Cliff talks: Relief in sight

President and speaker draw near to a deficit deal

Dec 22nd 2012 | WASHINGTON, DC | from the print edition

[By Greg Ip] THE housing market has turned, Europe’s crisis is apparently in remission and the Federal Reserve has pressed its monetary accelerator to the floor. Yet as 2012 draws to a close, America’s economy is still growing at an annualised rate of only around 1%. That figure has been depressed by fears of the self-inflicted “fiscal cliff”: a package of tax increases and spending cuts, worth 5% of GDP in a full year, that is set to kick in on January 2nd.

That constraint may also be finally lifting. After six weeks of shadowboxing, Barack Obama and John Boehner, the Republican speaker of the House of Represenatives, are moving towards a long-term deficit deal to avoid the cliff. In the past week Mr Boehner has relaxed his opposition to higher tax rates and has said they could rise, though only for those earning more than $1m a year. Mr Obama, who had insisted that rates should rise for anyone making more than $250,000, has now made that $400,000. Mr Boehner has also increased the tax revenue he is prepared to see gathered to $1 trillion over ten years, while Mr Obama has lowered the amount he is demanding, to $1.2 trillion.

Mr Boehner is also willing to raise the debt ceiling far enough to avoid the risk that the threat of default is used in fiscal negotiations in 2013. Mr Obama, who had previously said Social Security (pensions) were not on the table, has agreed to index benefits to a less generous measure of inflation.

Big gaps remained as The Economist went to press: the Republicans want bigger cuts to entitlements, in particular Medicare benefits (health care for the elderly). Nor is it clear that any deal the two men may strike will pass Congress. Some Republicans are pressing to pass only the tax deal Mr Obama wants, keeping rates steady on the middle class while letting them rise on the wealthy. That way, when the Treasury bumps up against the debt ceiling in February or March, Republicans could then insist on steep cuts to entitlements as the price of raising it.

Indeed, Mr Boehner is preparing a backup plan: he would pass a bill raising taxes on the $1m-plus earners only. Any deal that concerned only taxes would still leave in place many parts of the fiscal cliff, including the “sequester”, automatic spending cuts worth $110 billion per year. It would entail fiscal tightening worth nearly 3% of GDP over a full year, and continued fiscal wrangling and uncertainty.

Although significant numbers of Republicans and Democrats will probably vote against any final deal, it is looking increasingly likely to pass. But it will be far from perfect. Though Mr Obama is holding out for a bit more stimulus, the planned expiry of the payroll tax cut and the implementation of smaller austerity measures will squeeze the economy early in 2013. And in the long run, the deal will not go far enough. The two sides seem to be converging on a deal that reduces deficits by about $2.5 trillion over the next ten years from what they would otherwise be. That will not be enough to stabilise the debt level, according to the Committee for a Responsible Federal Budget, a watchdog group.

Moreover, any deal Mr Obama and Mr Boehner strike in coming days will almost certainly leave the details of tax and entitlement reform to 2013. By then, says Tom Gallagher, a policy analyst for the Scowcroft Group, the enforced bipartisanship that made the initial deal possible may well have petered out.

The original article is linked here.

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