Study: It’s not a ‘fiscal cliff.’ It’s a ‘fiscal slope.’
By Ezra Klein,
Chad Stone, chief economist at the Center on Budget and Policy Priorities, thinks all this talk of a “fiscal cliff” is dangerously misinformed. “The economy will not go over a cliff and immediately plunge into another Great Recession in the first week of January,” he writes.
But the fact that so many politicians and analysts think it will, could, he worries, lead to some very bad negotiating. “The greater danger is that misguided fears about the economy going over a ‘fiscal cliff into another Great Recession will lead policymakers to believe they have to take some action, no matter how ill-conceived and damaging to long-term deficit reduction, before the end of the year.”
In a new paper, Stone argues that we’re really facing a “fiscal slope” — and make no mistake, it “could ultimately lead to a recession in 2013.” But if you go policy by policy, we’re not facing a Wile E. Coyote moment in which Congress runs over the edge and, on Jan. 1, 2013, looks down and finds there’s nothing underneath the economy.
Take the tax cuts. “The immediate impact on most households’ cash flow will be limited to an increase in taxes withheld from their weekly or monthly paychecks, while those taxpayers newly falling within the reach of the AMT in 2012 will not actually pay those higher taxes until they file their returns in subsequent months,” Stone writes.
Further blunting the impact is the fact that “there is broad bipartisan agreement that most of the middle-class income-tax cuts should not expire in 2013 and that the AMT should continue to apply only to more affluent households. Thus, middle-class taxpayers might reasonably expect that they would not ultimately bear any additional burden in 2013 from higher tax rates or an expanded AMT.” As long as they expect Washington will work it out, they’ll likely keep spending.
Or take the automatic spending cuts (known in the Beltway as “the sequester”). “While the limit on spending authority will be imposed at the beginning of the year, the actual reductions in spending will occur over the course of the year and into subsequent fiscal years,” writes Stone. “Once again, only a fraction of the impact occurs in the first month or so, although expectations of the cutbacks can affect the behavior of government contractors and others in advance of the actual cuts.”
Stone’s broad point is that if the price of a decent deal is going over the fiscal cliff for a few weeks or even months, that’s a price worth paying. That “scenario would resemble in some respects the government shutdown in the winter of 1995-96, when President Clinton and Republican Congressional leaders failed to reach agreement on legislation to fund government departments and agencies. The intense political pressure that both sides faced once the shutdown ensued broke the impasse fairly quickly, and the sides reached agreement that limited the shutdown to 21 days.”
But there’s a catch: We go off the cliff, or down the slope, beginning in January. In February, the debt ceiling is expected to come due. So even if the mechanical consequences of the expiring provisions aren’t that devastating to the economy, the prospect that they won’t be resolved, and that the debt ceiling will then come due and that won’t be resolved, will lead to a storm of financial uncertainty.
”The question is how much pressure can they take,” says Jim Horney, director of fiscal policy at CBPP. “Think back to the government shutdown. The pressure ratcheted up pretty quickly. It will be the same case here even without the economic catastrophe.” When you add in the economic catastrophe, the pressure becomes that much greater.
But, assuming an Obama presidency, both parties have good reason to show they can withstand it. The Democrats will have to show that the Republicans can’t keep holding them hostage. The Republicans will have to show that they can stand against a second-term Obama. Eventually, one or both sides will break. The question is simply when, and how much damage will have been done before that.