The automatic tax increases and spending cuts that will be triggered on January 1, 2013, known as the “fiscal cliff,” are widely recognized to be bad policy.
The fiscal cliff would be bad for the overall economy. The hit on the economy would be too large and too abrupt. Numerous economic forecasters of all stripes predict that it would send the economy back into recession. Given the pre-existing threats to the U.S. economy from global fiscal and financial crises, our own extreme housing overhang and our not-yet-fully-functioning financial system, a plunge over the cliff is far too risky.
The fiscal cliff is also poor budget policy; it would needlessly worsen the efficiency of the federal government. The large across-the-board spending cut in the fiscal cliff is the wrong way to reduce agency budgets. It cuts the highest priorities just as much as the others, and it does not allow shifting funds to restructure programs in a fundamental way.
And the size of the across-the-board cut is unwise. Agency budget spending caps enacted last year already achieve virtually all of the savings that were recommended for that category by both the Bowles-Simpson National Commission on Fiscal Responsibility and Reform, and the Domenici-Rivlin Bipartisan Policy Center Debt Reduction Task Force. The appropriations well is already drained dry, but while scraping its bottom, the Congress has ignored fundamental reform of entitlements, and tax reform – which are the real problem and the ultimate solution. Congress should not go back to the dry well, but should finish its job elsewhere.
The tax-cut expirations are no better chosen. No one wants the tax policy that would result from a ride over the fiscal cliff. The American people deserve better policymaking.
And the fiscal cliff now contains two serious policy time bombs. One is the impending collision of the national debt with its statutory limit. The last such encounter, in August of 2011, netted the U.S. Treasury its first downgrade in history and shook the global financial markets. The economy is far too fragile to re-run that episode.
In addition, the inflation indexation of the individual alternative minimum tax (AMT) expired in January of 2012. If this “AMT fix” is not re-enacted, almost 30 million middle-income taxpayers, mostly with large families and from high-tax states, will face substantial tax increases. If the fate of the AMT is in doubt, the Internal Revenue Service will be unable to process as many as 60 million tax returns – or issue refunds to those taxpayers. The entire filing season could be disrupted beyond any in history.
No one expects the current “lame duck” session of Congress to solve our entire budget crisis. It is no surprise that congressional leaders do not expect meaningful work even to begin until after Thanksgiving. However, the lame duck must set in motion a credible process to address the budget problem, to justify turning off the fiscal cliff in the judgment of the American people and the financial markets.
Because of the risk to the economy, playing politics with the fiscal cliff is not acceptable. Some apparently see the rest of this year as a game of chicken in which they can score political points. But that would be a game of chicken with our children and grandchildren in the back seat. This issue has potentially catastrophic consequences. It should be handled accordingly.
So what should Members of Congress do? Resolving – that is, justifying the turning off of – the fiscal cliff will require a “framework” of three or four parts:
1. Process: This lame-duck Congress must create a process – what our partners at the Bipartisan Policy Center have called an “accelerated regular order” – for the next Congress, when it is seated in 2013, to address the long-term budget issue. The lame duck must enact a law that empowers next year’s standing Committees of the Congress to report their own budget savings bills, free of the risk of filibusters in the Senate or points of order in the House. This is not the “reconciliation” that we know from the current budget process. Reconciliation includes restrictions against non-budgetary provisions that would be necessary for fundamental reforms to our tax system or to health care. On a one-time basis, the Congress must be allowed more freedom than the regular budget reconciliation process allows.
The process needs a deadline. Some might suggest a deadline as short as three to six months. This is unrealistic. Fundamental reforms to the tax and healthcare systems will take much longer. Given that these programs generally work on one-year cycles, and that the economy is virtually certain to remain weak for at least the next year, the Congress probably should allow its entire next session – through December of 2013 – to work on the long-term budget solution.
2. Targets: The lame duck’s law must set budget savings targets for the special process in the next Congress, in amounts sufficient to stop the growth of the public debt relative to our GDP, and then to set the debt-to-GDP ratio into a gradual decline.
As noted earlier, the caps for future annual appropriations in existing law already achieve virtually all of the savings recommended by the Bowles-Simpson and Domenici-Rivlin proposals. Therefore, the savings needed must come almost exclusively from entitlement programs and new revenues. An early step in the solution next year will be to divide the target between entitlements and revenues. The lame duck need not do that now. If there were a consensus on that issue, the entire budget problem would have been settled already. Arguing over spending versus revenues would take a great deal of time, and would divert the Congress’s energy from the truly time-sensitive parts of their task.
