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Everything You Need To Know About Resolving The Fiscal Cliff But Were Afraid To Ask

Tyler Durden's picture





 

With the market seemingly oblivious to the dismal reality of the fiscal-cliff (from a priced-in perspective) in the same way as equities trade at four-year highs while earnings are at three-year lows; it is perhaps useful to get a grasp of the maelstrom that awaits congress as they begin to tackle the fiscal-cliff on November 12. As we discussed here, the downside potential is considerable with complacency high and just as Goldman expects no real progress to be made until December (at the earliest), the market (i.e. a correction) may be the only lever to move our political elite from their respective higher ground. While talk will be of 'grand bargains', we, like Goldman, remain skeptical that any broad reform package will be completed and instead some short-term extension may be achieved. The following Q&A explains how that sausage could be made in all its gory detail.

Via Goldman Sachs:

Last week, we laid out three potential scenarios for the resolution of the fiscal cliff: the “not-so-good,” in which the payroll tax cut is allowed to expire, the “bad,” in which current policies temporarily lapse and emergency unemployment benefits and the upper-income portion of the 2001/2003 tax cuts expire, and the “ugly,” in which Congress fails to address the fiscal cliff at year's end, and does not quickly reinstate the expired policies in early 2013.

In addition to these general policy outcomes and the economic effects, a number of clients have inquired about the specific process Congress would use to extend at least some of the current policies set to expire at year's end. We address some of those questions below, in question and answer format.

Q: When will Congress return to deal with the fiscal cliff?

A: November 12. Following the Presidential and congressional elections on November 6, Congress will return the week of November 12 to begin work on a year-end fiscal package that would temporarily reverse a majority of the nearly $600bn in fiscal restraint scheduled under current law to take effect at the start of 2013. Even if they have lost their elections, current members of the House and Senate will serve out their terms until the end of the year, in what is known as the “lame duck” Congress. With an early Thanksgiving likely to make most or all of the week of November 19 unproductive, legislative debate may not begin in earnest until the week of November 26. If so, this means Congress has four weeks from the time it returns from the holiday until December 21, the latest date on which it would normally adjourn for the Christmas holiday.

Q: When would Congress actually enact the legislation to avoid the fiscal restraint scheduled for early 2013?

A: Probably not until mid-December at earliest, and quite possibly not until early 2013. Legislative debate over the last few years has been characterized by last-minute agreements, and we would not expect this year to be any different, except that we are more concerned that Congress might not reach agreement at all. For instance, in 2010 legislation to extend the 2001/2003 tax cuts, unemployment insurance, and other expiring provisions was not enacted until December 17; last year’s temporary payroll tax cut extension was not enacted until December 23.

Since Congress will not return from the election until mid-November and probably will not begin serious negotiations until after Thanksgiving, it seems likely that policy will once again remain up in the air until at least mid-December, and quite possibly until shortly before year's end.

Q: If Congress were not going to reach an agreement before year's end, when would that become apparent?

A: Unfortunately, it probably would not become clear until late December if an agreement cannot be reached. We assume that market participants will begin to form clearer views on the fiscal cliff once the uncertainty of the election outcome has been resolved. However, in light of the several near-misses in fiscal policy over the last few years, we would expect that most observers may conclude even in early or mid-December that Congress will still manage to reach an agreement, no matter how far apart the two political parties appear to be.

Q: What will actually happen during the lame duck session?

A: Public proposals followed by private negotiations. If the President wins reelection, he is likely to quickly turn his attention to the fiscal cliff. As it did last year ahead of the "super committee's" deadline, we would expect the White House to publish a formal proposal on how to resolve the fiscal cliff, probably coupled with a longer-term fiscal consolidation plan involving many of the proposals from the President's budget with perhaps a few new items. In a status quo political scenario, it is possible that congressional Republicans could offer a longer-term proposal of their own. It also appears increasingly likely that the bipartisan "Gang of Eight" senators might release a long-term fiscal reform proposal modeled after the Bowles-Simpson framework. These sort of proposals are more likely to come in the early stages of the process, followed by private negotiations punctuated with periodic press conferences from congressional leaders. On the other hand, if Gov. Romney wins the election, it is likely that the president-elect would call for a short-term extension of most of the expiring policies, making the public proposals less relevant at least in the near term.

