Stumbling Toward The Cliff

Some time ago, I wrote a post to explain why the Congress, beyond not taking action on the “fiscal cliff” before the election, was likely not to act in any meaningful way even in a “lame duck” session at the end of the year.  Sometimes, you don’t want to be right.  But congressional actions leading up to the August recess confirm that concern.

The fiscal cliff was put there – to the extent that there was any constructive intent – to create a deadline that would force the Congress to act.  Now, the Congress is disassembling the cliff, and moving it piece by piece further down the road.  (The can that the Congress is serially kicking moves with the cliff.)  The latest development is a tentative agreement on a continuing resolution (CR) that will extend funding for the agencies of government for six months – from the end of the current fiscal year (September 30, 2012) to March 31, 2013.  (Without appropriations, we have the classic “government shutdown.”)  Before the emergence of that agreement, the smart money had said that the Congress would pass a CR only to the middle of November, adding one more reason why Congress would have to reconvene for a lame-duck session and address all of the other issues constituting the fiscal cliff.  Now, that one more reason is gone.  (The motive for this agreement apparently was that neither side wanted to bear the political or the substantive costs of a shutdown.)

The rest of the cliff remains: the tax cuts expire; the “doc fix” expires; the alternative minimum tax (AMT) expired at the beginning of this year; the new taxes in the Patient Protection and Affordable Care Act (PPACA) trigger on; and the automatic spending sequester hits.  In addition, the Treasury will begin soft contact with the debt limit sometime around the end of the calendar year.  And in one sometime forgotten element, the statutory authorization for the Temporary Assistance for Needy Families program (TANF) – the reformed version of “welfare,” per the 1996 law – expires on September 30 of this year.

It may be surprising, but many on both sides of the aisle want the Congress to ignore the cliff.  The motive for Democrats is fairly clear:  They believe that the Republicans want the upper-bracket tax cuts so much that their expiration on January 1, 2013 will yield bargaining leverage (see the speech by Senator Patty Murray (D-WA), and the column by former Governor Jennifer Granholm (D-MI)).  However, even Republicans are speaking affirmatively, but quietly, about the prospect.  The Republican motive also is clear:  They believe that they will sweep the White House, the Senate, and the House in November, and that (per the explanation in my earlier post) they will be able to finesse the drop off the cliff in early January, and quickly thereafter will be able to solve the budget problem all their way.  From that perspective, declarations in early November, immediately after the election, will de-fuse public concerns about the cliff, and head off economic damage.

This is a game of high-stakes poker – and standards of behavior in this town have deteriorated so much that you cannot win at poker anymore unless you are willing to put your children on the table.  Democrats potentially would have to allow the substantial tax cuts for low- and moderate-income families – an increase in the child tax credit, for example – to expire.  Even TANF payments, for families of even lower income, could suffer.

At least on the Republican side, this brinkmanship is based on a hope for an election sweep.  As I explained in the earlier post, even a narrow Senate majority could – with party discipline – pass a bill that would include much of that majority’s budget agenda.  With a president who would sign it, and retaining control of the House, the Republicans could enact sweeping changes into law.  The Democrats could do the same, assuming what the pundits likely would say is a less probable sweep for their own candidates.

Given CED’s belief that both spending cuts and tax increases are necessary to solve the budget problem (and our policy recommendations to do so), no my-way-or-the-highway approach is attractive.  Is there a plausible scenario for a happier ending?  Yes, but it requires behavior that is somewhat beyond recent standards.

Assume a split decision in November:  Neither party controls all three levers of the Executive and Legislative branches.  And assume that the leaders of both parties read the handwriting on the wall, as dust-covered as it is, and conclude that the can cannot be kicked down the road for one more election.  In particular, the party that loses the White House realizes that it must wait four years, not just two, before its bargaining position can be significantly stronger.  So those congressional and executive leaders realize – and say publicly, in however muffled and guarded terms – that the problem must be solved in 2013, by the players then on the field, and that neither side possibly can claim a political win over the outcome.  The lame-duck Congress prepares the field, understanding that there is no further advantage to be gained by allowing the tax cuts to expire and the automatic spending cuts to occur.  The financial markets take the hint, and give the newly elected policymakers breathing space well into 2013.  The negotiators bargain a painful and unsatisfying – but economically successful – deal over the course of the next calendar year, and we all optimize happily ever after.

No one will write a ballet to this scenario.  (An opera, maybe.  Are you reading this, John Adams?)  It will not be good for Democrats or Republicans.  But it might be good for America.

In later posts, I will explain what the lame-duck Congress will have to do to make this happy ending come true, and what the economic consequences might be.  Enjoy your summer.

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