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January 3, 2013

Fiscal Cliff Deal: Bush Tax Cuts vs. Obama Tax Cuts

The euphoria surrounding the Fiscal Cliff issue has sidelined the origin of the entire debate which was a professed desire to reduce swollen federal deficits. By a vote of 257 to 167, the Republican-controlled House of Representatives approved a bill that fulfills President Barack Obama’s re-election promise to raise taxes on top earners without touching the spending cuts“It’s unbelievable that what you see in there is more spending as opposed to less spending,” said Rob Wood all, a Georgia Republican, about the Senate-passed bill. 
The US seemingly, will no longer go over the Fiscal Cliff of tax increases and spending reductions that had been due to come into force on Tuesday but other bruising budget battles lay ahead in the next two months. The bill passed today will be backdated as strictly speaking, the United States went over the Fiscal Cliff in the first minutes of the New Year because Congress failed to act on time. The US has simply but successfully “kicked the can down the road” again to a later date. As alerted, The “Cure” has proven to be Worse than the Disease. The bill passed by the US Senate to avoid the Fiscal Cliff automatic steep tax hikes and across-the-board spending cuts, seems to have done just that.
The legislation would add nearly $4 trillion to federal deficits over a decade compared to the debt reduction envisioned in the extreme scenario of the Fiscal Cliff. The Bush era Tax cuts have been replaced by new Tax cuts by Obama which will raise the budget deficit over the next decade by $4 trillion which at the same time paradoxically also hiked taxes on nearly three quarters of Americans with an emphasis on the wealthiest 1%. This is largely because it extends low income tax rates for nearly every American except the relative handful above the $400,000 threshold & also because it put off for at least two months the automatic budget cuts which were part of the Fiscal Cliff and would have saved about $109 billion in federal spending on defense and non-defense programs alike. 
The plan will make the George W. Bush era income tax cuts permanent for most workers while letting them expire for top earners. The legislation also would kill the part of Obama’s 2010 Affordable Care Act designed to let millions of elderly and disabled people get help at home rather than be placed in institutional care, which tends to be more expensive. What remains to be seen is what happens to the now-delayed “automatic” spending cuts & including whether Obama follows through on reductions in outlays. It is very likely that an even more heated fight in late February will occur when the Treasury Department must come to Congress to seek an increase in the government’s borrowing limit. 
Thankfully, the one thing lawmakers did not slide into the legislation: a raise for themselves. The Senate bill says members of Congress will get no cost-of-living adjustment in their pay for fiscal year 2013. Today’s vote was a reversal for House Republicans, who were in disarray despite winning deep spending cuts in earlier budget fights. But they saw their leverage slip away this time when they were unable to unite behind any alternative to Obama’s proposal. House Speaker John Boehner and other Republican House leaders stayed silent during the debate on the House floor, an unusual move for a major vote. Boehner backed the deal, but many of his top lieutenants voted against it. The Fiscal Cliff deal shatters two decades of Republican anti-tax orthodoxy by raising rates on the wealthiest even as it makes cuts for everybody else permanent.
Speaking shortly after the Fiscal Cliff deal vote, Obama said he hoped future deals would “not scare the heck out of folks quite as much.” At the same time, he told Republicans that he expected them to approve an increase in the nation’s borrowing authority without the brinksmanship that has marked other showdowns. “While I will negotiate over many things, I will not have another debate with this Congress about whether or not they should pay the bills they have already racked up,” he said, as reported by Reuters. “This law is just one step in the broader effort to strengthen our economy,” Obama said at the White House.

Has the Fiscal Cliff deal served any Constructive Purpose?

The Fiscal Cliff issue originated during a struggle between Obama and Republicans over raising the federal debt ceiling above $14.5 trillion. That struggle ended in August, 2011 with a bipartisan deal designed to scare Congress into legislating significant long-term cuts in federal spending. The idea was that by setting a strict deadline of January 2, 2013 and dire consequences in the form of draconian spending cuts for failing to meet it, the White House and Congress would be forced into action. Coincidentally, low tax rates that originated during the administration of President George W. Bush were also set to expire on December 31, making the prospect of inaction so threatening that the Congressional Budget Office determined that failure to intervene could cause a new recession. 
But the controversy over taxes, coming on the heels of a presidential campaign built around Obama’s demand for middle-class tax justice, ultimately consumed the argument over the Fiscal Cliff, leaving deficit reduction as the forgotten issue, reported Reuters. The US Senate today packed an eclectic mix of handouts and take-backs into its last-minute deal to avoid the Fiscal Cliff, including a measure to repeal part of President Barack Obama’s signature healthcare overhaul and a string of special interest tax breaks. The Republicans abandoned their effort to attach spending cuts that would have been rejected by the Senate.

