Many Americans must be wondering: What is all this about a “fiscal cliff"? And why did it receive so little attention during the presidential campaign?
Well, it’s complicated — the so-called cliff, that is. And most solutions are politically painful. In a rare show of bipartisanship, or mutual protection, both parties ducked the debate until after the election. What follows is an attempt to demystify the issue that President Barack Obama and the lame-duck Congress now are struggling over, and perhaps will occupy them right through the holidays.
Q: What is the fiscal cliff?
A: The term refers to more than $500 billion in tax increases and across-the-board spending cuts scheduled to take effect after Jan. 1 — for fiscal year 2013 alone — unless Obama and Republicans reach an alternative deficit-reduction deal. Ben Bernanke, the chairman of the Federal Reserve, coined the metaphor “fiscal cliff" last winter to warn of the dangerous yet avoidable drop-off ahead in the nation’s fiscal path. It stuck.
Q: If we go over this so-called cliff, what happens?
A: Taxes would rise for nearly every taxpayer and many businesses. Financing for most federal programs, military and domestic, would be cut. Many economists say that while annual budget deficits are too high, these new taxes and spending cuts would be too much deficit reduction, too suddenly, for a weak economy.
More than $500 billion equals roughly 3 to 4 percent of gross domestic product.
The Congressional Budget Office has said the result would be a short recession, though some analysts say the measures could be managed so they do less damage. “Slope," they argue, is a better metaphor than cliff.
Q: Exactly what tax increases are in store?
A: When a tax cut expires, the practical effect is a tax increase. And a slew of tax cuts — $400 billion for 2013 — expires on Dec. 31: All of the Bush-era rate reductions; smaller tax cuts that periodically expire for businesses and individuals; and the 2-percentage-point cut in payroll taxes that Obama pushed in 2010, increasing an average worker’s take-home pay by about $1,000 a year.
Also, 28 million taxpayers — about one in five, all middle- to upper-income — would have to pay the alternative minimum tax in 2012, raising their taxes more. That is because Congress has failed to pass an inflation adjustment, as it usually does, to restrict the number of taxpayers subject to the AMT largely to the affluent.
Q: What spending would be cut?
A: An emergency unemployment compensation program is expiring, which would save $26 billion but end payments to millions of Americans who remain jobless and have exhausted state benefits. Medicare payments to physicians would be reduced 27 percent, or $11 billion, because Congress this year has not passed the usual so-called doc fix to block the cuts, which otherwise are required by a 1990s cost-control law.
The biggest cut would be $65 billion, enacted across the board for most federal programs over the last nine months of fiscal year 2013, from January through September. This cut, known as the sequester, was mandated by an August 2011 budget deal between Obama and Congress that ended their standoff over raising the nation’s debt limit. In that deal, they agreed to reduce spending by $1 trillion over 10 years and to identify another $1.2 trillion in savings by January 2013. If they failed to agree on the second installment — as is the case so far — the automatic cuts would kick in.
Q: Why did the parties create such a fiscal and economic threat?
A: It was part intentional, part coincidental.
The intentional: Since Ronald Reagan’s administration, with mixed results, presidents and Congresses have occasionally mandated a self-imposed future crisis to force themselves to agree on unpopular tax-and-spending actions. In that spirit, the idea behind the August 2011 deal was that Republicans would so fear the military cuts and Democrats the domestic spending cuts that they would negotiate a deficit-reduction alternative by the Jan. 1 deadline.
The coincidental: The measures from the 2011 deal are set to take effect at the same time as the changes to jobless benefits, the AMT adjustment and the Medicare “doc fix" — a confluence that the two parties did not fully expect back in August 2011. The nation will also reach its debt ceiling in January, creating additional uncertainty. Accounting maneuvers by the Treasury Department could push that deadline to March, but Obama wants a debt-limit increase as part of any deal, adding another item to the agenda.
Q: Can’t Democrats and Republicans agree on anything here?
A: They actually agree on a lot. Neither side favors the sequester, an expanded AMT or Medicare cuts for physicians; the issue in preventing those outcomes is where to find offsetting savings to avoid adding to annual deficits. And both parties want to extend all of the Bush tax cuts for 98 percent of taxpayers — on income below $250,000 for couples and on income below $200,000 for individuals.
Their main disagreement is a familiar one: the Bush rates on income above that, for the top 2 percent of taxpayers. Obama campaigned against the rates in 2008 and in 2012. In December 2010, when the Bush tax cuts originally were to expire, Obama reluctantly agreed to extend all of them for two years in exchange for Republicans’ support for the temporary payroll tax cut and extended jobless aid. This time, he swears, is different.
Q: What now? Might they really reach an impasse?
A: No one knows. Despite market jitters about that outcome, Democrats suggest that they are willing to let Jan. 1 come and go without resolution unless Republicans relent on the top rate. That could simply be bargaining bravado, to make Republicans blink. A Washington Post-Pew Research Center poll this week found that a majority of Americans would blame Republicans for failure.