When Congress Cuts the Deficit, Who Wins?

I never thought I'd be saying this, but when it comes to real "shock and awe," President Obama has George W. Bush beat. Hands down.

As you've probably heard, the co-chairs of the president's deficit-reduction commission just published recommendations to slash the federal deficit by $3.8 trillion over the next 10 years. Granted, these cuts won't pass easily. Indeed, the first round of proposals is only a starting point for negotiations. True, too, our national debt now stands at $13.7 trillion and change. Even if passed in their entirety, these budgetary axes can only whittle away at our national IOU -- but it's a start.

Now, as investors, it's time we started thinking about changes coming down the pike. So today, I'm going to run down a few of the bigger proposals and sketch out for you a few of the companies that stand to fare best (and worst) if they become law. Onward.

Death by a trillion cuts
First up, defense spending. I've already told you there's a movement afoot to slash Pentagon spending by $1 trillion over the next 10 years. Relative to that, the commission's proposals actually tread lightly, calling for just $100 billion in reductions. Among the casualties, Textron would lose V-22 Osprey sales, General Dynamics could see and end to perhaps $15 billion worth of amphibious-vehicle revenues, and Lockheed Martin could find its F-35 program -- expected to provide 20% of profits in future years -- sliced significantly.

On the plus side … we still need fighter jets. To fill the gap created by nixed F-35s, the commission proposes buying more F-16s from Lockheed and more F-18 fighters from Boeing (NYSE: BA  ) -- a company that just months ago looked to be out of the fighter-jet game for good.

Biggest winner here: Boeing.

Panic at the pump …
But spending cuts go only so far. The commission also needs to raise revenues, and one of the easiest places to hide a tax increase is at the gas pump. Here we're looking at a $0.15-per-gallon tax increase -- a 5% boost on the cost of $3-a-gallon gas. The logical beneficiaries here are companies such as GM and Ford (NYSE: F  ) , which are quickly moving to introduce electric cars to American motorists. But these companies also depend on gas-guzzling trucks and SUVs for large chunks of their profit streams. A 5% increase in gas prices could hurt demand for their products as much as it helps.

So who does win? Call me crazy, but I think pricier gas makes Exxon Mobil (NYSE: XOM  ) the contrarian play here. Raise the price on gas, and demand might fall. But just as governments silently slip tax increases into the pump, so, too, can gas companies such as Exxon boost their profit margins -- doing so while consumers attribute price increases to "that darn gasoline tax."

Advantage: Exxon.

… and frantic on the farm
Picking up the ax again, the commission proposes cutting farm subsidies by $3 billion. That's a politically popular idea (in non-farm states), but it won't be good news for agribusiness suppliers such as Monsanto (NYSE: MON  ) and PotashCorp (NYSE: POT  ) . Their customers could lose a lot of money that formerly, was spent on them. On the plus side, for the same reasons I expect to see Exxon survive its tax increase unscathed, I'd expect supermarkets to benefit from the rising price of produce. Price increases will be blamed on the government, thus allowing the purveyors of produce to slip in extra profit margin unnoticed.

Advantage: Kroger (NYSE: KR  ) , which gains customers who (1) flock to it for its low prices and (2) find its offer of $1 off gas for frequent shoppers increasingly irresistible.

The biggest winner, is … (drumroll, please)
Probably the commission's most controversial proposal is its plan to cut the nation's most sacred cow: The home mortgage interest deduction (HMID), which will be capped at mortgages of $500,000. Fully 67% of Americans own their own homes, and it's rarely a good idea to anger a majority. I guarantee you that homebuilders such as Pulte, and big mortgage lenders such as Bank of America (NYSE: BAC  ) , will raise holy hell over this proposal. "How can you even think of doing something that will discourage home buying?!" they'll scream. "It'll kill the housing market!"

Don't believe it. In fact, this proposal just might be the best news yet. The median home price in the U.S. is well below the $500,000 cap the commission proposes -- well below $200,000, actually. As a result, the proposed cap will not hurt most Americans. It might even help. Yes, capping the HMID will reduce the value of high-priced homes. But by pushing demand down-market, it could well perversely increase the value of existing, cheaper homes -- like the one that you probably live in (statistically speaking.)