Markets rise on Fiscal Cliff Deal:

Stock Markets rose after announcement of the Fiscal Cliff deal today. The most unfortunate thing about these markets is that fresh entrants look at such incidents to make new entries. Unfortunately, while we look at buying most things when there is a SALE going on, most market participants look at declines as time to exit & take fresh positions when markets are at a premium. I have earlier warned about these bouts of Illusions of Improvements in the Forecast for 2013. Read more on Economic Forecast 2013.
By going over the fiscal cliff, the CBO had previously forecast that the higher taxes and lower spending would slash the fiscal 2013 U.S. budget deficit by more than half, to $641 billion from $1.1 trillion the prior year. But in its analysis of the Senate-passed plan, the CBO said fiscal 2013 revenues would be $280 billion lower and spending $50 billion higher, resulting in a $330 billion deficit increase, for a total deficit of around $971 billion. Under the CBO’s keep-taxes-unchanged scenario, the deficit would be $1.04 trillion for fiscal 2013.

Fiscal Cliff Tax hikes:

The budget deal passed by the U.S. Senate today would raise taxes on 77.1% of U.S. households, mostly because of the expiration of a payroll tax cut, according to preliminary estimates from the nonpartisan Tax Policy Center in Washington. More than 80% of households with incomes between $50,000 and $200,000 would pay higher taxes. Among the households facing higher taxes, the average increase would be $1,635, the policy center said. The heaviest new burdens in 2013, compared with 2012, would fall on top earners, who would face higher rates on income, capital gains, dividends and estates. 
The top 1% of taxpayers, or those with incomes over $506,210, would pay an average of $73,633 more in taxes. Much of that burden is concentrated at the very top of the income scale. The top 0.1% of taxpayers, those with incomes over about $2.7 million, would pay an average of $443,910 more, reducing their after-tax incomes by 8.4%. They would pay 26% of the additional taxes imposed by the legislation. 
Among households with incomes between $500,000 and $1 million, taxes would go up by an average of $14,812, as reported by Bloomberg. The bill, being discussed by House members today, would raise the top tax rate to 39.6% from 35% last year, starting with income over $400,000 for individuals and $450,000 for married couples. The top tax rates on capital gains and dividends would go up to 23.8%, from 15% last year. The new rate includes a 3.8% tax from the 2010 health-care law that took effect today. The Tax Policy Center’s definition of income is a gross measure that includes items such as the employer’s share of payroll taxes, making it larger for many households than the adjusted gross income shown on tax returns.

With Fiscal Cliff out of the way – Debt Ceiling gets into focus:

The final days of the drama surrounding the so-called Fiscal Cliff of scheduled tax increases and spending cuts illustrated the partisan struggle that has made U.S.budget policy unpredictable and prone to crises as deadlines approach. Obama wielded the leverage he gained in his Nov. 6 re-election, securing most of the tax increases he sought without sacrificing the spending he had offered to Republicans in hopes of a larger deficit-reduction grand bargain. 
The last minute deal in fact, forced John Boehner to accept a deal that contained fewer of the Republican priorities he could have gotten by accepting what Obama was offering on Dec 17. The Republicans immediately turned to their next battle, a bid to use the need to raise the nation’s $16.4 trillion Debt Ceiling to force Obama to accept cuts in entitlement programs such as Medicare. Congress must act as early as mid-February to prevent a default and the dispute may reprise a similar 2011 episode that led to the US Credit Rating downgrade. 
“Without meaningful reform of entitlements, real spending controls, and a fairer, cleaner tax code, our debt will continue to grow, and our economy will continue to stumble,” Boehner said in a statement after the vote. Obama said he’s “very open to compromise.” Medicare spending can be reduced, he said, yet “we can’t simply cut our way to prosperity.”
Posted by Speaker Boehner Press Office - January 1, 2013 - Press Release
 House Speaker John Boehner (R-OH) issued the following statement following passage of the Senate agreement on the fiscal cliff:
“The federal government has a spending problem that has led to a $16 trillion national debt that threatens our country’s future.  On the day after the election, I proposed that both parties work together to avert the fiscal cliff in a manner that would ensure 2013 is the year we finally enact entitlement reform and pro-growth tax reform to begin to solve our country’s debt problem.
“Now the focus turns to spending.  The American people re-elected a Republican majority in the House, and we will use it in 2013 to hold the president accountable for the ‘balanced’ approach he promised, meaning significant spending cuts and reforms to the entitlement programs that are driving our country deeper and deeper into debt. 
“Without meaningful reform of entitlements, real spending controls, and a fairer, cleaner tax code, our debt will continue to grow, and our economy will continue to stumble.  Republicans stand for a stronger, more prosperous America, rich in opportunity and free of the debt that threatens our children’s future.  On this New Year’s Day, we renew our commitment to that vision, humbled by the opportunity to serve.”

Courtesy CommodityTradeMantra.com - Comprehensive market intelligence (EconMatters author archive here

The views and opinions expressed herein are the author's own, and do not necessarily reflect those of EconMatters.

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