Q: Can Congress actually put together a "grand bargain" fiscal agreement in the short time available?

A: It is difficult to see how. While a broad fiscal agreement that extends most or all of the policies set to expire while reducing the longer-term imbalance between spending and revenues would be welcome, it appears very difficult to achieve in the short time remaining before year's end, despite some recent reports that some lawmakers are attempting to put something like this together.

The main reason we are skeptical that a "grand bargain" can be reached before year's end is that resolving the complexities of health financing and other mandatory spending issues will take more than just a few weeks, as would any significant tax reform program. Furthermore, as House Speaker Boehner stated recently, since the lame duck session is a transitional period before the new Congress is seated, some lawmakers might believe it is more appropriate to wait until 2013 to negotiate the broader fiscal agreement, leaving the lame duck Congress to resolve only the pressing near-term issues.

Q: What about the "framework" for reform that has been mentioned in the press recently?

A: It is an attractive option in theory, but it faces a "chicken and egg" problem: An approach that claims to resolve this issue has been floated by members of the "gang of eight"--a bipartisan group of Senators attempting to craft an agreement similar to the Bowles-Simpson proposal from 2010. It would extend most current policies for six months, after which Congress would need to have agreed on long-term fiscal reforms. If Congress had not enacted adequate reforms by the deadline, policies similar to the Bowles-Simpson framework (e.g., increased revenues and reduced spending growth) would take effect automatically. The advantage of such an approach would be that the economy would avoid the near-term impact of the full fiscal cliff and Congress would have time in early 2013 to construct a more thoughtful reform package than is possible in the little time remaining this year, while still ensuring that the longer-term fiscal trajectory is addressed.

The drawback of this approach is that in order to create an enforceable deadline in mid-2013, Congress would need to specify before the end of the year the exact policies that would take effect if it fails to meet its targets. But if Congress were able to agree on the exact policies that would take effect in mid-2013 absent reform, it would not need to wait six months to enact them. So while such a framework is appealing in principle, it is not clear how an enforceable deadline can be set without first agreeing on taxes and spending, yet without some kind of deadline, an agreement on taxes and spending looks very difficult to achieve. The upshot is that if there is not enough time to work out a longer-term fiscal agreement by year's end, Congress may need to look for another forcing event beyond an arbitrarily imposed deadline in 2013.

Q: If Congress has not addressed the fiscal cliff by year's end, how soon can it revisit the issue?

A: Potentially in January 2013, but it will depend on the election. The new Congress will be seated on January 3, and the next presidential term will begin on January 20. In a status quo election outcome, this means Congress could continue negotiating a compromise in early January 2013 if it failed to address the fiscal cliff in December 2012, and President Obama could sign it whenever it reached his desk. In such a scenario, if Congress is not able to reach agreement in 2012, reaching a deal in early 2013 will not necessarily be that much easier, though two things will have changed that might help to facilitate a compromise: (1) public pressure on lawmakers would increase in the wake of the tax increase and spending cuts that would take effect at the start of the year, and (2) once taxes have risen, politicians would be able to claim, at least in a technical sense, that whatever compromise on the Bush tax cuts is reached would be a "tax cut." If those factors allow a political consensus to form, a retroactive extension of expired tax and spending policies could be enacted as soon as mid-January. If tax withholding had already increased by that point, it would most likely take another couple of weeks for the IRS and employee payroll processors to reverse the increase.

