They Can’t Be This Foolish… Can They?
by Henry Meier
When you woke up this morning or went to bed last night, you should have heard the news that Speaker of the House John Boehner failed to get “Plan B” passed. What does this mean? It means we are one step closer to a combination of spending cuts and tax increases that everyone agrees would hurt the economy. Specifically, Plan B would have increased the tax rate on Americans with $1 million or more in income. It was intended as a counter offer to President Obama, who proposed instead raising taxes on those with incomes over $450,000 in response to the House’s proposal.
What exactly is the fiscal cliff? It is a combination of automatic spending cuts and tax increases that Congress put in motion when it passed the Budget Control Act of 2011. Under this Act, unless Congress comes up with an alternative plan, a series of deficit reduction measures will be put in place to reduce $1.2 trillion of the national debt over 10 years. For example, defense spending will be cut $55 billion in 2013 and another $55 billion will be shaved from non-defense spending. In addition, the Bush-era tax cuts expire on December 31, 2011, meaning that income taxes will rise to rates of 15%, 28%, 31%, 36% and 39.6%. Currently the tax rate for the highest earners is 35%. The public debate has centered on the tax rate of the highest earners because Democrats argue that any deficit reduction package has to include revenue increases. They argue that President Obama recently won re-election arguing for just such increases and that elections have consequences. My guess is that many moderate Republicans would probably agree with them, but there is a hard-core group of so-called Conservatives in the House of Representatives’ Republican Caucus for whom any tax increases are sacrilege. In the end, these fellows would rather hang the speaker out to dry than surrender their principles and face a potential primary challenge.
So what does it matter? According to the Congressional Budget Office, if all of the fiscal tightening occurs, GDP will drop by 0.5% and the unemployment rate will rise to at least 9.1%. It projects that the economy would not start growing again until at least the fourth quarter of 2013. So it’s not surprising that European markets started the day down and I expect the stock market to go on one of its wild rides today, particularly since it makes sense to declare as much income as possible before the higher rates kick in.
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