Analysis: Economy would dodge bullet for now under fiscal deal

WASHINGTON Tue Jan 1, 2013 7:26am EST

U.S. Senate Minority Leader Mitch McConnell (C) departs the senate floor with an aide after a senate vote in the early morning hours at the U.S. Capitol in Washington January 1, 2013. REUTERS/Jonathan Ernst

U.S. Senate Minority Leader Mitch McConnell (C) departs the senate floor with an aide after a senate vote in the early morning hours at the U.S. Capitol in Washington January 1, 2013.

Credit: Reuters/Jonathan Ernst

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WASHINGTON (Reuters) - A deal worked out by Senate leaders to avoid the "fiscal cliff" was far from any "grand bargain" of deficit reduction measures.

But if approved by the House of Representatives, it could help the country steer clear of recession, although enough austerity would remain in place to likely keep the economy growing at a lackluster pace.

The Senate approved a last-minute deal early Tuesday morning to scale back $600 billion in scheduled tax hikes and government spending cuts that economists widely agree would tip the economy into recession.

The deal would hike taxes permanently for household incomes over $450,000 a year, but keep existing lower rates in force for everyone else.

It would make permanent the alternative minimum tax "patch" that was set to expire, protecting middle-income Americans from being taxed as if they were rich.

Scheduled cuts in defense and non-defense spending were simply postponed for two months.

Economists said that if the emerging package were to become law, it would represent at least a temporary reprieve for the economy. "This keeps us out of recession for now," said Menzie Chinn, an economist at the University of Wisconsin-Madison.

The contours of the deal suggest that roughly one-third of the scheduled fiscal tightening could still take place, said Brett Ryan, an economist at Deutsche Bank in New York.

That is in line with what many financial firms on Wall Street and around the world have been expecting, suggesting forecasts for economic growth of around 1.9 percent for 2013 would likely hold.

At midnight Monday, low tax rates enacted under then-President George W. Bush in 2001 and 2003 expired. If the House agrees with the Senate - and there remained considerable doubt on that score - the new rates would be extended retroactively.

Otherwise, together with other planned tax hikes, the average household would pay an estimated $3,500 more in taxes, according to the Tax Policy Center, a Washington think tank. Budget experts expect the economy would take a hit as families cut back on spending.

Provisions in the Senate bill would avoid scheduled cuts to jobless benefits and to payments to doctors under a federal health insurance program.


Like the consensus of economists from Wall Street and beyond, Deutsche Bank has been forecasting enough fiscal drag to hold back growth to roughly 1.9 percent in 2013. Ryan said the details of the deal appeared to support that forecast.

That would be much better than the 0.5 percent contraction predicted by the Congressional Budget Office if the entirety of the fiscal cliff took hold, but it would fall short of what is needed to quickly heal the labor market, which is still smarting from the 2007-09 recession.

"We continue to anticipate a significant economic slowdown at the start of the year in response to fiscal drag and a contentious fiscal debate," economists at Nomura said in a research note.

In particular, analysts say financial markets are likely to remain on tenterhooks until Congress raises the nation's $16.4 trillion debt ceiling, which the U.S. Treasury confirmed had been reached on Monday.

While the Bush tax cuts would be made permanent for many Americans under the budget deal, a two-year-long payroll tax holiday enacted to give the economy an extra boost would expire. The Tax Policy Center estimates this could push the average household tax bill up by about $700 next year.

The suspension of spending cuts sets up a smaller fiscal cliff later in the year which still could be enough to send the economy into recession, said Chinn.

He warned that ongoing worries about the possibility of recession could keep businesses from investing, which would hinder economic growth.

"You retain the uncertainty," Chinn said.

(Reporting by Jason Lange; Editing by Eric Walsh)

(This story was refiled to remove extraneous punctuation in the first paragraph)

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Comments (3)
Abulafiah wrote:
“Scheduled cuts in defense and non-defense spending were simply postponed for two months.”

This is really stupid. The worst possible ‘solution’.

The best answer would be to ignore Republicans completely and not cut any spending at all, as that will send the US back into recession, which really seems to be the Republican intention. The debt ceiling is coming soon, and the Republicans are sure to start howling for spending cuts again.

I have asked several right-wingers to give a real-life example of spending cuts helping an economy, and they invariably go silent. That is because, in the real world, spending cuts kill growth. Look at Europe for a couple of dozen real-life examples of this.

Yet, when the entire EU + UK + Ireland prove through experience that spending cuts are a disaster, the GOP does everything they can to do the same thing to the USA.

This demands the question: Are Republican’s incapable of learning from experience, simply not care about the US economy as long as they stick to their ideology like religious zealots, or are they intending to trash the US economy again so they can try to blame Obama?

Jan 01, 2013 7:51am EST  --  Report as abuse
As World Stocks Tumbled. Harry Reid exploited Republicans handicap to not to offend their Wall Street Masters by rigging the “fiscal cliff” plan. Obama cancelled his Hawaii break and rush back in his pajamas to White House to save himself. For Harry Reid business as usual. Cloture temporary fiscal. Harry Reid will carry on with the same boring game. Extend under $250K Bush-Tax-Cut, Relax unemployment benefits and fiddle with doctor’s bill to fool GOP fools of the House & the Senate. It’s the same Dog and Pony Stunt show pulled by Republicans & Democrats of the House & the Senate during 2011 Fiscal Scam Drama. Oh by the way. “Fiscal Cliff” was called “Government Shutdown” last year. Let me edutain you a bit; ‘Fiscal Cliff’ is a combination of expiring tax cuts and across-the-board government spending cuts scheduled to become effective Dec. 31, 2012. The idea behind the fiscal cliff was that if the federal government allowed these two events to proceed as planned, they would have a detrimental effect on an already shaky economy, perhaps sending it back into an official recession as it cut household incomes, increased unemployment rates and undermined consumer and investor confidence. At the same time, it was predicted that going over the fiscal cliff would significantly reduce the federal budget deficit. Who actually first uttered the words “fiscal cliff” is not clear. Some believe that it was first used by Goldman Sachs economist, Alec Phillips. Others credit Federal Reserve Chairman Ben Bernanke for taking the phrase mainstream in his remarks in front of Congress. Others credit Safir Ahmed, a reporter for the St. Louis Post-Dispatch, who in 1989 wrote a story detailing the state’s education funding and used the term “fiscal cliff.” If Congress and President Obama do not act to avert this perfect storm of legislative changes, America will, in the media’s terms, “fall over the cliff.” Among other things, it will mean a tax increase the size of which has not been seen by Americans in 60 years.

Jan 01, 2013 9:45am EST  --  Report as abuse
Whatsgoingon wrote:
“The suspension of spending cuts sets up a smaller fiscal cliff later in the year which still could be enough to send the economy into recession, ” Yes we’ve been kicking the cliff down the road. Why is it “smaller”? The debt level has been constantly rising, right? Growth popped up by debt is not real and unsustainable. Cutting off a tumor is painful, but we’d be better off doing it earlier. Delaying the inevitable seems human nature, as it led to the EU mess. Can US do better than that?

Jan 01, 2013 2:50pm EST  --  Report as abuse
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