Foolish final thought
For all the controversy being whipped up already, the thing that actually strikes me most about the commission's proposals is their … modesty. I mean, if we can really "fix this" by buying a few fewer warplanes, paying a few cents more at the pump, and making a few other tweaks -- lower tax rates here, raise 'em a bit there, delay retirement by a year or two -- why not give it a shot?

Seriously. That's not a rhetorical question -- why shouldn't we support the deficit reduction commission's co-chairs' proposals? Tell us below.

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Fool contributor Rich Smith owns no shares of any company named above.

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Read/Post Comments (12) | Recommend This Article (14)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On November 13, 2010, at 1:30 PM, Zonker wrote:

    What about putting a large capital gains tax on Daytraders and eliminating the Capital Gains Taxes for long term Investors. Why should we have to pay for the consequences of short term speculators that destroyed the economy? What we need to do is use legislation and financial reform to change behavior. HFT and ETFs should bear the brunt of reducing the Trillion Dollar Deficits that can be attributed to these speculative types of financal vehicles.

  • Report this Comment On November 13, 2010, at 1:40 PM, DavidTheJust wrote:

    One reason to oppose the Commission's recommendations is because we can remember the past. Let me simply address four issues on the defense side of the proposal:

    1. A huge determiner of defense costs is whether or not we send our military into combat. The odd assumption of planners is that war is the exceptional state of affairs which we can write off as an extraordinary expense. But these "extra-ordinary" expenses keep recurring. If you hope to cap defense spending at 3.5% of GDP over the next 10 years we need to target 3% of GDP and recognize in advance that sending troops into harm's way will incur additional costs.

    2. Everyone is familiar with the cost over-runs related to defense contracting. While Congress likes to blame defense contractors the chief culprit is the Congress. By perpetually modify weapons programs and canceling previously scheduled repalcement weapons systems, Congress dramatically drives up the cost of putting such weapons in the field. Although this cycle keeps repeating itself, our politicians present their recommendations as though this spiral of political waste has never occured before (and will never occur again).

    3. There is no way that the joint committee on deficit reducation has sufficient expertise to determine modifications to current weapons procurement planning.

    4. It is easy to criticize weapons systems for their cost. The reality is that the U.S. must either invest in having radically superior technology or we need to have a larger military. Those who argue that we don't need to be constantly upgrading our weapons systems are shortsighted. The twin consequences of such an action are (1) More of our men and women will die in combat; and (2) We will need more men and women to serve in uniform. I should add that war is a most uncertain business. We cannot predict 5 years in advance exactly who we will be fighting, under what circumstances, or even what weapons and tactics our enemies might use. This means that inefficiency is a necessary reality for adequate defense planning. In fact, the greatest blessing we can hope for is that we will "waste" all our future DOD investment by never having to send our men and women into harm's way.

  • Report this Comment On November 13, 2010, at 1:56 PM, rtichy wrote:

    Going to play the mean person, here and respond to DavidtheJust's fourth comment about defense spending:

    Whenever I hear about the cost of defense items like fighter planes, I am reminded of an Isaac Asimov short story I read for high school; in the story, a war is happening and one side finds out that humans can calculate trajectories and navigate missiles without computers! (computers being expensive and valuable to the war effort are "wasted" inside missiles when the reach the target) The "logical" choice made by this warring group is to replace computers in missiles with pilots, because they cost less.

    At a couple of billion dollars for a state of the art fighter jet, and tens of millions spent training a pilot who has pro-sports-level-reflexes, you kind of have to ask whether we'd be better off with greater numbers of casualties. Maybe 10 tomcats instead of 1 stealth F-whatever is a better risk-value proposition to the country. (But never try to tell that to the pilots' mothers, (who vote)) And if the option of war incurs greater casualties, maybe there will be greater incentive to avoid wars entirely.

  • Report this Comment On November 13, 2010, at 3:27 PM, dbjella wrote:

    How hard is it to just say all departments will need to learn to live with less? I know I did. For starters why don't we cut the spending (not cut the increase in spending) by 5% across the board?

    Next year, cut 5% again.

    But then again, I have no idea why we give public money to "public" television? I see all the constituency groups lined up against taxpayers it is no wonder we can't do anything.

