Tax Analysts Blog

Wrong Turns At the Fiscal Cliff

Posted on Oct 1, 2012

I often hear informed individuals shrug off concerns about the fiscal cliff. It is true that the expiration of the Bush tax cuts will only have lasting effects if they are not extended for the whole year. Because the bulk of tax cuts (that is, for families over $250,000) will almost certainly be extended--the reasoning goes--there is little reason for concern. A few weeks of delay, with retroactive relief, and it will all be a faded memory by April.

But the 2 percent payroll tax cut will almost certainly expire. Today's New York Times explains why Democrats and Republicans are willing to let it die a quiet death despite the certain damage it will do to the economy and (Democrats are you awake?) the shift in the tax burden down the income scale. That is a $100 billion hit for the economy. And thousands of dollars for working families.

The Times trips all over itself explaining first "independent economists say that the economy could shoulder the payroll tax increase without undue harm" [emphasis added] while elsewhere telling us up to 1 million jobs could be lost (!) and 0.6 percent could be shaved off of economic growth.

Meanwhile, as reported in this morning's Financial Times--the Republicans--who will almost certainly still control the House in 2013--still want a rematch in the game of chicken they played with President Obama during the summer of 2011. Folks, we economists have a pretty good idea what spending changes and tax changes will do to an economy. The effects of those parts of the fiscal cliff may be unpleasant but they are within the bounds of prior experience and our economic knowledge.

When it comes to the effects of exceeding the debt limit, we are in uncharted territory. There is no model out there that can predict what will happen if the world's safest asset--U.S. government bonds--goes into default. And we don't want to find out. If you haven't noticed, the world's finances are a little shaky. Instead of lobbying for preservation of the 15-percent rate on carried interest, Wall Streeters should be demanding the quick resolution of debt limit negotiations before there is a self-inflicted crisis.

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