The “Fiscal Cliff” Myth

We’ve been hearing many reports of the “fiscal cliff” being batted around in the media lately.  Currently, we are seeing negotiations between both parties to try and avoid this “cliff”, however, just how real is this impending disaster that we are constantly being reminded about?

Well, before I start explaining the why all the talk is more myth than fact, let me first explain what the cliff references.  Also called “Taxmaggedon”, it is simply a perfect storm of expiring tax cuts, dissolution of benefits, and newly enacted tax increases all happening within a very short time frame.  Below, I lay out the timeline of the fiscal cliff in common speak as referenced by the Bipartisan Policy Center:

Week of December 21st

• Expected that the Fed will hit it’s legal debt limit
• For almost 100 years, there has been a legal limit on the amount of money that the US government is allowed to borrow.  As of August 2011, that limit was increased to $14.29 trillion.  However, with current deficits of over $1T, it is expected that the government will again hit the limit of money it is able to borrow in order to meet its obligations

January 1, 2013

• Expiration of" Bush Era Tax cuts”
• Enacted in 2001, 2003, and 2009, these cuts are the effective individual tax rates on individual income, capital gains, dividends, etc.  Extended by Obama in 2010, these tax rates (after a decade, they are the rates, not cuts) are expected to expire, essentially raising the average household tax burden by $1,600 per year
• Expiration of payroll tax holiday
• Passed by Obama in an effort to “stimulate the economy”, it was temporary reduction in Social Security payroll taxes from 6.2% to 4.2% for the first $110,000 of wages.  While it gave temporary relief, in essence, this tax holiday did nothing more than rob a individual’s long term social security retirement of this funding, for negligible short term gain.  When it expires, it is expected to raise the average household tax burden by $700.
• Deadline for Business Depreciation Tax extenders
• Includes targeted tax breaks for business such as breaks for research and experimentation credits and for depreciation of business tangible asset purchases from their profits.  Should this not be resolved, it is estimated that it will cost small and medium business $75B for the year.  As business pass their expenses on to consumers, this will result in higher prices in goods and services, while retracting research and development for new and innovative products and services.
• Expansion of Alternative Minimum Tax (AMT)
• A minimum tax designed to insure that higher income taxpayers do not pay “too-little” in income taxes via various deductions, exemptions, and credits in the tax code.  As this tax is not automatically adjusted for inflation, 27M Americans will now fit into the confines of the AMT for 2012, at the cost of $40B.  In short, if you make $50K and live alone, you are now subject to the same tax penalty as millionaires.  Welcome to the 1%!
• Expiration of extended unemployment benefits
• Congress enacted recessionary measures to extend unemployment benefits for up to 93 weeks.  Upon expiration, benefits would return to their previous levels of 26 weeks, affecting ~2M people
• Obama Care tax increases begin to take effect
• The Patient Protection and Affordable Care Act (PPACA or Obama care) will increase the Medicare payroll tax by .9% and 3.8% on net investment income for individuals/households making $200K/$250K respectively for an overall increase of $24B in tax increases.
• Expiration of Medicare “Doc Fix”
• The “Doc Fix” was enacted as way to delay Medicare fee reductions due to the fact that impracticality of the Medicare Sustained Growth Rate (SGR) used to calculate fees paid to doctors.  This would result in a 27% cut in physician payments, which again, would be passed on to the patients at a cost of $14B.

January 2, 2013

• Enactment of sequester cuts
• Part of the “grand bargain” resulting from the Budget Control Act of 2011, it is comprised of across the board hatchet cuts of $1.2 trillion to government defense and discretionary spending budgets.  Impacts are expected to be 13% for defense, 11% for for non-defense discretionary spending, 10% to mandatory spending programs (farmer subsidies, etc) and 2% to payments to Medicare related plans and providers. 

February 2013

• “Extraordinary Measures” deadline exhausted
• Should the debt limit be reached and government no longer allowed to borrow money, the Treasury will have to utilize measures to fund government activities, such as borrowing from other agencies, federal retirement funds, etc.  All money borrowed is expected to be repaid with interest.  At this point, it is expected that the government has exhausted these measures and will no longer be able to raise cash necessary, thereby defaulting on financial obligations.  At this point, decisions will need to be made towards funding priorities for government programs and what bills will be paid.  E.G, funding of EPA, social security payments, armed forces pay, debt interest payments, etc.

