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When Will Retail See Better Days?

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The high drama over the so called “Fiscal Cliff” or $600 billion in tax increases and spending cuts is over, as policy makers reached an agreement to save the economy from falling into another recession in 2013.

The bill spared many from the impact of higher taxes, averted budget cuts and calmed the Street’s jitters. We now need to find out if this will also provide enough support to the retail sector, which tussled with a fragile holiday season.

To some extent the answer is "yes,” as the retail sector would have been hit hard if the proposed tax hikes were levied on all individuals. Things were definitely not looking promising at the end of last year as policy makers kept debating on ways to avert the Fiscal Cliff.

Already, consumer confidence has been dampened due to the economic impasse, which took away some enthusiasm from the holiday season. Moreover, the political gridlock and brinkmanship had rattled the business climate, triggered economic woes and hampered market sentiment.

However, the last minute promotional strategies did the magic for some retailers who went on to post better-than-expected December comparable-store sales results. Retailers such as Costco Wholesale Corporation (COST - Free Report) , Gap Inc. (GPS - Free Report) and Nordstrom Inc. (JWN - Free Report) posted comps increase of 9%, 5% and 8.6%, respectively. On the contrary, Target Corporation (TGT - Free Report) witnessed flat sales and Limited Brands, Inc. saw its comps coming in 3%, below analysts’ expectations.

Macy's, Inc. (M - Free Report) comparable-stores sales rose 4.1% in December, edging past analysts’ expectations. However, the company trimmed its fourth-quarter fiscal 2012 comps and earnings guidance. Kohl's Corp. (KSS - Free Report) also lowered its fourth-quarter fiscal 2012 earnings guidance, as comps growth of 3.4% remained below management’s expectation. The Cato Corporation and Wet Seal Inc. registered a sharp drop of 7% and 9.7% in comparable-store sales.

We now have to wait-and-see as to how the story unfolds and what remains in store for retailers in the New Year. Housing is bouncing back, Europe is showing some signs of recovery and the Fiscal Cliff is avoided.

The onset of 2013 unveil the negotiation reached between Republicans and Democrats that pronounced the end of Bush-regime lower tax rate for affluent people and postpone $109 billion spending cuts on federal government expenditures related to Pentagon and other domestic issues for two months. The battle witnessed 257 votes (172 Democrats and 85 Republicans) casted in favor of the bill and 167 voted (16 Democrats and 151 Republicans) against the motion.

Some of the implications of the bill states that earnings above $400,000 for individuals and $450,000 for couples would now be taxed at a rate of 39.6%, up from 35%. Individual estates over $5 million and family estates more than $10 million would now be taxed at 40% rate, up from current rate of 35%.

The tax rate would now be 20% on capital gains and dividend income over $400,000 for individuals and $450,000 for families, up from present rate of 15%. The deal will also result in extension of unemployment insurance benefits for a year, void of which 2 million people would have been left in lurch.

By taxing individuals with higher income and keeping lower-earning groups untouched, Obama administration has tried to send some positive signal to the economy. But there are more significant issues awaiting to be dealt with. The first one centers around increasing the federal debt ceiling limit of $16.4 trillion because the Treasury will not be in a position to issue more bonds if Congress does not increase the limit.

Another issue, unless avoided, is the restoration of Social Security Payroll tax at 6.2%, which had been revised down to 4.2% in the last two years. Again, the unemployment rate hovering around 7.7% (as reported in December 2012) remains well above the Federal’s long-term target of 5.2% to 6.0%, and the expected GDP growth of 2.1% for 2013 is still meager.

All these could dent the consumer confidence. The economy has not fully recovered and consumers will remain cautious on their spending. Consequently, we could see more competitive pricing and new products to attract shoppers. A price war would definitely eat away margins, which in turn would affect the company’s results. In order to remain competitive, it would be better to try out innovative ways to win the hearts of target consumers.

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