BEYOND THE NUMBERS
It’s a Slope, Not a Cliff
It is likely that if Congress were to fail to address this issue before the end of the year , lawmakers would return in January and reach an agreement fairly quickly. The debt limit, which Congress must raise no later than early March according to our projections, might serve as a deadline for action on the fiscal cliff if public pressure hasn’t already forced an agreement. If, for example, an agreement were reached in January, we assume it would reinstate most policies retroactively, meaning that much of the effect would be reversed before the end of the quarter, reducing the overall economic effect.Both sides of the political aisle have proposed extending President Bush’s “middle-class” tax cuts for another year. The sticking point is the upper-income Bush tax cuts. GS argues that it might be easier to reach agreement once all the tax cuts have expired, “since lawmakers could claim that setting tax rates and/or revenue levels higher than 2012 would nevertheless constitute a ‘tax cut’ compared with the policies that would be in effect in January 2013.” GS goes on to argue that if policymakers appear likely to extend at least some of the tax cuts retroactively, the Treasury Department might have the flexibility to maintain tax withholding at 2012 levels for a while, which “would cushion the effect of a short lapse.” Similarly, GS observes, government agencies might be able to phase in the automatic spending cuts (the “sequester”) that the Budget Control Act requires in 2013 if a budget deal appeared likely. The fact that the economy will start down a slope in January, not plunge over a cliff, gives policymakers an opportunity to craft a responsible budget agreement in January or February if they can’t do it before then. If they seize that opportunity, the economy will be little the worse for wear as a result of the delay — and the budget outlook may be greatly improved.