longest repair list, is tapping investors to finance the work
on about 500 bridge projects…one-tenth of its 5,000 spans that need maintenance.
Also well positioned to underwrite the work: Del., Fla., Ill., Mich., N.J. and Texas.
They don’t rely as heavily on funding from Uncle Sam as many other states do.
RETAIL
Troubles are mounting for midtier retail chains…Sears, JCPenney, etc.
Their core customer base is rapidly deserting them. As retirement looms
and households shrink for middle-income baby boomers, that group is cutting back
on spending, and younger shoppers aren’t being lured by new products and displays.
Other customers are increasingly opting to buy from discounters or upscale stores,
squeezing midtier sellers from both ends. Intense online price competition hurts, too.
Many stores will disappear, and some chains aren’t likely to survive.
That spells bad news for both mall owners and other tenants. About 15%
of malls…mostly smaller, single-story centers…will disappear within a decade.
Typically, 10% of mall storefronts are empty at any given time. Now it’s 15% to 20%.
As Sears, JCPenney, Office Depot and other troubled chains shutter more stores,
malls will have a harder time finding new tenants. Rents will drop. So will foot traffic.
CYBER- Expect cybersecurity insurers to offer broader coverage in the next year or so.
SECURITY Major underwriters will cover physical damage that is tied to such attacks,
reflecting the reality that hacks are no longer limited to stolen data or crashed servers.
AIG offers damage coverage now. Most others don’t, leaving coverage gaps when cases
include personal injury or physical damage to equipment. For instance, an attack
on a city’s traffic lights or water treatment system could result in widespread harm.
Or a hacker could disable a company’s security system and vandalize the property.
For instant online access and searchable archives, go to kiplinger.com/start
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May 2, 2014
ENERGY The U.S. government is getting back to investing in new energy technologies.
This summer, the Dept. of Energy will offer up to $4 billion in loan backing
to help secure financing for innovative renewable energy and efficiency technologies…
the same program that funded bankrupt solar-panel-maker Solyndra and other flops.
Likely to get top consideration for aid: Energy storage systems…batteries
and other means of capturing and saving the intermittent power from solar panels.
Hydroelectric turbines…for small dams that don’t already produce power.
And biofuels that come from plant waste, not crops. Several energy firms
already supplying such fuels to the Navy are very keen to expand their operations.
Expect more vehicles to run on natural gas, as owners of garbage trucks,
buses and other short-haul vehicles look for alternatives to pricier gasoline and diesel.
700 public stations plus hundreds of private ones now offer compressed natural gas,
with many more on the way, particularly in gas-rich states such as Texas and Pa.
The next sector to take the plunge into gas: Freight rail. Liquefied natural gas
costs about $1.50 per gallon less than diesel, offering railroads big potential savings.
TECH
Wireless Internet service is in for a big jump, thanks to new Wi-Fi technology
that can connect users at far greater distances than current wireless routers.
That will allow many homes and offices to surf the Web with no physical wiring at all,
while still enjoying fast Internet speeds. And by ditching in-home or in-office hookups,
providers such as N.C.’s RST Fiber can undercut the rates of traditional, wired service.
Widespread Wi-Fi will also lower the cost of mobile phone calls. Calling plans
that connect via Wi-Fi are already starting to compete with cellular companies’ service.
Count on more folks to shop for groceries online as Internet access grows.
Now only 3% of the $340-billion grocery market, online orders may hit 17% by 2024.
A bevy of new technologies will push shoppers online...from small bar code scanners
for reordering items that are running low to cameras for eyeballing produce remotely.
Traditional grocers face plenty of competition from digital rivals. FreshDirect,
Peapod, Amazon and Walmart are all making a play, plus specialty grocer Trader Joe’s.
Many brick-and-mortar stores will be looking to partner with successful online sellers.
BY THE
Recent news about China’s economy overtaking the U.S.’ is deceiving.
NUMBERS It’s only true using a single, narrow...and not particularly useful...gauge.
Adjusting for purchasing power parity allows a comparison of what the currency
in each country will buy of that country’s goods and services. It doesn’t account
for the relative strength of each country’s currency. And that matters...a lot, in fact.
China can’t buy all it wants and needs from the U.S. (or other developed countries)...
from heavy machinery to luxury cars...with yuan. It has to convert yuan to dollars
at an exchange rate that greatly diminishes its buying power on the world market.
In contrast, American bucks converted to yuan buy a lot of Chinese-made sneakers.
China will bump the U.S. from the top spot, even adjusting for currency...
But not for a decade or so. And much longer than that on a per capita basis.
Right now, U.S. GDP per capita is about $53,000. For China, it’s just $6,700.
Yours very truly,
May 2, 2014
THE KIPLINGER WASHINGTON EDITORS
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