  • Report this Comment On November 14, 2010, at 1:59 PM, TMFDitty wrote:

    @oZoNo: I only had space to discuss a few of the proposals up above, but to address your point, yes, Social Security is on the block as well. The Panel proposes upping the retirement age to 69. -- and again, this proposal looks incredibly modest, to me. I'd honestly have thought more drastic measures would be needed to really make a dent in the cost structure.

    TMFDitty

  • Report this Comment On November 14, 2010, at 2:50 PM, warrenrial wrote:

    I will believe it when I see it.

  • Report this Comment On November 14, 2010, at 3:21 PM, rd80 wrote:

    Even if the mortgage deduction isn't capped, a large number of homeowners may still benefit from the proposal. In addition to eliminating deductions, the panel is recommending lowering the tax rates.

    Combine that with ultra low mortgage rates that significantly reduce the amount they would have been able to claim for mortgage interest and - bingo - eliminating the mortgage deduction may not be as bitter a pill as many think.

  • Report this Comment On November 14, 2010, at 3:59 PM, TMFDitty wrote:

    @rd80: Good point on the decline in interest rates. Since what we're deducting is *interest* on our mortgages, the value of this deduction declines right along with interest rates.

    Today's record-low interest rates just might open a window of opportunity for getting a deal like this done. A once-in-a-lifetime chance to say -- "Hey, you're hardly making any money off this deduction anyway, so why not sacrifice it in the interest of cutting the deficit?"

    TMFDitty

  • Report this Comment On November 14, 2010, at 4:21 PM, ScottishPete wrote:

    The salary cap on social security tax payments should be raised from the current $106,000 to at least the first $250,000 annual salary. With many government workers earing well over this amount and cops & prison guards bringing home over $100,000 with overtime . . . paying the existing rate on all salary would go a long ways toward funding social security with no other changes. Hedge Fund managers and their ilk on Wall Street making millions a year should be paying for America's elderly safety net a bit past $106,000.

  • Report this Comment On November 15, 2010, at 12:39 AM, ThoseWhoServe wrote:

    Subject: The Deficit Commission, the Republicans, and the Last of the Middle Class

    Americans remain clueless regarding the deficit commission scam being hoisted upon them by the Republicans, the media, and purported business leaders regarding the Federal deficit. I don't want shared sacrifice. I want the people who caused the problem to provide restitution for the grievous damage they caused to the U.S. economy in 2008.

    The stated purpose of the deficit commission is to find $4 Trillion Dollars of reductions in Federal government expenditures over a ten-year period. Most middle-class Americans consider the real purpose to be finding a way to finance continuation of the tax cuts that benefit American businesses and the high income earners with incomes over $250K a year. The recommendations are neither bipartisan, nor balanced. They are an extension of the continued pillaging of the middle class of the United States to advance a small, but rich, segment of the electorate and the business community.

    Far too many politicians, business leaders, and Americans enjoyed the government free lunch. It is now time for them to pay for the Federal government services and benefits they enjoyed and the damage they caused. It is also time for the politicians and media to stop telling our middle class, retirees, veterans, and grandchildren to pay for the free lunch that most of them never received.

    What is glaringly missing is any corporate responsibility in paying taxes that would pay for the myriad of government services dedicated to the care, well-being and profitability of the American business community. What is also glaringly missing is any accountability for the Trillions of Dollars of damage to the U.S. economy and the moneys and values taken out by unwarranted costs and bonuses that was reflected in reduced values for investment and retirement accounts, home values, job losses, and damage that ripped through the entire U.S. and global economies.

    The Republicans are perfectly willing to gut Medicare, Social Security, and the Veterans Administration as a major portion of the way to save $4 Trillion Dollars over 10 years. After watching the “best and brightest” pillage the U.S. economy with the help of a pliant political class and media, they now have the gall to come up with a plan to “share the pain”.

    I don’t see any shared pain; I see the same people and their enablers dealing from the bottom of the deck again to forestall taking responsibility for their actions and indemnifying the U.S. middle class and taxpayers who had their pockets picked and futures destroyed while the business community and the upper 3% of the electorate stripped the middle class of jobs, retirement opportunities, healthcare, and financial security.