March 2013

• Expiration of FY2013 Continuing Resolution
• All funding for federally appropriated programs are only funded thru March 27th at the pro-rated FY2012 levels ($1.047T).  At this time, these programs will no longer have funding from the federal budget and decision will need to be made on how to continue.
• Expiration of Temporary Assistance for Need Families (TANF or Food stamps)
• At this point, the food stamp program will no longer be funded due to a lack of continuing resolution.

 

So, man, that is a lot of information and it certainly sounds ominous doesn’t it?  However, how bad would it be if Republicans simply walked away from the table and let us go over this “Fiscal Cliff”.  Based on the information available and Congressional Budget Office predictions, that is exactly what should happen.

The passing of the “grand bargain” of the Budget Control Act of 2011 which included the sequester cuts was never designed to be enacted.  Due to the substantially high cuts to the Military, it was perceived that the Republicans, with Defense being their sacred cow, would be willing to negotiate and these cuts would never happen.  However, we all know that Republicans are cowards when it comes to “deal negotiations” so the best option they can take is to actually give the democrats exactly what they asked for and allow us to go over the cliff.   Per the deal, conservatives would get exactly what they want, which are spending cuts, while the democrats would get what they want, which is tax increases.  The inevitable outcome will be protests from the American Taxpayer as they seen their income go down, the price of services go up, and their family budgets squeezed.  When that happens, it will allow for “true” negotiation, in that the Republicans would then be starting from a fresh slate of reduced spending; therefore, they would not be able to hurt themselves in negotiation as it would put the Democrats under pressure to come up with a plan to ease the suffer (read:  Tax cuts) while allowing Republicans to address the nation’s real problem, government spending.

So what would each of the statements really mean and what are their impacts?

Tax rate expiring:  This would result in average household pay going down by $60 to $400 per month dependent on income, potentially raising government revenues by $281B.  However, this would take us back to the Clinton era tax rates, which lefties love to espouse as the golden age.  So it could be argued that if these are the same tax rates when Clinton was able to “balance the budget and have no deficit”, then surely this congress could do the same thing.  They would have no arguments about not having enough revenue. 

Payroll Holiday Expiration:  The social security payroll tax rate would increase by 2 points, this would result in about $19 being taken from the paycheck per week for someone making $50K and raising government revenues by $115B.  When enacted, congress agreed to reimburse SS by the lost revenue ($103B), but congress never cut spending or raised other taxes to offset the cost.  So in effect, they are robbing your retirement to pay for a little extra money today, all with borrowed funds.  As few want to see impacts to SS, this holiday must go regardless.

AMT expansion:  This will cause more tax payers to be subjected to a minimum tax.  Good news is that it will bring more people into the tax roles, where as today they are not.  However, as stated above, the argument can be made that the government should be able to live within it’s means with these increases and if not, MORE SPENDING CUTs!  Time to use Clinton against the left and make them face their proliferate spending habits.

Unemployment benefits expire:  Yes, this will be a lot people hurt by this, but at the same time, extended benefits do nothing to prod people into trying to get back into the employed populace.  As another report shows, we have already reached a point where it is more financially beneficial to be dependent on the government than it is to get a job and earn your own way.  We have to reduce this mentality if we ever hope to move forward as a country.  This would be the first step in that direction.

Obama care taxes come due:  Again, this will give the government additional revenue in the range of $14B, but it will continue to squeeze more money from the taxpayers and doctors.  This will serve to show the people exactly how disastrous this legislation is as we experience the pain of the taxes along with the hidden tax of increased cost of health care that this is already showing.  Will help with the discussion to defund/repeal of this horrible law.

Medicare Doc Fix:  Another increase of government revenue, but it will reduced doctor pay.  This will result in even fewer doctors accepting Medicare patients, leading to a doctor shortage and outrage by our aging class.  Furthermore, those that do accept (or forced to by our government) Medicare will offset that cost with standard patient costs, thus further increasing healthcare for the majority.  This will serve to add fire to the discussions for Medicare and entitlement reform that is so desperately needed.

