Will Fiscal Cliff Become A Reality in 2013?

by Don Azarias
December 16, 2012
Politicians, economists, analysts and investors have been talking about ‘fiscal cliff” even before and even more after the Nov. 6 presidential election. They have been dealing with it in almost the same breath as the Y2K scare (remember this?) before year 2000 which, it turned out, was just a concoction of unscrupulous IT “experts” for financial gain. They were hoping to cash in on a global computer system crash that failed to materialize. The fiscal cliff, however, would have a devastating effect on the United States’ and other countries’ economies if not averted.
Fiscal Cliff is defined simply as a combination of expiring tax cuts and across-the-board government spending cuts scheduled to become effective Dec. 31, 2012. But it’s really not that simple. You have to read the entire article in order to fully understand its intricacies and the reason why it’s causing so much concern and anxiety in both, Washington, D.C. and Wall Street.
With a lot at stake and facing increased pressure from the American public, Congress and the White House should try hard to reach a deal to avert the fiscal cliff before January 1, 2013, when tax increases and deep cuts in government programs take effect. But as the Dec. 31 deadline approaches, Republican and Democratic lawmakers have yet to reach an agreement. Failure on their part to do so would allow the $600 billion in automatic tax increase and government spending cuts to kick in.
Some investors worry that, if no deal is reached, the economy could slide into recession. Others, however, are optimistic that both sides could put together a plan to prevent the nation from going over the fiscal cliff.
For the readers’ information, if political leaders in Washington, D.C. allow the government to veer over the “fiscal cliff,” it could drain $500 billion from the still-struggling economy next year. President Barack Obama says it could happen and had this to say: “Obviously we can all imagine a scenario where we go off the fiscal cliff.” The likeliest cause, he suggested, would be “too much stubbornness in Congress, especially on the issue of taxes.” Many Republicans in Congress, however, are saying that it’s Obama who’s unyielding. According to Bloomberg News, Obama warned of “prolonged negotiations” rather than quick compromise on tax increases and spending cuts. And House Speaker John Boehner told reporters “right now we’re almost nowhere on talks.”
We may recall that Obama campaigned on a pledge to end the George W. Bush-era tax cuts for households making more than $250,000 a year. Republican leaders say the lower rates from 2001 and 2003 should remain in place for everyone, including the rich. Republicans say tax increases on the rich would inhibit job growth. Democrats dispute that, and say it’s only fair for the wealthiest to provide more revenue in this era of historically low tax burdens and a growing income disparity between the rich and the poor.
Most Republican lawmakers have signed a pledge not to allow tax rates to rise, even if they are scheduled to do so by law, as are the Bush-era cuts. Some Democrats say it may be necessary to let the Dec. 31 deadline expire and have everyone’s tax rates revert to the higher, pre-Bush levels. Then, the argument goes, Republicans could vote to bring the rates back down for most Americans, but not the richest, without breaking their pledge.
Both parties have talked, vaguely, of raising revenues by limiting the itemized tax deductions claimed by about one-third of the nation’s taxpayers. Among the most popular deductions are those for charitable donations, health care costs and mortgage interest payments.
A lot of ideas have been floated. They include capping a taxpayer’s total deductions at $35,000 or $50,000, and limiting the value of deductions to 28 percent, instead of the current 35 percent for high earners. The coalition of universities and other institutions that rely on tax-exempt donations is so influential that some strategists say charitable gifts should be left untouched. The housing industry says the same about home mortgage interest.
While Republican and Democratic lawmakers are still far apart in trying to resolve the fiscal cliff issue, they may try still try to reach a compromise to get the law enacted in Congress. But any compromise reached may not sit well with both party’s lawmakers’ constituents who are bound by their party’s political platform and ideology. These lawmakers must make tough decisions to raise taxes and shrink programs and these are the kinds of decisions that can get a candidate lose an election.
The president has proposed more specific ideas for raising revenue and reducing spending.. He would raise an assortment of taxes on the wealthy. Obama says he wants $1.6 trillion over 10 years in new revenues. That’s double the amount Boehner has suggested. As for spending, Obama would seek cuts in health costs, farm subsidies, rent assistance, airport construction and other programs.
The debate over how to raise taxes on the wealthy is part of the broader discussion over how to reduce federal borrowing over the next decade. At the end of the year, tax rates are scheduled to increase on nearly all Americans, raising hundreds of billions of dollars of new tax revenue but costing the average family about $2,000 a year in take-home pay.
Obama wants to freeze tax rates for most Americans while allowing them to rise as high as 39.6 percent for the wealthiest people—defined as earning over $250,000 per year. That will reduce federal borrowing by about $1 trillion over a decade.
Then next year, Obama wants to overhaul the tax code to clean out deductions and loopholes that benefit the rich and some sectors such as the financial industry. That, the administration estimates, would generate about $600 billion in savings over a decade.
Republicans, on the other hand, do not want to raise taxes on anyone. But in the wake of their electoral defeat last month, they have acknowledged that the wealthy will have to pay more. They want to raise about $800 billion in new revenue over the decade through an overhaul of the tax code that limits deductions. Higher rates, they say, will dissuade work and investment and hurt small businesses, and thus be a drag on economic growth.
Both sides agree that, as a principle, keeping tax rates low while eliminating deductions is better than increasing tax rates. But Democrats say it’s not possible to preserve enough spending on government programs without raising well over $1 trillion in new tax revenues during the next decade and they don’t believe it’s possible to do that without raising rates on the wealthy, raising taxes on the middle class, or dramatically scaling back worthwhile deductions such as the one for charitable giving.
The White House also has opened the door to a compromise that would increase rates on upper-income earners by less than the full amount they are scheduled to rise next year, when the top brackets rise from 33 to 35 percent and 35 to 39.6 percent. But Republicans have not agreed.
Meanwhile, the nation is teetering on the edge of fiscal cliff and the American people wondering what will happen in 2013.