January 28, 2013

The U.S. Fiscal Cliff Redux

By Bruce Stokes, Director of Pew Global Economic Attitudes, Pew Research Center

Special to Chatham House

At the turn of the year the United States avoided careening over a fiscal cliff – which would have triggered recession-inducing automatic tax increases and spending cuts – by passing legislation that raised some taxes, but did little to cut spending. 

Decisions about deeper austerity measures and Congressional approval of raising the government’s statutory debt limit were postponed until late February/early March. On January 22 however, the Republicans put forward a bill proposing that such debt be allowed to go above the limit without incurring penalties until mid-May, giving the sides more time to negotiate. A separate agreement to avoid sequestration (that would cause major automatic cuts in defence and social spending to begin reducing the government budget deficit) is still needed by March 1.

The American public is dissatisfied with this ongoing drama. But it remains deeply divided along partisan lines about how to get the US fiscal house in order.

How Washington confronts its fiscal deadline or chooses to delay tough decisions again could have ramifications for the global economy, particularly recession-plagued Europe.

The Deal

The fiscal agreement struck between the White House and Congress at the beginning of the year did not resolve America’s fiscal challenges.

The final deal included, over the next ten years, $632 billion in tax increases, $100 billion in interest savings (thanks to less need to borrow), $33 billion in cuts in Medicare (the US health insurance plan for the elderly), Medicaid (the government health insurance for the poor) and Social Security (the public pension plan). In addition, there was $30 billion in new economic stimulus spending. In total, the package nets out at a potential $735 billion reduction in the US debt over the next decade.

Public perception

Despite the almost non-stop media coverage in the run-up to the fiscal deadline, only 38% of Americans say they ‘very closely’ followed passage of the fiscal cliff legislation, according to an early January survey by the Pew Research Center.

Moreover, the legislation itself gets only a lukewarm reception from the American public. Just three-in-ten Americans say the tax measure will mostly help people like them; 52% say it will mostly hurt; 44% say it will mostly hurt the budget deficit, while just 33% say it will mostly help. And 46% think it will hurt the national economy; only 36% say it will help.

Complicating future deliberations on the fiscal situation between the White House and Republicans in Congress, is that Republican voters take a particularly sour view of the fiscal cliff outcome: just 16% approve of the final legislation. Only 36% of Independents (who comprise more than a third of the electorate) support the plan, meanwhile, 58% of Democrats approve.

Economic hurdles remain

Positioning on the debt ceiling, automatic budget cuts and possibly new sources of revenue began in early January even before the dust had cleared from the fiscal cliff fight.

Looking ahead, Congressional Republicans will push for major cuts in spending, without any new tax increases. Congressional Democrats demand additional revenue be raised. President Obama has signaled he is willing to consider some cuts in Social Security and Medicare, but it is unclear if his Democratic colleagues in Congress will go along. Broad-based tax reform, long held out as a way to both shift the tax burden and raise revenues, seems to have lost support as its advocates on both the left and the right realize just how difficult such reform could be. Another muddle-through strategy may be the best the world can hope for from Washington in this fiscal cliff redux.

What is certain is that Americans remain sharply divided along partisan lines about their fiscal challenges. Just 23% of Americans expect Republicans and Democrats will work together more in the coming year. And whatever is decided, or not decided, in the next few weeks may have ramifications for the rest of the world.