Government cuts hit the private sector

The New York Times wrote an interesting story Wednesday about the effects of federal spending cuts on the private sector:

Congress’s $85 billion, across-the-board budget cuts may not have brought the economy to a halt, as many once feared. But they are having a negative effect on jobs in the private sector, according to an analysis of the industries whose head count is most dependent on federal funds.

It is no surprise that some of the companies that are hurting are closely associated with military spending, which was specifically targeted to absorb about half of the cuts from the so-called sequester that began March 1. But many of the businesses experiencing the most pain are those that provide a wide range of services, like plumbing and maintenance.

Contractors say they are trying to make do by picking up other projects where they can, but private sector and state and local government demand has also been weak or shrinking in recent years. Many in the facilities support field, a business category that includes janitorial, maintenance, trash disposal, guard and security, mail routing, reception and laundry services, say they are frustrated by the lack of public awareness about how defense budget cuts affect workers who are not performing stereotypical military functions.

And the problems began several years earlier, the story said:

Government cutbacks, not just the sequester and other federal budget cuts but also several years of state and local government layoffs, appear to be an important factor in holding back the economic expansion. “The great puzzle in this recovery is why it’s not quicker, particularly relative to other recoveries,” Mr. Wolfers said. “The sequester is one of the many insults that been hurled at the recovery so far.”

Some government contractors said that their problems started even before the sequester officially began in March, partly because months of debate over Congressional budget cuts made government agencies and military bases wary about how much money they’d have available to spend.

The timing of the story was excellent since the U.S. economy didn’t grow as much as previously thought, according to the Wall Street Journal story:

The U.S. economy expanded at a slower pace than previously estimated in the first quarter as consumer spending and business investment were revised sharply downward, indicating a weaker trajectory for the economy even before growth downshifted in recent months.

The nation’s gross domestic product, the broadest measure of all goods and services produced in the economy, grew at a 1.8% annual rate from January through March, the Commerce Department said Wednesday. That was less than the earlier estimate of a 2.4% growth rate.

The revision was due largely to slower growth in consumption, which eased to a 2.6% gain from the earlier estimate of 3.4%. Consumer spending, which accounts for two-thirds of economic output, was likely hit by a rise in payroll taxes at the start of the year and relatively stagnant incomes, two forces that have pushed the saving rate lower.

Spending on legal services, personal care and health care all were weaker than previously estimated, the Commerce Department said.

The latest figures raised questions about whether growth will be strong enough later in the year for the Federal Reserve to start dialing back its $85-billion-a-month bond buying program. That prospect helped push stocks higher Wednesday and pushed the yield on the 10-year Treasury note lower, easing borrowing costs.

Bloomberg said the payroll tax was to blame for the cut in consumer spending:

Growth in the world’s largest economy was less than originally estimated in the first quarter as an increase in the U.S. payroll tax took a bigger bite out of consumer spending than previously calculated.

Gross domestic product grew at a 1.8 percent annualized rate from January through March, down from a prior reading of 2.4 percent, Commerce Department data showed today in Washington. Household purchases were trimmed to a 2.6 percent advance — still the fastest in two years — from the 3.4 percent gain estimated last month.

Americans cut back on services from vacations to legal advice as the two percentage-point increase in the payroll tax caused incomes to drop by the most in more than four years. At the same time, an improving labor market and rising home prices are underpinning consumer confidence, one reason economists project growth will pick up in the second half of the year.

But it will be interesting to see if the expected growth will actually happen. If small and medium-sized businesses are struggling to replace government contracts and the private sector is cutting spending, then it’s hard to see where that expansion will come from.