The Fiscal Cliff Deal: The Good, The Bad, and The Ugly

By a 257-167 vote the House passed the fiscal cliff deal on Tuesday. For our family the vote is a good since:

  1. Both my wife and I have mothers who are older than eighty and have estates greater than 1 million but less than 5 million.
  2. All of the other tax increases except for the resumption of normal Social Security taxes do not affect us.

The bad news is that we are reminded that even in the face of disaster, our politicians cannot vote for spending cuts. I guess we have to run the economy into the ditch to get meaningful spending cuts. After reviewing a lot of economic history, my best guess is that we have been on a down hills slide since 2000 due to our debt load. Historically the three most powerful macroeconomic stimuli that increases consumer spending have been increases in defense spending, tax cuts, and increased consumer debt. If we cannot over-stimulate the economy with all three of these at work like we had during the Bush years, we are doomed to plan B, spending cuts and debt reduction. The 2009 stimulus spending package is a grim reminder that this time it is not different. We probably went over the magic debt to GDP number that Reinhart and Rogoff  talk about in their book, This Time Is Different: Eight Centuries of Financial Folly in 2000 but it was obscured by the consumer spending tricks of the last decade.

Too bad that these consumer spending tricks no longer work. Now we are left with the ugly option.  We know from history that there is a good way and a bad way to balance the budget. As the editorial in the Wall Street Journal, The Right Way to Balance the Budget, pointed out, the " the typical unsuccessful consolidation consisted of 53% tax increases and 47% spending cuts" while the "typical successful fiscal consolidation consisted, on average, of 85% spending cuts." Here is a summary of the bill that passed. History predicts that this bill with its preference for tax increases over spending cuts will be unsuccessful at balancing the budget or improving the economy. Fixing the spending problem was left for another day.

The Senate early this morning passed H.R. 8 by a vote of 89-8 to avert the fiscal cliff.  The bill now moves to the House.  Highlights of the bill include:

  • Raise the marginal tax rate to 39.6% on income over $450,000 (joint) and $400,000 (single).
  • Raise the tax rate on dividends and long term capital gains to 20% on taxpayers with income over $450,000 (joint) and $400,000 (single).  The top rate would remain 15% for taxpayers with lower incomes.
  • Estate and gift tax:  $5 million exemption (inflation-adjusted) and 40% rate.
  • Permanent and retroactive patch for the AMT.
  • Return of the exemption and itemized deduction phase-outs on taxpayers with income over $300,000 (joint) and $250,000 (single).
  • One-year extension of 50% bonus depreciation.
  • Extension of various tax extenders.

Revenue estimates from the Congressional Budget Office and Joint Committee on Taxation score the bill as adding $3.9 billion to the deficit over ten years compared to existing (January 1, 2013) law.  The White House has released this fact sheet and statement from President Obama.

TaxProf Blog: CBO on Fiscal Cliff Deal: $1 in Spending Cuts ($15 Billion) for Every $41 in Tax Increases ($620 Billion)