The ‘Fiscal Cliff’ and why it needs solving

If you’ve been following US politics the last few days then you’ll have heard the term ‘fiscal cliff’ bandied about like it was going out of fashion. If you haven’t, it’s the media term (along with the much more exciting ‘Taxmageddon’) for the impending end of the Bush-era tax cuts and beginning of automatic Federal budget cuts, the combination of which will almost certainly lead to the US re-entering recession in 2013.We’ll obviously have to go back a bit to explain how we got here, then we can look into the future and try and work out a way of sorting it all out. As normal, Mark has to come and save the day.....

Surprisingly, I’m not going to start with George W Bush and his nonsensical tax cuts in 2001 and 2003. We’ve got to look a bit further back in order to see where things could go in the future. Back in Clinton’s Presidency he was being badgered so hard by the Republicans in the House of Representatives (led by Newt Gingrich, who ran for the GOP nomination against Mitt Romney) that the Federal budget wasn’t passed in time to pay government employees and so the government literally shut down. Nothing but essential services ran for 28 days spread between November 1995 and January 1996 in what is (imaginatively) known as the ‘government shutdown of ‘95 and ‘96’.

Why is this important? Well, firstly, (on a tangent, naturally) it heightened the role of fiscal conservatism in the US and inspired the likes of Paul Ryan and Rick Santorum, who will carry that torch for the next generation. Secondly (more tangent fun) it weakened the power of the GOP with them losing several seats in the House election (though retaining a majority) and helped Bob Dole to lose the 1996 Presidential election to Clinton.

But it is the third area that this become most important (sorry, I didn’t need to include the other two but I couldn’t help myself and, on reflection, aren’t you a better person for reading them?) because it showed the need for good relations between the President and a hostile Congress to bring about a budget both sides could agree on. The fact is that the US government really could cease working if a budget agreement isn’t reached. This wouldn’t look good to foreign investors (the markets are already worried) and it also wouldn’t look good for either a Republican Party recovering from a drubbing at the polls or for a President wanting to reassure voters for trusting him with 4 more years.

So what about President Bush and his tax policy? Well, in short, GWB brought in some tax codes that ensured the rich paid less without the poor gaining much in turns of life improvement (i.e. the rich and the poor both ended up paying less tax BUT the poor did not benefit because less Federal money could be spent on improving their situation in life). Before we go any further though lets not put all the blame on Bush – Obama ensured the tax cuts continued by signing an extension to them in 2010 that kept the legislation in force until December 31^st 2012.

So why is this an issue? Well, apart from there being very little tax legislation to fall back on (though most analysts think that without action the average income tax level will return to the pre-Bush 39%) Obama now has to hack out some new tax legislation with a hostile Congress that is made up of Republicans who near-religiously oppose any form of tax increase. He has to wrangle out of them an agreement to replace the current tax laws with new ones without promising any change in the tax rate, something that Obama himself is explicitly opposed to. To fail to do so will lead to Taxmageddon, with a limited tax policy and limited government operations until funding issues are resolved.

To summarize, the most obvious ‘solution’ for Obama is to agree with Congress a plan of some sort that will keep taxes at the current level, which will therefore increase spending and the budget deficit. But I think there is another solution for Obama to play with. It is a long shot but it is worth a go. Plus, once he reads this he’ll let me know all the problems with it.

Basically, Obama needs to get John Boehner (pronounced ‘Bay-nor’. I don’t know why), the Speaker of the House of Representatives and the GOP Big Dog (and third in line to the Presidency.......TANGENT) and the rest of his party to agree to a minor increase in tax revenue through closing loopholes in tax legislation. This would allow Obama to take in more money, especially from millionaires, but would also allow the Republicans to keep their election promises and avoid an overt tax rise. I don’t know the figures involved, but it would certainly bring in a bit more money and allow the amount of money borrowed to fall.

Obama, Boehner and co need to come to an amicable, face-saving decision for the good of the US and its economic muscle. Failing to do so would be irresponsible and would lead to them being perceived as weak and ineffective.