Lastly, Sequester cuts:  While it would be more beneficial to do specific program cuts, spending cuts are spending cuts.  While I’m sure we would all prefer targeted spending cuts, we have to take the reductions in spending any way we can get them.  Any negotiations done with the democrats will only result in them getting all the tax increases they want, but no spending cuts needed.  In this case, it’s best to just let the tax increases pass as planned and let the spending cuts go thru. At this point, the republicans would then be able to negotiate with reduced spending already in effect.  What I mean is, once these cuts go thru, they are the new budget.  All new spending cut negotiations would be based off this line, not off of proposed increases, as they are today.  Current negotiations have been on enacting cuts to planned increases, not current budget line items.  This gets us nowhere and results in still more spending.  However, should these cuts go thru, that lowers the baseline budget and gives us something to work with.   Today, if government spends a $1 on something, plans to spend $2 next year, but agree to only spend $1.50, they call that a spending cut and a savings of $.50.  No, it’s still increased spending no matter how you spend it.  We need real cuts now and we should take them however we can get them so we can focus the debate on the real issue, government spending.

Summary

To be clear, yes, this will cause all of us pain.  None of us want to see our take home pay go down and prices go up, but we are faced with a serious choice.  Either we make those decisions today or have them forced upon us during an economic meltdown.  I would go for short term pain over long term disaster any day.  However, how much pain will this really cost?  Well, according to the CBO’s report on “Fiscal Tightening”, they had the following predictions:

If the fiscal tightening (i.e. fiscal cliff) were to go through as planned, it would cause the economy to dip into a short term recession.  GDP would drop by %.5 in 2013 (measured from 4th qtr 2012 – 4th qtr 2013), reflecting a decline in the first half of the year but renewed growth at a modest pace in the last half.  Unemployment would rise to 9.1% in the 4th qtr of 2013, however, the next year the labor market would strengthen, returning output to its potential level (reflecting high rate of labor and capital) with unemployment dropping to 5.5 by 2018. 

So, if we did nothing, we just let all the planned outcome come to fruition, the expectation is a year of hardship followed by substantial growth.  Well, we’ve been in a recession for over 4 years with no end in sight, so I opt that we give that a try.  What what does the CBO expect if congress were to “reach a deal” and prevent us from going over the cliff? 

If all of the fiscal tightening were to be eliminated, the economy would remain below its potential and the unemployment rate would remain higher than usual for some time.  Moreover, if the fiscal tightening was removed and the policies that are currently in effect were kept in place indefinitely, a continued surge in federal debt during the rest of this decade and beyond would raise the risk of a fiscal crisis (in which the government would lose the ability to borrow money at affordable interest rates) and would eventually reduce the nation’s output and income below what would occur if the fiscal tightening was allowed to take place as currently set by law.

Yep, you read that right.  If we do not allow ourselves to go off the cliff, the CBO expects that the fed would keep spending us down into a hole from which we couldn’t recover.  It would cause our output and income to be less than if we just allowed the “cliff” to happen.  Seems pretty self explanatory to me.

So take all the media exploitations with a grain of salt.  If you haven’t realized this yet, you cannot trust the media and you cannot trust politicians.  The best thing we, as a people, could do is just to roll with the punches.  We’ve missed our chance to come out of this pain free, so some pain is necessary, the question is, how much pain do we want to experience?  Temporary pain for an additional year or sustained, worsening pain over the next decade(s)?  I know what I would chose, and to that end, I urge the republicans to simply walk away from the table. 

Republicans - You are not saying no, you are allowing the previous agreement to take effect.  The Democrats made this bet on the suspicion that Republicans wouldn’t have the testicular fortitude to abide by it.   They placed their bets on the fact that they would once again be able to fear monger and use the media to force you into yet another bad deal for America.   Yes, the Dems put all their eggs into the “Republicans are spineless” basket, so now is the time to call their marker.  We aren’t asking you to make any grand stands, just to go along with what you’ve already agreed to.  I’m sorry, but you can’t be trusted to do any better at this point.  So there need be no political war, no sustained debate, and definitely no further negotiations, just walk away and abide by the deal as set by the Democrats.  Allow the Democrats plan to take effect and prepare yourselves for a revived debate next year on spending reduction. Even you guys should be able to do that!