The Goverment's "Year End Cliff" Gamble On 2% Of GDP And 10% Of Disposable Income

Tyler Durden's picture

With mid-term elections a month and a half away, and the expiration of the Bush tax cuts approaching at a rapid pace, the stakes for Obama's dwindling administration on the tax cut extension issue loom. And as Goldman's Alec Phillips demonstrates, the costs of either decision are huge: on one hand, should Obama go ahead and relent to extending all the tax cuts, he will almost guaranteed not be around for a second term due to the avalanche of disappointment in his electorate as he relents on this key promise. On the other hand, should he and the republicans be unable to find a compromise and all tax cuts expire, the impact to the economy could be so vast that America's breezy depression will become a full blown hurricane, possibly worse than anything the nation has ever seen. Phillips' succinct summary of the downside case is as follows: "Letting all of these provisions expire would subtract nearly 10 percentage points from annualized disposable income growth in Q1 2011, which could translate into a nearly 2 percentage point decline in final demand and nearly that large a drag on GDP in the first half of 2011." And it is not just the Bush cuts that are at steak: the year end "cliff" also sees the expiration of the “Making Work Pay” (MWP) payroll tax credit enacted in ARRA, and the relief from the alternative minimum tax (AMT). Yet with such key tax "experts" in the administration as Romer, Orszag and now Summers all gone, Obama will be very much clueless to evaluate the dramatic impact of all these "cliff" developments until it is likely too late. One thing is certain: if a stalemate prevails, GDP for H1 of 2011 will be wildly negative. The summary of the case by case impact can be seen on the chart below.

More from Phillips who succinctly presents the various alternatives before the economy.

The exhibit above illustrates the effect on the annualized level of disposable income from four potential policy scenarios, starting with a baseline assumption of pre-2009 fiscal policy:

1. Our base case. As noted above, our forecast assumes that the middle-income tax cuts and the making work pay credit are extended, along with the patch of the AMT that Congress passes routinely, but that the upper income tax cuts and expanded unemployment benefits expire. This results in a gradual phase-down of the support to disposable income provided by these provisions over the next year or so, from roughly $167bn (annualized) in Q3 2010 to only $7bn by Q3 2011.

2. A legislative stalemate.   A significant downside risk to our forecast for early 2011 is the possibility that Congress fails to extend even the broadly supported portion of the tax cuts before they expire at year end. This would occur most likely because of a political impasse in the Senate.  This would mean that, in addition to the expirations in our base case, Congress fails to extend even the middle-income tax cuts, the MWP credit, and routine relief from the AMT. For simplicity, the exhibit above shows the effect of a permanent lapse in these provisions, though in all likelihood if the middle-income tax cuts and AMT patch were to lapse it would only be for a couple of months.

3. “All of the above.” The opposite of the stalemate scenario, this assumes that all of the expiring provisions are extended. This could come about if congressional Democrats dropped their opposition to extending the higher-income tax cuts, and Republicans agreed to extend the MWP credit and expanded unemployment benefits (without offsetting savings) in return.  While perhaps not the most likely scenario, we nevertheless see some version of this as a reasonable possibility. We suspect some congressional Democrats would be willing to support an extension of the upper income tax cuts if that were the price to be paid to extend unemployment benefits, and at least a few Republicans might find it politically difficult to object to renewing the expanded unemployment benefits while simultaneously supporting an extension of upper income tax cuts that cost roughly the same amount each year.

4. A compromise on upper-income rates.  This scenario would involve an extension of all of the 2001/2003 tax cuts, but not the MWP credit or a renewal expanded unemployment benefits.   With a limited number of Senate Democrats expressing concerns about the economic effects of letting the upper-income tax cuts expire and little discussion thus far of extending the MWP credit, such an outcome is at least plausible. We include it also to illustrate that the effect on disposable income of extending the upper income tax cuts, but not the tax relief enacted in ARRA, wouldn’t be all that different from our base case.

Beyond the legislative outcome, there are a few other considerations in terms of how the fiscal debate will play out and what effect it may have:

1. Shades of gray on upper income tax cuts.  Whether to extend the upper-income tax cuts may not necessarily as black-and-white a proposition as the public debate has made out to be. While the president proposes limiting the extension of tax cuts to incomes under $250,000, Congress could setle on a higher threshold, potentially as high as $1 million. Given that Senate Democrats need to find only a few Republican votes to reach the 60 votes necessary, a few targeted changes to the president’s proposal could be enough to attract the additional support needed. The budget consequences of either threshold would be similar; Joint Tax Committee estimates imply that about 80% of the cost of extending upper-income provisions relates to the treatment of annual income over $1 million.

