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A ‘massive fiscal cliff’ coming next December

Credit: Federal Reserve

“To govern is to choose.  To be unable to choose is to be unable to govern.”
          — Sir Nigel Lawson, British statesman

Democratic and Republican legislators in Olympia continue to grapple toward a budget agreement that can  get the state budget, at least theoretically, toward balance.  In Washington, D.C., Democrats and Republicans are engaged in a similar exercise but without any real compulsion to act until January, 2013, when a new presidential term begins and a new Congress takes office.

The budgets now on the table at national level are blunt-edged political documents that have absolutely no chance of congressional passage or presidential signature.  They are political markers from which the parties’ presidential and congressional candidates can proceed.

Since Democrats’ big congressional losses in 2010, President Barack Obama has abandoned any credible attempt at near-term deficit or long-term debt reduction.  His most recent budget submission reflects this and mainly provides reinforcement for 2012 campaign themes that will stress “protection” of Social Security and Medicare and higher taxes for the rich.  According to the independent Tax Policy Center, sponsored by the Brookings Institution and Urban Institute (both moderate/liberal institutions), Obama’s February budget would raise top one-percent earners’ taxes about $90,000 annually.  Overall, his proposal would raise taxes about $1.4 trillion over the next five years for higher earners — defined as couples making more than $250,000 annually.  Obama would allow Bush tax cuts for high earners to lapse; would raise the top marginal rate from 35 to 39.6 percent; and would put new limits on deductions for various purposes.

Rep. Paul Ryan’s Republican budget, a point of departure for GOP candidates, emphasizes reductions in federal spending.  In contrast to the Obama budget, it would reduce the current six tax brackets to two brackets at 10 and 25 percent.  It would reduce the current 35 percent corporate tax rate to 25 percent.  It would change Medicare by giving citizens below 55 the option of entering the present program or, alternatively, to choose their own plan and receive a premium-support payment.  The GOP budget would make far more severe cuts in long-term debt than the Obama plan — making it either more responsible or heartless, depending on your viewpoint.

Historic differences between the two major parties are reflected in the two budgets.  The U.S. Senate, normally a player in the budget game, has not passed a budget in three years (its Democratic majority rejected even the last Obama budget overwhelmingly). It cannot be expected to take any budget action this year — leaving the Obama and Republican House budgets as the working documents.

The big showdown will come next December-January when, in the words of Fed Chair Ben Bernanke, the Congress will face “a massive fiscal cliff.”  Then both Bush tax rates and a payroll tax cut will expire while, simultaneously, $1,2 trillion in automatic spending cuts will kick in (after the bipartisan congressional “super committee,” co-chaired by Sen. Patty Murray, failed to make rational deficit reductions).  Unemployment-benefit extensions also will expire.  All on January 1.

Various analysts estimate that the simultaneous end of the Bush tax cuts, and the imposition of big spending cuts, could cut as much as 2 to 3.5  percent off 2013 economic growth, bringing back double-digit unemployment and a big dip in financial markets.  This would constitute the serious second dip in what we earlier feared would be “a double-dip recession.”

Hey, you might ask, why not deal with this now rather than coming to the brink next New Year’s Eve?  

No.  Both parties are betting that their leverage will be better next New Year’s, after the November election, than it is today.  Besides, if you are a 2012 candidate for reelection, why not run on bumper-sticker slogans about higher taxes or lower spending rather than facing voters after taking tough and possibly unpopular decisions?

Beyond these competing visions, as represented by the two budgets, there are economic wild cards hovering over the 2012 campaigns:  The big gas-pump price increases; the possibility of a Euro-zone sovereign default; a Middle East war which would choke off oil supply, escalate prices, and possibly trigger a global recession; and falling demand in China.  

This is serious stuff demanding attention by serious people.  Fortunately for the country, both President Obama and Mitt Romney, the prospective Republican presidential nominee, are smarter than their present platforms make them seem.  We could have a worse president in office as we come to the “massive fiscal cliff.”  Happy New Year, 2013.

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