If, on the other hand, Congress is unable to reach agreement on the fiscal cliff in either December 2012 or January 2013, Congressional leaders would probably look to one of two other deadlines to address the issue. Under a status quo election scenario, the next obvious deadline would be the vote to raise the debt limit in either February or March. If Congress were to go that long without addressing the fiscal cliff, the effects of fiscal policy on growth would likely be worse than our "bad" scenario of a nearly 2 percentage point hit to growth, though not as severe as the 4-point hit to growth in our "ugly" scenario in which the fiscal cliff is allowed to take effect on a long-term or permanent basis.

 


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Tue, 10/09/2012 - 19:47 | Link to Comment lolmao500
lolmao500's picture

Like any of that really matters in the end...

Tue, 10/09/2012 - 19:50 | Link to Comment NewThor
NewThor's picture

"Debt is the medicine to cure the Debt cancer." - stupidest idea of the modern times.

Tue, 10/09/2012 - 19:58 | Link to Comment ShortTheUS
ShortTheUS's picture

One can make the argument that with the jobless rate at 7.8 ("officially"), unemployment bennies are no longer needed.

Tue, 10/09/2012 - 19:51 | Link to Comment SWRichmond
SWRichmond's picture

Q: What will actually happen during the lame duck session?

Kiss goodbye what's left of your civil rights, that's what.

Tue, 10/09/2012 - 19:53 | Link to Comment LetThemEatRand
LetThemEatRand's picture

If the Bush tax cuts expire the world will end as we know it.  It is obvious from the last 40 years that cutting taxes to generational lows is the key to having a healthy economy.  More of the same, please.

Tue, 10/09/2012 - 19:55 | Link to Comment A Lunatic
A Lunatic's picture

We need lower interest rates too. 3.6% on a thirty year mtg is fucking ridiculous.

Tue, 10/09/2012 - 21:25 | Link to Comment Renewable Life
Renewable Life's picture

LMFAO!

If anyone in this Country even understood the technical and economic realities connected with the US Dollar being the "reserve currency" for the planet, they would understand that its NOT even possible to cut spending and deficits, without crashing the great globalization experiment of the last 35 years!!  (I use the word "great" with complete tongue in cheek!)

 

Tue, 10/09/2012 - 19:47 | Link to Comment NewThor
NewThor's picture

Wylie E. Coyote to the rescue!

Tue, 10/09/2012 - 19:53 | Link to Comment francis_sawyer
francis_sawyer's picture

Didn't y'all know?... The 'Thunderbird' that Thelma & Louise drove off the cliff was actually that... A THUNDERBIRD... It had wings & flew away (you had to stay past the closing credits to know that)...

Tue, 10/09/2012 - 21:00 | Link to Comment DosZap
Tue, 10/09/2012 - 19:51 | Link to Comment fonzannoon
fonzannoon's picture

None of this is going to happen. Especially if the market is in the crapper. Delay and pray from here on out.

Pretty good read..

http://seekingalpha.com/article/914521-return-to-bretton-woods-economic-and-investment-implications

Tue, 10/09/2012 - 20:38 | Link to Comment Dr. Engali
Dr. Engali's picture

Good read. It's funny how often I've been reading Triffin's name lately.

Tue, 10/09/2012 - 23:47 | Link to Comment RockyRacoon
RockyRacoon's picture

History rhyming yet again:

Gold was an important component of the Bretton Woods system. As a monetary anchor, it provided stability for the dollar as a global reserve currency. With the demise of gold convertibility under Bretton Woods, global price stability began to unravel. After being depegged from its official price of $35 per ounce in 1971, gold rose by more than 2,000% over the next 10 years. Investors migrate to gold when currencies no longer function as good stores of value.

Tue, 10/09/2012 - 19:51 | Link to Comment knukles
knukles's picture

Gotta love the politicians, how they refer to this shit as "We're going over a fiscal cliff and it will be painful."
They're driving the car they built, toward the cliff they dug, at the end of the road they constructed, without a safety barrier, in which we are captive passengers with options none and they're telling us that it's something that we need to consider as if we the hostages have any fucking thing to do with the problem which They Created and Have Perpetuated for which the Cure will Absolutely, No Doubt be Worse than The Disease They've Given Us.

