A dismal reading on the National Federation of Independent Business's small business optimism index suggests the recession will continue to deepen in the first quarter.

The NFIB's small business optimism index, based on responses to a monthly 10-question survey, dropped 1.1 points in January to hit 84.1—the second-lowest reading in the survey's 35-year history.

The index shows deteriorating economic conditions before other economic indicators, because a drop in small business owners' optimism suggests their next step will be responses like layoffs and price cuts, explained NFIB chief economist William Dunkelberg.

"Bad January numbers tell me bad things about the second quarter," he said.

Weak sales, driven by spooked consumers slashing their budgets are to blame for entrepreneurs' bleak outlook.

"The problem is a lack of spending, not credit, not all these other things," Dunkelberg said. "Their customers have disappeared, and they've disappeared because they're cautious."

Respondents reported fewer unfulfilled job openings, suggesting that unemployment will continue to increase in the next few months. More owners were planning to reduce their workforce in the next three months than create new jobs.

But Dunkelberg doesn't think the stimulus plan will help. He argues the tax incentives aren't direct enough aid to small businesses, and Congress should have focused on tax cuts.

"It allows for more deductions, for trucks for example, but that's no help when you're not buying the truck because there are no customers to deliver to," he said.