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At the end of November I wrote "The Definition Of Insanity: Republicans", where in I detailed a reasonable negotiation between the Democrats and Republicans on settling the "Fiscal Cliff" issue. Well, late last night, the Senate passed a bill with 89 votes that only went part of the way.
Here are the details of the bill from the Washington Post:
There are two big issues with the current bill that will keep it from passing in the House without substantial amendments:
- The cuts to spending are too small ($15 billion) relative to $620 billion in tax hikes over the next decade, and;
- There are no measures to control future spending.
In its current form the deficit will increase in 2013 as higher taxes lead to lower economic growth. It is not just higher taxes on the "rich" but also on the middle class as the payroll tax cut expires leading to a 2% increase in taxes. The direct cost of the increase in payroll taxes will be roughly $125 billion equating to a drag of 1% on GDP alone. Slower economic growth in 2013, combined with no spending reforms, will lead to an expansion of the deficit in 2013. This is a point that is not lost on the Republican controlled House.
Furthermore, while the Republican party may have lost the election, the duly elected representatives in the House would like to keep their seats come the next elections in 2014. If they give way to a bill that once again caves to the demands of the White House, as they did in 2011, it is likely they will be replaced by their constituents.
My expectation is that in the days ahead that we will see this current bill substantially revised, passed by the House and sent back to the Senate for a vote. The back and forth is likely to weigh on the markets in the short term as the debate ensues but in the end we will likely end up not to far from where we are now - higher taxes and little spending reform. The chart below details the rough estimate of what would happen at the $250,000 threshold but the change to $400,000 should not change the analysis too much.
The good news is that the lack of spending cuts will work to offset some of the impact from "fiscal cliff" on the economy. However, it will also mean that the Fed will likely continue to be engaged in QE programs to offset the economic drag caused by increasing debt and deficit levels. While an economy running at roughly 2% for the next decade is not the "end of the world" it is also not a rate of growth that will absorb population increases or create the type of employment, and wage, growth needed to return the country back to economic health.
At some point the President, either the current or the next, will have to lead. There will come a time when our elected leaders will ultimately have to start a national conversation about the tough choices that have to be made to spending, entitlements and tax reform. It will be a conversation with America about the things that they really do not want to hear. Yet, it is in this leadership, that we can begin to face the inevitable decisions that must be made to return the country back towards a path of organic economic growth and prosperity.
Originally posted at Lance's blog: streettalklive
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