2. Even a short term lapse could have a sharply negative effect.  In the stalemate scenario we outline above, disposable income could decline by nearly 10% at an annual rate in Q1 2011. This assumes that the effect of increased withholding is spread equally over the four quarters, that the increased tax settlements as a result of the expiration of AMT relief are dividend between Q1 and Q2, and that unemployment benefits taper off gradually from Q4 2010 through Q2 2011. Excluding the expiration of AMT relief would cut the effect by half, but this would still result in significant pressure on incomes, and thus potentially on personal consumption.  To put this in perspective, even if we assume that consumers passed only one-fourth of the reduction in disposable income that would result from a political stalemate through to spending behavior, the loss of income could still result in a reduction in final demand growth of nearly 2 percentage points (the impact to GDP growth would be slightly smaller, after accounting for the fact that some of this demand would have come from  imports and inventories). The upshot is that even a temporary lapse would essentially wipe out most of the modest growth we expect in the first half of 2011.

3. Some taxpayers may look through a temporary lapse, but others may have limited options to smooth consumption.  The effect of a lapse on consumers depends on whether they perceive an increase in tax withholding as temporary. On the first, we suspect that many middle- and higher income taxpayers would not respond significantly to a temporary increase in withholding, as they are more likely to have assets and credit to draw on to smooth any temporary cash flow effects. Taxpayers at the lower end of the income spectrum may not have these advantages, and thus may be more susceptible to even a temporary cash flow disruption.

4. The administration has room to maneuver, if it chooses to use it. While only Congress can change the tax laws, the Treasury does have authority over the specifics of how those taxes are collected, including calculating the withholding tables used by employers to deduct taxes from each paycheck.  In theory, this could be used to avoid a significant disruption in early 2011. However, before delaying a change in withholding the Treasury would probably need to have some certainty that at least the bulk of the tax cuts were very likely to be extended in order to delay a change in withholding. Otherwise, taxpayers would face an even sharper reduction in income later.

5. Multiple deadlines: November, December, April.  Ideally, Congress would enact an extension before it leaves for the midterm election, but this appears very unlikely. Payroll processors have indicated that they would likely to finalize plans for next year’s withholding by November. That said, we suspect that if Congress were to pass an extension of expiring tax provisions by mid-December, the Treasury could process new withholding tables quickly enough to avoid impacting January paychecks.  The final and truly binding deadline doesn’t come until April, when tax returns for 2010 are due. In the unlikely event that Congress were to fail to patch the AMT by then, taxpayers in the $150,000 to $500,000 income range would face an unexpected and substantial tax bill.

The process of extending the expiring tax cuts looks likely to begin in earnest this week, with the potential introduction of legislation in the Senate that largely mirrors the president’s proposal. However, enactment of legislation to extend the tax cuts isn’t likely until December. Until then, uncertainty around the fate of the expiring tax cuts as well as other expiring provisions is apt to continue.

For all who are still confused about what all the various tax expiration alternatives represent, here is a great interactive chart summarizing everything under consideration.

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FischerBlack's picture

Progressive redistribution, bitchez.

BobWatNorCal's picture

"And it is not just the Bush cuts that are at steak..."

Mmmm. Steak.

tip e. canoe's picture

"Mmmm. Steak."

i'll take mine bloody please.

Problem Is's picture

"Mmmm. Steak."

Charred rare, please...

Pool Shark's picture

"A hot steak's better than a cold chop."

CrazyCooter's picture

"Read my lips. No. Old. Taxes."

Isn't this a re-run?


hedgeless_horseman's picture

I was fine until I read, "key tax "experts" in the administration as Romer, Orszag and now Summers."  I need to get another drink.  Stronger.

Nice chart.

Lux Fiat's picture

Geithner came to mind when I read that line.  To bad he's not following in Summer's footsteps. 

tip e. canoe's picture

actually tiny tim is in the right place & the right go down with the ship with his homey.

baserunr's picture

Who in the pool had "Geithner" as the last of those four to remain standing?  Like some wag used to say, "I'd rather be lucky than good!"  Fits Timmah to a "T"!

Snidley Whipsnae's picture

Why should Tim care about tax cuts? He doesn't pay taxes anyway...unless he gets caught.

A Clear thinker's picture

I have to wonder why government confiscation of liberty and property would have been so misunderstood, and its implications. The only conclusion I can understand is the misunderstanding of Inalienable rights, means just that.

