Posted on October 23, 2012
Congressional conservatives have revealed their negotiating strategy for dealing with the fiscal cliff slope: scare the public and congressional Democrats into a deal that reduces the deficit through spending cuts alone. These fears have been blown out of proportion. A fiscal Armageddon will not happen on Jan. 1, 2013.
Senate Majority Leader Mitch McConnell (R-KY) and House Speaker John Boehner (R-OH) tipped their strategy when they responded to a speech by Sen. Chuck Schumer (D-NY), who called on Democrats to fight to retain Clinton-era income tax levels for upper-income households. Schumer urged Democrats to allow the top two income tax brackets to revert back to 36 and 39.6 percent (from their current levels – 33 and 35 percent) and to increase the capital gains tax rate to some level below 40 percent (from today’s 15 percent).
McConnell quickly responded in a press release accusing Schumer of endorsing “Thelma & Louise economics” and of “hold[ing] the economy hostage to massive, job-killing tax hikes.” In a column posted on his website, Boehner repeated McConnell’s charge that Democrats’ insistence that tax rates on the wealthy return to Clinton-era levels is a “Thelma & Louise” approach to economics.
McConnell’s and Boehner’s reference to “Thelma and Louise,” a movie that ends with the titular characters driving off a cliff, is intended to escalate fear. The “fiscal cliff” is a term invented to describe the combined impact of allowing tax rates to rise across all income levels while $110 billion in across-the-board federal spending cuts (or “sequestration”) kick in on Jan. 1, 2013. However, because of the way tax and spending policies work, sequestration and the expiration of tax cuts can be reversed, and the impact felt in January could be minimal. The fiscal “cliff” is more like a fiscal slope.
In a recent report, the Center on Budget and Policy Priorities (CBPP) asserts that it would be a “serious mistake and an unnecessary step” to respond to the fiscal cliff rhetoric “by simply extending current policies and postponing the hard decisions needed to restore long-term fiscal stability.” CBPP notes that if all the Bush tax cuts were allowed to expire, the impact on workers’ take home pay would be limited; the average $900 higher tax withholding would be spread out over twelve months. Other analysts, including former OMB official Barry Anderson, have publicly noted that the Obama administration could choose not to adjust tax withholding rates, further limiting the impact of the scheduled income tax increase.
On the spending side, while a full-year sequester would produce significant cuts in defense and many non-defense programs, OMB has significant latitude to delay much of this impact if the administration chooses to do so. The administration could continue to operate many federal programs at the non-sequestered rate of spending, so services like the National Parks and the Federal Bureau of Investigation (FBI) might not experience any interruption in funding for several weeks. If a new budget agreement is reached in early 2013, it will likely retroactively cancel sequestration, negating the impact of the required cuts.
Federal contractors may not feel the impact of reduced budget authority for “several months,” according to the Defense Department. For federal contracts signed in fiscal year (FY) 2012, contractors would receive payment for those contracts in 2013. In a letter to the National Defense Industrial Association, Richard Ginman, the Director of the Pentagon’s Defense Procurement and Acquisition Policy wrote:
Most department contracts are fully funded; because they are obligated from FY 2012 and prior year funding, they would not be affected by sequestration. For contracts in place that are incrementally funded, any action to adjust funding levels would likely occur, if it occurred at all, several months after sequestration.
On Jan. 1, 2013, there will be no drop from a fiscal policy cliff. There may be a slow rolling down a hill, but we can return to its crest through appropriate fiscal policies. The overheated rhetoric of McConnell and Boehner’s reactions are designed to create an atmosphere of crisis in order to push panicked Democrats into a deficit-cutting deal that minimizes revenue increases and maximizes spending cuts. Congressional dealmakers should recognize that Jan. 1, 2013 will not bring economic calamity if a deficit deal has not been reached.