    The same politicians, pundits, and business community hope to continue pillaging what’s left of the middle class blithely ignore that they can end the deficit commission circus and actually reduce the deficit by $4 Trillion Dollars by simply letting the 2001 and 2003 tax cuts expire as written on New Years Eve and sending the deficit commission members a letter thanking them for their efforts.

    It’s interesting that at the same time Congress is considering massive cuts in benefits and services from the nation’s middle class that includes 40 million seniors, 24 million veterans, and approximately 100 million working Americans, the political leaders are willing to “temporarily” extend the tax cuts at a cost of $400 Billion Dollars a year.

    All of the talk about the need to reduce the Federal deficits has the Republicans continuing to ignore the fact that Social Security is largely self-supporting and the costs of Social Security over the next ten years are largely paid for by Social Security FICA payroll taxes paid by American employees and employers; not the U.S. Treasury.

    The current retirements benefit levels can be paid indefinitely with small incremental changes in the wage limits and rates of FICA payroll taxes. The Republicans and interest groups supporting the deficit reduction recommendations don’t want the Social Security and Medicare funding concerns resolved. They want the programs decimated via means testing and extending the age of eligibility. They consider the FICA payroll taxes as another revenue source for tax cuts.

    It is sad that so many Americans, politicians, business leaders, and the media are willing to gut meaningful and worthwhile programs to simply let American businesses U.S. and a selected portion of the electorate continue to receive government services and benefits but not pay the taxes to provide the government services.

    If you want a paved road; pay the paving contractor. If you want educated children; pay the teachers. If you want Medicare and Social Security; increase the FICA payroll tax and tell the politicians to use it for Medicare and Social Security.

    It is insulting to penalize the 140 million or more Americans and thousands of employers who pay or have paid into Social Security since 1937 and Medicare since 1966, and the 24 million Americans who served in the Armed Forces to provide tax cuts for a business community and small portion of the electorate that expects a free ride. Telling them to pick up the tab for the financial debacle of 2008 and significant further sliding of the U.S. middle class to third-world status is no different than asking the witnesses and victims of a robbery to “share” the jail term of the robber.

    Tell General Electric and Exxon that it makes no sense for them to pay no U.S. corporate taxes while they demand that middle class Americans fight in the Middle East and Asia for access to cheap oil while and work until age 70 for Social Security.

    End the unfunded 2001 and 2003 tax cuts. The only thing standing in the way of significant deficit reductions starting on January 1, 2011 is the U.S. Congress.

  • Report this Comment On November 16, 2010, at 4:31 PM, mountain8 wrote:

    Those who serve,

    "The only thing standing in the way of significant deficit reductions starting on January 1, 2011 is the U.S. Congress."

    Consider the only thing standing in the way of significant deficit reductions is us. You and I. Every citizen out there. For two reasons:

    A significant % of us don't vote. A significant % of those who do seem to believe politicians 'cause they keep voting for them on the same lying promises they have made for 100 years. We made great steps this election because we finally dumped some very powerful persons. But not enough.

    Second reason is we, as individuals and segments are all for cutting everything but what effects The individual or segment. Social programs are well over half the cost of our total budget. They should be lessened but that is a sacrifice we are unwilling to make. Farm programs, why farm if you have to rely on the government to prop you up? But the farm groups are unwilling to make sacrifice. Running the government is a huge cost but we keep creating more departments and committees and agencies and regulators for regulators. But we aren't willing to sacrifice anything if it effects us.

    We are very selfish, very self centered, very dependent on a government which was never formed to support everybody, and very stupid if they don't see the dark at the end of the tunnel.

    Congress will never vote to fix our problems because they won't be reelected if they do because we aren't willing to suffer a bit more than we do anyhow. Good luck to all of us when the US becomes a 2nd rate country, then just another also-ran footnote in history. Don't depend on the government to do what's right, because we don't want them to do whats necessary. More's the pity.

  • Report this Comment On November 30, 2010, at 8:27 PM, blesto wrote:

    <i>Seriously. That's not a rhetorical question -- why shouldn't we support the deficit reduction commission's co-chairs' proposals? Tell us below</i>

    I think we should

    and +10 cents for Foolanthropy

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