TexasAggie's picture

I really wonder what they smoke or use in DC. If we get to keep some of our money, it must be paid for.  So at what level in DC is it your own money?  Oh! I forgot, as a decorat said in 1972, you should thank us for letting you keep some of your money. 

So when will the demorats try what is being proposed in England. Employers would send your money (Paycheck) to the treasury and they would determine how much you needed and direct deposit that amt into your bank account.

TexasAggie's picture

I really wonder what they smoke or use in DC. If we get to keep some of our money, it must be paid for.  So at what level in DC is it your own money?  Oh! I forgot, as a decorat said in 1972, you should thank us for letting you keep some of your money. 

So when will the demorats try what is being proposed in England. Employers would send your money (Paycheck) to the treasury and they would determine how much you needed and direct deposit that amt into your bank account.

Voluntary Exchange's picture

Any monopoly government (adjudication and protection "service" providers not subject to competition and voluntary exchange constraints in a free competitive market) will become the tool of the predatory over time. Predators have no use for "inalienable rights" and will always redefine them away as they don't want limits to their powers obstructing their predation schemes. Solution: always maintain a free market in adjudication and protection services. Never consent to being "taxed" ever under any circumstances. Always maintain the "power of the purse" to purchase your "government" type services from a non-monopoly provider. Maintain your freedom to choose what you want to use for "money". Finally, teach future generations  to maintain the free market system by doing the above.


See: "The Myth of the Rule of Law" - .

Not For Reuse's picture

yes the tax code will truly make a difference

soliton's picture

Tax the richest  (>2 mil per year), should be good enough for me!

The getting fat at the trough thing must stop !!!


StychoKiller's picture

So, let's say that the small business person making $2.1Million sees the raise in taxes, cannot afford it and closes up shop, sending 20+ employees to the unemployment line -- still sound like a good idea to you?

sethco's picture

so he puts money that might otherwise be income back into the business, more investment, creating more jobs, etc. etc. Now the company is more valuable if he wants to sell it.

Stop parroting talking points. This one is particularly idiotic.

Implicit simplicit's picture

The dividend and capital gains tax change would have a direct negative effect on stock investors. There would be a run for the door to capture the lower rate of 2010.

rosiescenario's picture

...and the door might prove too narrow, especially with 70% of the market volume due to computer trading programs.

Our investment group has already begun selling some major assets this year because we fear what might be in store tax wise next year...I am sure we are not alone in trying to dodge that risk to some extent.

frankTHE COIN's picture

Uncle Ben can't help you now.

FischerBlack's picture

Tyler, please work your magic and post a copy of this report they're talking about:

lsbumblebee's picture

I figure that the 20% of eligible voters that do choose to vote will be so pissed off that they will vote for the lesser of two evils.

After the polls have closed, we can all watch the results on corporate teevee, and wonder if the voting machines have been tampered with.

tip e. canoe's picture

there is a way to fuck with the voting machines in a perfectly legal way...write in a candidate...and don't take no for an answer.

johnnyBoy's picture

And it is not just the Bush "cuts" that are at "steak."  There's a joke here or an "F" for spelling.

Voluntary Exchange's picture

Why not vegetarian: no cuts of any "steak", as no taxes to begin with, only voluntary exchanges?

Prof Gulliver's picture

What a load of bullshit. It's Goldman talking their book, their own interests. "subtract nearly 10 percentage points from annualized disposable income growth in Q1 2011." Even Goldman's bullshit is bullshit. Maybe it would subtract that amount of disposable income growth from the criminalistas in Goldman HQ, but nowhere else.

pyite's picture

ZZZZZ, you guys all sound like Chicken Little.  When the Bush tax cuts came into effect, most people didn't even notice.  Anything we can do to get the government in a better fiscal position is worth doing.

The core problem with our economy is unpayable debt - especially over-the-counter derivatives.  Borrowing yet more money to try to buy the election is not going to help.  We need to embrace the deflation and make bankruptcy proceedings quick & easy (and the same for "resolutions").  Put derivative claims behind bondholder claims.


A Clear thinker's picture

I'm not sure you see the issue being discussed. What is the limit of confiscation, what is the constitutional authority to confiscate liberty and property?



