Why the Fiscal Cliff Deal Is Pathetic

By  for Investment Contrarians | Jan 3, 2013

Fiscal Cliff Deal Is PatheticWhen it comes to making an economic forecast for the U.S. economy in 2013, a huge stumbling block was the uncertainty prior to the deal to avert the fiscal cliff. The just-announced new deal to avert the fiscal cliff is absolutely pathetic and will not accomplish what many were hoping for; a comprehensive long-term deal to lower the U.S. budget deficit and create an environment that will foster long-term gross domestic product (GDP) growth.

The level of uncertainty has recently started to impact consumers. The impact on consumer confidence was noted during the latest Conference Board Index in which consumer confidence fell six percent to 65.1 in December from November, the lowest since August 2012. (Source: “The Conference Board Consumer Confidence Index® Declines,” The Conference Board, December 27, 2012.)

GDP growth is heavily dependent on consumer confidence. Since the majority of the U.S. GDP growth is based on consumer spending, any pullback in confidence by consumer is a worrying sign, with its potential for lowering an economic forecast for 2013.

An interesting dynamic was that consumers assessed that current conditions improved in December from the previous month. Business conditions rose to 17.1% from 14.6% the previous month; however, expectations for business conditions over the next six months declined to 17.6% from 21.3%.

This might seem contradictory, but it really shows that while the current economy is somewhat improving, the political grandstanding and ineptitude to avert the fiscal cliff have been increasing concerns for the future GDP growth of the American economy. This type of uncertainty will certainly put a damper on any economic forecast.

This new compromised deal has plenty of tax hikes but, essentially, no real spending cuts, which have been postponed, instead of resolved. This is the worst-case scenario; politicians hiking taxes that will bring in some marginal revenue to pay for an ever-larger government bureaucracy.

We all know that the problem of the budget deficit is government spending, not revenue. This deal did nothing to solve the most important problem: reducing long-term government spending. By postponing the hard part, which is cutting government expenditures, this administration did nothing but pander to their voters, adding to the long-term problems of generating strong GDP growth for America.

According to the Congressional Budget Office (CBO), for every one dollar that was cut from the budget, this deal increases taxes by $41.00—a shockingly one-sided agreement. The CBO estimates that this deal will add $3.9 trillion to the budget deficit over the next 10 years. This deal is not only absolutely pathetic, but it also fails in every meaningful way to generate structural reforms necessary for long-term GDP growth in America. (Source: “Estimates of the Budgetary Effects of H.R. 8, the American Taxpayer Relief act of 2012,” Congressional Budget Office, January 1, 2013.)

In two months, the delayed spending cuts, approximately $110 billion, will again be on the table for discussion. This failure to address the structural reforms in spending will certainly impact any long-term economic forecast for GDP growth.

Higher tax rates were what Democrats wanted to help pay for a larger government, and they got them. While many are pointing to the headline figure of $400,000 per individual as the threshold for increases, the truth is that more than 80% of people making $50,000–$200,000 will pay higher taxes, an average increase of $1,635, according to the nonpartisan Tax Policy Center. (Source: “Senate-Passed Deal Means Higher Tax on 77% of Households,” Bloomberg, January 1, 2013.)

GDP growth is already being affected by mass confusion among many companies, both directly and indirectly in the firing line, that are having trouble making an economic forecast. As an example, the Pentagon plans to notify 800,000 employees that they might be forced to take several weeks of unpaid leave, which will increase uncertainty about the future GDP growth potential. (Source: “Unthinkable Cuts Almost a Reality,” Wall Street Journal, December 30, 2012.)

A far worse situation is that the White House has not formally told how the cuts will be issued, confusing matters even more. Federal agencies and contractors, at this point, have no way of knowing, for sure, exactly how much of their departments will be cut, or if they’ll even be cut at all. This is leaving hundreds of thousands of employees and numerous businesses completely in the dark about what’s in store for 2013 and beyond.

This type of uncertainty is ridiculous, and it is certainly causing a drag on GDP growth. No one can make an educated economic forecast with this type of vagueness. Now that it appears that this bill will pass, what we do know is that 2013 will be a year with higher taxes and an unknown amount of spending cuts.

At the moment, spending cuts are essentially nothing in comparison to the tax hikes. What this means is more questions over the future viability of America’s GDP growth potential. As the debt grows ever higher, this continues to raise concerns about the economic forecast for America’s economy.

The U.S. is taking the European road, hiking taxes on the majority of the public without reducing the size of the government. We all know how the poor European model works; why does this administration want to go down this path?

For me, I can only consider downgrading my economic forecast for America’s GDP growth potential, as economies that have a growing government sector and policies that punish successful private businesses tend to underperform over time.




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