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A cliffhanger

The road signs have been visible for months; they all say, "Danger: Cliff Ahead."

Yet nothing has been done in Washington to prevent the nation from hurtling over the precipice come January. And the odds of action before the Nov. 6 election are, well, zero-which would leave a matter of weeks to strike an agreement.

No one knows precisely what would happen to the U.S. economy if we don’t avoid the fiscal cliff, also referred to as Taxmageddon. There’s really no precedent for the fiscal contraction that would be produced by the expiration of the Bush-era tax cuts, extended jobless benefits and the payroll-tax holiday, plus sharp reductions in Medicare payment rates and other across-the-board spending cuts.

Former Federal Reserve vice chairman Alan Blinder, who may have naming rights to "fiscal cliff," has estimated that the contraction could amount to 3.5 percent of gross domestic product.

This week, the Congressional Budget Office delivered what’s likely to be the last non-partisan analysis before the November election. Its blunt assessment: Unless Congress and the president act, the U.S. economy will drop back into recession next year.

The CBO projects real GDP falling 0.5 percent from the fourth quarter of 2012 to the final quarter of 2013-with a 2.9 percent drop in the first half of next year, followed by a rebound in the second half-and the unemployment rate jumping to around 9 percent.

Avoiding the cliff, which most observers think (or hope) will happen at the 11th hour, would have its own consequences. Instead of dropping more than 40 percent next year, the federal deficit would remain over $1 trillion for the fifth year in a row. And by 2018, the current mix of historically low taxes and high spending would seriously damage growth.

"Ultimately," the CBO notes, "(this) scenario would lead to a level of federal debt that would be unsustainable from both a budgetary and an economic perspective."

There is, thankfully, a third possible scenario. It would combine relatively short-term steps to prevent a cliff drop with serious tax and spending reforms that over multiple years would restore fiscal sanity.

It could happen; it should happen. But don’t expect to know if it will happen until the very last minute.

8/24/12 (c) 2012 Rochester Business Journal. To obtain permission to reprint this article, call 585-546-8303 or email rbj@rbj.net.


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