Voluntary Exchange's picture

For a majority of the minds that formulated that constitution, they thought that it was clear that there was no such authority to confiscate but because they contained within their agreement the self-contradictory principle of the power to "tax" and enforce the "tax", (the very basis of the power to unilaterally confiscate that keeps the system outside the naturally regulating powers of a genuinely free market of the "services" they were trying to institute), they could not prevent others  from later usurping such authority and eventually multiplying the power to do so. Can you consider that this will always happen no matter what constitution you start with if a grant of monopoly power of "adjudication" and/or "security" provision within a jurisdiction is part of the system instituted? Do you understand that I, as a free person, am not bound by such an agreement with so serious a defect in its institution? (I was not a party to the "contract", were you? ) Do you consider that it is possible to have a orderly society within a system of a "free market" for adjudication and security services?  If not, how carefully have you weighed the evidence against your position?   Are you familiar with Irish law before the conquest by the British?

Max Hunter's picture


Our constitution says NO DIRECT taxes. They were wise. They knew if the government could tax our labor then they (gubment) would grow too big and powerful and ultimately suppress the people. This is exactly what happened with the 16th amendment. This country has gone to hell since this and the Fed came to be. A slow incremental decline from the greatness (and liberty) we had at the turn of the century.

You insinuate that our constitution is to blame, nothing could be further from the truth.

Voluntary Exchange's picture
No, not the constitution per se, put the monopoly provision of adjudication and security "services" that was instituted by our particular constitution.  The non-voluntary taxing aspect of the system removes the checks and balances that would have restrained it if the free market in those services was built into the system.  You see the people lost the most important liberty in any non-predatory relationship from the very beginning: "the power of the purse"! Once you loose that the rest is downhill. You don't get what I am stressing, the language will not matter if you grant a monopoly in service provision. The monopoly by its nature will attract those who choose predation as a way of life since that class of person always seeks a way to steal without having to pay the penalty. From the very start you had Alexander  Hamilton and those like him arguing that the language of the constitution was other than what it clearly stated. Why? He saw the potential power of a monopoly of adjudication power, and the abuse that was the first Bank of the United States soon followed.   This will help you to understand better if you take the time to read it.  "The Myth of the Rule of Law":
StychoKiller's picture

Anything we can do to get the government in a better fiscal position is worth doing.

So, does that mean you're in favor of phasing out Social Security, Medicare/Medicaid, closing foreign military bases, abolishing the DEA, Dept of Education, Energy and other alphabet agencies?


Sean7k's picture

I am, but you don't go far enough. I want to abolish The presidency, congress and the supreme court, tear up the constitution and eliminate the FED. Throw it all out and reject any attempt to reformulate a government of any type. 

The transition would require judicious minds, but the result would be nirvana- unless you're a predatory human that can only compete when the playing field has been designed to promote your interests above everyone else's...

BobWatNorCal's picture

" Anything we can do to get the government in a better fiscal position is worth doing."

Reductions in spending seem worth doing.

Robslob's picture

pyite your statement

"Anything we can do to get the government in a better fiscal position is worth doing."


WHY?  The have no fiscal restraint...their wives shop on our dime as do they...they can go broke finances are fine.


Lux Fiat's picture

Time for a flat tax.  With the simplication (hopefully), perhaps a significant chunk of the IRS could be given the opportunity to directly contribute to our country via the private sector. 

Tax policy is clearly important, as how much comes in (should) link to and drive what goes out.  Thoughtful tax policy can avoid being a huge impediment to real economic growth.  However, I would love to see a moratorium on any new legislation, a cancellation of all ear-marks, and no increase in federal spending until the entitlement elephants in the room are dealt with.  Politicians know that tackling these is going to be one of the, if not the toughest job in decades.  So they keep putting it off, and hoping that nobody will notice that rotting stench wafting in from the back room, at least not on their watch.  And voters keep voting for them.  I can't wait to see what red herrings come out of the woodwork as we approach Nov.

halvord's picture

The total tax burden is quite regressive. If you want the total tax burden to be flat, I'm all for it.

Voluntary Exchange's picture
All taxation is theft. The power to tax is the power to destroy.  It is aggressive force illegitimately wed to the idea of public "order". The proper tax is no tax. The institution you wish to fund is arguably  the biggest initiator of fraud, theft,  and murder in America today, (and the same observation applies to all other non-voluntary "monopoly" governmental service providers in their respective countries). Why would you wish to force anyone to perpetuate such crimes? There is a better way. See my above posts.
Sean7k's picture


Still, without a discussion that examines the elimination of all government, most people cannot fathom the elimination of taxes. This discussion is difficult as most people are trained to need a government and the illusion of security it represents. 

In refusing to understand the natural order existing in the world, man attempts to create control  to create security. The apparatus is then hijacked by an elite that use it to maintain a lifestyle that provides benefits in excess of their contribution. It is the TAX of the PREDATOR. It is a part of the natural order. While most intelligent creatures have developed strategies to manage this conflict, humans have failed to establish defenses and on occasion have subjected themselves to great tragedy at the hands of the merciless. 

