The ﬁscal cliff: Its many paths to a family’s ﬁnancial ruin
Good news! According to the Federal Reserve’s September “central tendency” forecast, the U.S. economy’s outlook for 2013 has improved. Next year should see real GDP expand within the range of 2.5 percent to 3.0 percent after a disappointing 2012, which the Fed crystal-ballers expect to come in at about 1.7 percent to 2.0 percent. And with that 2013 economic growth rate the Fed believes the nation’s unemployment rate will drop to somewhere within the range of 7.6 percent to 7.9 percent. All-in-all, not a bad outlook.
Bad news? A month earlier the Congressional Budget Office released their projections regarding the 2013 economic outlook and there was a modest difference. According to the CBO, the U.S. economy could experience a recession in 2013, with GDP falling by nearly 3 percent in the year’s first half before registering a modest pickup in the second half. For the overall year (from fourth quarter, 2012 through fourth quarter, 2013), real GDP would drop by 0.5 percent and the unemployment rate would average 9.1 percent during the fourth quarter of 2013.
So what gives? How can there be such a monstrous difference in the forecasts of these two government institutions?
In one case — the Federal Reserve projections — the impact of the so-called “fiscal cliff” seems to be ignored, while in the other case — the CBO outlook — we are given a peak into the consequences of government paralysis should politicians allow the nation to tumble over the fiscal cliff.
While many of us have probably heard about the economic apocalypse that occurs at year’s end, it may be vitally important to understand some of its various elements. Perhaps some aspects of the fiscal cliff will be “fixed” while others may well be allowed to automatically take place and put downward pressure on the economy.
Included among the major components of the changes which could severely impact the finances of American families that automatically take place on Jan. 1 of next year without Congressional/Presidential approval are the following:
• All Bush-era income tax rate reductions enacted in 2001 will come to an end and tax rates for the vast majority of those paying federal income taxes will rise significantly.
• Some high income groups will lose (in part or in full) some deductions or exemptions in determining federal income tax obligations.
• The child care tax credit will fall to $500 per child from $1000.
• The American Opportunity Tax Credit (one path to use when financing a college education) will expire.
• The expansion of eligibility for some individuals currently obtaining funds through the Earned Income Tax Credit will end.
• A temporary marriage tax penalty relief program will expire.
• The payroll tax holiday which reduced the Social Security tax rate paid by individuals from 6.2 percent to 4.2 percent over the past two years will expire, thereby immediately reducing after-tax income of working Americans paying into the Social Security System by 2 percentage points.
• All federal extended unemployment benefits will come to an end and the maximum number of weeks a person can obtain benefits will drop to 26 weeks.
• The Medicare “doc fix” for primary care physicians will end and reimbursement rates provided by the federal government will drop by an estimated 27.4 percent, causing some family physicians to restrict/stop accepting Medicare patients.
Taken together the above automatic changes (which do not represent all aspects of the fiscal cliff) amount to a nearly $500 billion hit, or approximately 3 percent of GDP. Is it any wonder that the CBO 2013 outlook, which assumes all aspects of the fiscal cliff are implemented, is so much more depressing than the Fed’s outlook, which seems to ignore all of the above.
But the cliff goes even further. Under provisions of the Budget Control Act of 2011, some $1.2 trillion in automatic spending cuts must take place over the 10 years between 2012 and 2021 (inclusive). In an effort to put the pain off until after the 2012 elections, politicians set the cuts at zero for 2012; with 2013 being the first year for a bite out of federal spending. Total automatic expenditure reductions will be about $110 billion next year, with half from impacted defense budgets and half from impacted non-defense budgets (which excludes some entitlement programs).
So there you have it. Take your best guess as to what may happen. After all, there are many paths to economic perdition.
Dr. James Newton serves as chief economic advisor to Commerce National Bank and is an auxiliary faculty member in economics and statistics at OSU-Marion and OSU-Newark. Dr. Newton’s views do not necessarily reflect those of Commerce National Bank or OSU-Marion/Newark.