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U.S. Government Frozen on the Edge of a Fiscal Cliff

The 2011 Budget Control Act, in which the United States Congress set forth provisions for the automatic expiration of a sizeable number of tax cuts as well as several new spending reductions, is due to go into effect at the end of this year. This ‘fiscal cliff’ is shaping up to become a contentious policy battle between the presidential candidates, Barack Obama and Mitt Romney, as the issue of deficit reduction is an unavoidable part of any strategy concerning an economic recovery.

The fiscal cliff amounts to a total more than $1.2 trillion and will impact both domestic and defense spending budgets. While originally intended to be voided by a new fiscal agreement, the automatic spending cuts have instead provoked a stalemate in a staunchly partisan Congress that has failed to reach bipartisan solution despite criticism from many politicians and economists.

Warnings abound

Both the International Monetary Fund (IMF) and the Congressional Budget Office (CBO) have issued startling statistics about the economic future of the United States. Currently, publicly-held debt is equivalent to 70% of GDP, which amounts to nearly $l6 trillion. Although the government stands to save $600 billion in the first year pending any amendments to the fiscal schedule, the CBO estimates the economy will take a hit of $500 billion, undermining the country’s post-recession recovery. For 2013, the CBO predicts a 3.9% reduction for the annual rate of growth of GDP. Similarly, the IMF has lowered its estimate of 2.3% to 0.1% in July, and is forecasting a negative growth for 2013.

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This pessimistic outlook does not bode well for an economy still suffering from the 2008 financial crisis. However, while the CBO admits the current federal fiscal policy “will significantly restrain economic growth in 2013,” their long-term projection states that such policies will eventually lead to growth several years down the line.

Congressional stalemate colors election rhetoric

Much of the debate over the fiscal cliff has occurred in Congress, with both democrats and republicans refusing to compromise ahead of the November elections. Of particular concern has been the Bush-era tax cuts,which has morphed into a debate over the nature and target of tax cuts.

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Senate Democrat leader Patty Murray says no compromise will be made before Republicans agree to raise taxes on high-income households. Conversely, Republicans like Murray’s counterpart, Mitch McConnell, refuse to budge on ending the cuts for households earning more than $250,000 annually. Both sides’ intransigence suggests a complacent acceptance that the debate will carry over into 2013.

As the August recess approaches, the stalemate in congress has begun to influence the presidential election. Studies by the Brookings Institute about the long-term budgetary plans of the candidates show that both men anticipate an increase in the percentage of public debt to GDP: Obama’s policies are projected to result in an increase of debt to 75% of GDP within a decade while Romney could increase it to a much higher level of 95% of GDP over the same time span.

Having yielded in 2010 to an extension of the Bush tax cuts, Obama has been especially reluctant to give way this time around. Ostensibly, his stubbornness is based on his desire to rebrand his economic platform whereby the plight of the middle class is viewed as paramount importance. In his 14 July Weekly Address, President Obama spoke directly to the interests of the middle class. He noted that his debt reduction policies would maintain tax cuts for all Americans making less than $250,000 and he underlined his previous record of tax cuts for middle class families and small business owners.

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On the other side of the political spectrum, Romney’s debt reduction plan has yet to be clearly defined. Several of Romney’s presumptive economic advisers have shown support for a deficit reduction plan called the Simpson-Bowles, which involves discretionary spending cuts and tax reform. However, Romney has rejected the plan because it involves tax increases. His own proposition of reducing capital gains and dividend taxes as well as lowering the top individual tax rate is met with concern by Erskine Bowles of the eponymous plan as it would necessitate an increase in taxes on the middle class.

Surveys suggest that voting preferences appear predicated on the immediate economic outlook. The Obama administration hopes to make gains with voters disillusioned about the economy, given that a July New York Times / CBS News poll suggested that approval and disapproval ratings for the president’s handling of the economy is tied to the state of the labor market. The poll showed that 49 percent of Americans support the continuation of the Bush-era tax cuts for those with annual incomes of $250,000 and less. Presumably, these statistics represents the middle class voters to whom President Obama has directed his deficit reduction plan. That said, sluggish growth projections and continuing poor employment figures may overshadow Obama’s attempts to woe voters with his economic policies ahead of November’s elections.

Long-term fiscal plan must wait for 2013

The headstrong nature of both sides essentially guarantees the fiscal cliff debacle will not be resolved ahead of the election. Whatever Congressional compromise is made in the meantime – or more likely, eschewed in the expectation of favorable election results – is surely to be short-term and inconclusive.

In April 2012, the president of the Committee for a Responsible Federal Budget, Maya MacGuineas, launched a petition called “Debate the Debt.” Her intention is to place public pressure on Obama and Romney to directly address the issue during fall presidential debates. In the event that the candidates do debate the matter, it is possible that voters will be exposed to a direct and public discussion of the long-term fiscal implications of each candidates proposed economic policies. No matter what, Americans will have to wait until 2013 before any substantial action is taken to tackle the country’s every increasing deficit.

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