This confusion probably results from having both prey and predator within the same population and the delay in identification of the predator. Being social animals, the ability to trust is required for the herd to survive. 

Until we can create better defenses ( The Constitution and separation of powers was an attempt, if failed one), we are doomed to experience this paradox. Unless we can identify a better defense, the only one available is to eschew the organization of power over any more than individual authority. 

It is not a perfect solution. It is not the best solution, it is merely better than the present alternatives.

Voluntary Exchange's picture
Yes, I agree about your observations about those who appear "human" but are actually predatory beasts. If the "power of the purse" is maintained by the non-predatory, any attempt at predation though the functions of some kind of thieves "protection service" (organized crime gang) quickly turns into a one sided battle of those protection provider entities who choose freedom and voluntary exchange (the majority) and those who wish to live by crime. The "bad seed" gets quickly put it its place as there is no way to systematically get away with the criminal booty to enhance and build upon any power. There is no hiding place and the numbers to sustain the gang will always be inadequate to the task.  As far as the education problem getting people to shift their awareness of the situation they are in today, I like to stress to people that whenever they think "government" they should think a bundle of services provided by particular hired service providers that provide key services they feel they need to survive and may not be up to providing for themselves (usually protection/security and adjudication of disputes). In a earlier post I mentioned above: "The Myth of the Rule of Law"   There is an excellent little parable in there about the idea of free market law to help people get the point.
Lux Fiat's picture

I would love to see the size of state and federal government shrunk dramatically.  But, functions such as foreign policy and defense are best when coordinated at the national, not state, level.  Welfare payment decisions (and any other direct redistribution of wealth) should be made at the local level.  True flat tax to limit amount of indirect/hidden redistribution of wealth.  Gov't should be out of healthcare, period.  Think catastrophic care insurance, where folks are on the hook for the first $2-5k, in conjunction with tort reform.  Folks would get a lot smarter about consumption of medical services pretty quickly.   Defined benefits retirement plans should have gone the way of the dodo bird long ago, especially in the public sector.  Guess I shouldn't be surprised that Congress just keeps whistling and rearranging deck chairs, oh, and trying to jab a stick into the eye of our major lender (I won't comment on the sad state of affairs where the US fed gov't has to borrow insane amounts of money each month, with no end in sight).

Voluntary Exchange's picture
There is excellent material on this topic to explain to you clearly and logically why a free market provision of defense is more efficient, totally non-aggressive by nature, and actually far more effective at national defense.  Go to and study Hans Hermann-Hoppe material.  Also some of Murry Rothbard will help you to reevaluate your conclusions. As far as a "foreign policy", what policy that is necessary is inherent to the nature of the system. The free market "network" society (my term) is expressive of its "policy" by the nature of its organization, being strictly based on voluntary exchange and just possession of private property.  It is also highly revolutionary to those outside the system that exist on the periphery as is a far better "deal" for the common non-predatory person who suffers under the predation of non-free-market governmental "services" (crime is not a service so, tyranny is the appropriate word here).  Once a free "network" society has been able to exist for a period of time it will become a highly infectious idea to other cultures. Also for some historical context study Irish law before their apparent subjugation under the British. It had a free market in adjudication services and non-monopoly security services with networks of "kings" (a poor translation of the idea). Please take note that a small island with a small population was able to hold off larger, more technically advanced aggressive  predatory states for 500 years. And even then they simply could not viably occupy and exploit. So Ireland became independent but unfortunately by the time the British finally left the free market system of justice had been destroyed and the understanding to live in this way had been lost. The rediscovery of this history has been slow in coming as the more ancient sources are extremely difficult for living scholars to properly interpret and translate. See  for more on Irish history
Lux Fiat's picture

I am always willing to consider other perspectives.  Will take a look at Herr Herman-Hoppe's stuff.  

Re Ireland, island nations tend to have a natural defensive advantage.  Only Romans and one Frenchman from Rouen have had a successful go at England.  The Brits did the Irish no favors, as some of my forebears can attest.

doolittlegeorge's picture

the "surpise" could be an equity surge going right into New Years signaling a huge uptick in prices.  We are not Germany which had been devastated by World War I but we did have the 70's and needless to say "save for the draft there's a lot more government, not less."  the vast majority of this "government" has arrived in just the past year, too.

alien-IQ's picture

Why is this starting to feel like we're being held hostage by 1% of the fucking population?

Voluntary Exchange's picture

Because you are starting to wake up.