The deal to which the House gave final approval late Tuesday will head off the most severe effects of the “fiscal cliff” by averting a dangerous dose of austerity but still leaves the economy vulnerable to both immediate and more distant threats.
The agreement, which the Senate approved only hours after the government hit the limit on federal borrowing, fails to defuse the prospect of a catastrophic national default two months from now. The deal does not raise the debt ceiling, leaving the Treasury to use what it calls “extraordinary measures” as long as it can to pay the government’s bills.
Nor does the package do anything to address stubbornly high levels of unemployment, with 12 million Americans out of work. Instead, the deal could aggravate the problem. By allowing the payroll tax cut to expire, the deal takes money out of the hands of many Americans, sucking it out of the economy and slowing economic activity.
And, finally, the deal is too modest to fundamentally tame the government’s soaring debt. The nation’s long-term finances remain in peril, with federal spending projected to rise dramatically as a wave of retiring baby boomers turns to the government for help in paying for ever-more-costly health care.
Michael Feroli, chief U.S. economist at J.P. Morgan Chase, cautioned that the deal is a stopgap measure at most.
“What’s challenging is that we’re still going to have some slowing in growth because of the tax hikes,” said Feroli, who estimated Tuesday that the deal will subtract 1 percentage point from already meager growth. “What’s not good is that deficits are still going to be large and it doesn’t begin to touch the longer-term horizon.”
Vincent Reinhart, chief U.S. economist at Morgan Stanley, said the deal does not even relieve the anxiety of businesses and consumers because so many economic challenges are left unresolved. “There’s an immediate fiscal drag, and there’s no offsetting bonus in confidence because fiscal uncertainty is still considerable,” he said.
Despite the drawbacks, the bipartisan deal may well have been the heaviest lift a deeply divided Congress could have accomplished. And the package, no doubt, has its benefits.
It is likely to prevent the nation from dipping back into recession. It cancels massive tax increases facing middle-class and poor Americans. And it delays deep and blunt government spending cuts for two months.
And while the agreement does nothing to reduce joblessness, it renews unemployment benefits that would have otherwise expired, offering vital help to the jobless and averting another blow to economic activity.
And finally, by raising a little more than $600 billion in fresh tax revenue from the wealthy, the deal takes a step toward bringing spending and taxes into line for the next few years — though economists say much more needs to be done over the long run.
President Obama had sought a larger agreement that would raise taxes by more than double what he got in the deal. He also wanted to take the debt ceiling off the table and offset deep spending cuts with more taxes and more targeted savings in entitlements — including Medicare and Social Security. He also asked for new economic stimulus measures to help bring down unemployment, including an extension of the payroll tax holiday.
Republicans had also wanted a deal that would cut the deficit more, though their prescription was different from Obama’s. Instead of taxes, they preferred deeper cuts to domestic spending and changes to entitlements.
The deal fell somewhere in between. But by gaining the support of both sides, it did not achieve what many economists believe is necessary for the short- and long-term success of the U.S. economy.
Leaving the fate of the debt ceiling up in the air will cause anxiety among businesses and individuals, potentially crimping hiring, investing and consumer spending.
In many ways, the threat of default in two months is a more serious risk than the Jan. 1 fiscal cliff deadline. If Congress does not increase the debt ceiling, the government will quickly run out of ways to pay the nation’s bills and make interest payments on the nation’s outstanding debt. Any failure by the government to meet its financial obligations could be seen as a default, shaking world financial markets, given the special role that U.S. government bonds play in the global economy.
And while a default would be all but certain to push the economy into recession, growth is likely to be slow — and job-market improvement slight — even without such a cataclysmic event. The unemployment rate, which stands at 7.7 percent, is not expected to fall below 7.4 percent by the end of this year, and not below 6 percent until at least 2016 or later.
In the midst of the recession, the government stepped in with spending programs and deep tax cuts to lift growth and reduce unemployment. A majority of economists say those efforts worked.
But federal stimulus has been winding down. And the spending cuts and tax hikes set for 2013 are expected to be a drag on the economy — with government policy offsetting much of the robust recovery being experienced in the private sector.
Nor does the agreement do what many analysts say is necessary to achieve long-term budget savings and tame the federal debt, which is projected to grow rapidly as a percentage of the economy in the coming decades.
Both Obama and House Speaker John A. Boehner (R-Ohio) have proposed plans to trim just enough from federal deficits during the next decade to stabilize borrowing over that period — though not reduce it. In general, economists worry that when the debt gets too large, it slows economic growth — though defining “too large” is a matter of much debate.
Today, the debt stands at about 73 percent of gross domestic product — the size of the overall economy — and is projected to rise rapidly over coming years. The plans from Obama and Boehner, over the next decade, would each bring the ratio of debt to GDP back down to about where it is today, according to rough estimates from the Committee for a Responsible Federal Budget, a group advocating a big deal to tame the debt.
The Senate package is also projected to come close to achieving that, though not quite as close as Obama’s and Boehner’s plans. And even that relies on allowing the deep sequester spending cuts to happen or replacing them with other spending cuts or tax hikes.
None of the plans under discussion would keep borrowing a decade from now from starting to soar again. Much of the budget is projected to be consumed by health-care spending over the coming three decades.
“We have real problems in Medicare that we’re not addressing at all — such as the fact that health-care costs continue to rise faster than the economy,” said Leonard Burman, a public finance professor at Syracuse University. “The fact is we can’t spend unlimited amounts of money on health care.”
Obama administration officials say they hope their efforts to slow spending through the Affordable Care Act, the 2010 health-care law, will make this problem less severe. Republicans have in the past advocated a broad overhaul of federal health insurance programs. Yet neither side is now proposing a specific plan to deal with those long-run challenges.
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