3. A “Failsafe”: A framework of this sort typically includes a “failsafe” or “fallback” device to provide budget savings in case the Congress fails to deliver on its mandate. The ideal failsafe provision would be the ideal budget solution; but if we knew what the ideal budget solution was, we would not need a framework, and instead would enact that ideal solution immediately. So failing the ideal, a good failsafe would impose budget savings painful enough to motivate action, but not so painful that it would cease to be a credible threat. The fiscal cliff apparently has failed to constitute a credible threat, and so the track record of budget-deal failsafes is not inspiring. The Bipartisan Policy Center has recommended that an amount equal to half of the target savings come from reductions in entitlement programs (other than Social Security), and that half come from reductions in tax expenditures. The law would design an automatic process to impose those savings, probably in an across-the-board fashion.
Given that there is no prior intent that the failsafe actually should happen, it is ironic that it may prove to be one of the most contentious and time-consuming parts of any lame-duck agreement. But the Congress must recognize that the failsafe necessarily will be imperfect, and that its major purpose is to provide credibility. The Congress and the President can achieve credibility in other ways – most notably by making clear to the public that they know that failure is not an option, and that the long-term budget problem must be resolved in 2013. With a clear statement of intent by the President and the congressional leadership of both parties, the public and the markets will give those leaders the economic and financial space they need to resolve their differences.
4. A “Down Payment?” It has become the conventional wisdom in Washington that the Congress cannot avoid the fiscal cliff without providing some alternative budget savings in its place. Politics and perceptions may require such a down payment. But there are reasons for caution.
Most obviously, the fiscal cliff is dangerous because it would hit a weak economy. Alternative budget savings to replace the fiscal cliff would do the same thing. Of course, the alternative savings could be smaller or delayed; but the fundamental problem would be the same.
Still, a fair and acceptable down payment will be hard to achieve. It could even complicate the ultimate task of fundamental budget reform.
The easiest budget savings to find are promises to reduce appropriated spending in the future. As noted above, the Congress already has provided such promises in full measure. There are no more than a few additional dollars of savings from discretionary spending, defense and non-defense, to be had. Those few dollars may suffice for a down payment. But much of the remaining work will be in the much-more-complicated entitlement and tax programs.
And even there, just as a budget “big deal” must be acceptable to both parties and all sides, so a down payment must achieve the same difficult balance. It won’t be easy. Some upper-income persons have said that they would be willing to pay more taxes, but only if it is a part of a solution to the problem, including fundamental entitlement reform. Some entitlement recipients say they are willing to take a hit, but only if the wealthy pay their fair share. A recent congressional committee debate on closing tax loopholes got virtually nowhere, but while the defenders of the numerous special provisions resisted, several said that they would be more flexible in a true tax reform that seriously addressed the budget problem.
In short, recruiting volunteers to “go first” in providing budget savings is a frustrating task. No one wants to go first in providing budget savings, out of fear that the deal will break down and he or she will have gone not first, but alone.
The Congress may need to provide a down payment for political reasons. But if the issue is credibility, again, the President and the leaders of the Congress can buy that credibility with their joint commitment to stay at the bargaining table until the job is done.
If our elected policymakers, the President and the Congress, can check all of these boxes, then they will have earned the authority to turn off the fiscal cliff. The nation will breathe easier. In fact, the whole world will breathe easier. And in today’s smaller and more inter-connected world, that would be a good thing.
CED calls on the Congress to follow this framework for a safe path around the fiscal cliff. Our economy and our prosperity are at risk. It is time to put politics aside, and to address this critical challenge not as Republicans and Democrats, but as Americans.
Business leaders who have endorsed the 4-step framework in this blog post include:
Bruce K. MacLaury
The Brookings Institution
Judith H. Hamilton
Market President–Kansas City
Barbara B. Grogan
Founder and Past CEO
Western Industrial Contractors, Inc.
Joseph E. Kasputys
China Monitor, Inc.
Robert L. Bixby
The Concord Coalition
Carl T. Camden
President and CEO
Kelly Services, Inc.
Donald K. Peterson
Former Chairman and CEO
Kurt Eric Yeager
Retired CEO of EPRI and VC of the Galvin Electricity Initiative
Galvin Electricity Initiative
Chairman and CEO (Retired)
US Power Generating Company