The US fiscal cliff poses a serious threat to the US economy and by extension the global economy. This article reveals what the fiscal cliff is, and what will it mean for the US economy?
What is the fiscal cliff?
The US fiscal cliff refers to a collection of automatic tax increases and spending cuts that are due to come into effect at the beginning of 2013 if certain laws are allowed to expire. These tax increases and spending cuts break down as follows:
- The expiry of the Bush-era income-tax cuts: $221 billion
- The expiry of President Obama’s Social Security payroll tax cut: $95
- The expiry of tax deductions: $65 billion
- The first phase of the Patient Protection and Affordable Care Act (PPACA), aka Obamacare: $18 billion
Total: $399 billion
- Automatic sequestration, the majority of which effects the Department of Defense: $65 billion
- The expiry of the extension of unemployment benefits: $26 billion
- The reduction in Medicare payment rates: $11 billion
- Other sequestration and spending reductions across various government departments: $105 billion
Total: $207 billion
Fiscal cliff total: $607 billion
What will the fiscal cliff mean for the US economy?
The Congressional Budget Office (CBO), projects that if Congress fails to act, the US economy will contract at an annual rate of 1.3% in the first half of 2013. The CBO is also predicting that the official US unemployment rate will rise from 7.8% to around 9% in the second half of 2013.
Deficits or Surpluses
Source: Congressional Budget Office. The CBO is the congressional agency charged with reviewing congressional budgets and other legislative initiatives with budgetary implications.
The CBO has provided a projection of the US budget deficits through till 2022, and its baseline scenario shows the effects of the fiscal cliff under current law. The “Alternative Scenario” shows what would happen if Congress extended the Bush tax cuts and repealed the Budget Control Act-mandated spending reductions beyond the end of 2012.
It’s important to note that the Obama administration has not passed a budget for the past three years. In March of this year Obama’s budget was rejected by both the House of Representatives and the Senate, where it failed to get a single vote, even from his own party. Their plan is to raise $70 billion in new taxes, however this would only be enough to run the US government for a week, and it assumes a 2% rate of economic growth. By the end of his second term, Obama will have added $4 trillion to the national debt taking it to $20 trillion.
The US Congress effectively has from 13 November to 13 December to deal with this looming issue, since on 14 December Congress adjourns for the Christmas holiday season.