What could go wrong?

Tue, 10/09/2012 - 19:52 | Link to Comment Skateboarder
Skateboarder's picture

Out with the old ($), in with the new (SDR). That's all.

Tue, 10/09/2012 - 19:54 | Link to Comment A Lunatic
A Lunatic's picture

A good place to start might be adopting a freaking budget.

Tue, 10/09/2012 - 23:49 | Link to Comment RockyRacoon
RockyRacoon's picture

Only a lunatic would think that is important.

Tue, 10/09/2012 - 19:56 | Link to Comment kito
kito's picture

it just grates me when i hear people speak fearfully of the "fiscal cliff"...oh nooooo the fiscal cliff................increase the spending to avoid it!!!!!!!!!!!!!!!!!!!!......more terminology to brainwash the populace into thinking more debt is good, and common sense budget balancing is baaaaaad......................

Tue, 10/09/2012 - 20:21 | Link to Comment Dr. Engali
Dr. Engali's picture

I hear you kito. It drives me nuts just like any other meme they put together to herd the sheeple.

Tue, 10/09/2012 - 19:57 | Link to Comment JuliaS
JuliaS's picture

We passed the fiscal cliff on December 23, 1913. We've been falling straight down ever since.

Tue, 10/09/2012 - 19:58 | Link to Comment CrashisOptimistic
CrashisOptimistic's picture

The tone of all these proposals is outrageous.

Who says it is best to reach an agreement?  An agreement just means 17 Trillion in debt this time next year.  Why not let the cuts and the expirations happen, reduce the deficit down to about 500-600 billion (the GDP loss will hit tax revs some) and go from there.  

All these "compromises" and "actions to preserve the economy" just run up another trillion dollar deficit.

CUT THE DEFICIT.  ENDURE THE PAIN.

Tue, 10/09/2012 - 20:08 | Link to Comment JuliaS
JuliaS's picture

Eliminating debt in a usury based fiat system is not mathematically possible. To balance the deficit, cuts would have to exceed spending, which actually makes sense. The government would have to do productive work supplying capital in excess of its own consumption. Imagine that!

Tue, 10/09/2012 - 20:01 | Link to Comment razorthin
razorthin's picture

Can someone please tell these weenies that sound money is a prerequisite, or they are just farting in a wind storm?

Tue, 10/09/2012 - 20:03 | Link to Comment PUD
PUD's picture

tanks in the streets! either raise the debt ceiling for the nth time, print the money to buy all the cheese or there will be tanks in the streets!

Tue, 10/09/2012 - 20:18 | Link to Comment Big Ben
Big Ben's picture

The S&P has done very well this year and is sitting near multi-year highs. And earnings season has just begun with a couple of disappointments.

What I cannot understand is why anyone would be tempted to remain in stocks at this point. If you sell now, you can lock in some nice gains at current tax rates. If you are determined to remain in the market, you can always buy your stocks back in a month. And probably at a lower price given the way this earnings season has started out.

Tue, 10/09/2012 - 20:19 | Link to Comment Dr. Engali
Dr. Engali's picture

Here's a scenerio... What if we have another challenged presidential election like 2000? What happens then?

Tue, 10/09/2012 - 20:21 | Link to Comment Skateboarder
Skateboarder's picture

Jeb Bush aint around this time.

Tue, 10/09/2012 - 22:05 | Link to Comment Bobbyrib
Bobbyrib's picture

Unless Gary Johnson, or Ron Paul wins, it will just be whoever TPTB choose to further run our country into the ground.

Tue, 10/09/2012 - 20:26 | Link to Comment Zero Govt
Zero Govt's picture

the elephant and donkey fighting cartoon is just the 'democracy' smokescreen put out for public consumption

the truth is these 2 bloated animals are dealing under the table in absolute contempt of the public, their office and their oaths to carve up the booty stolen from productive society through the tax system

these parasitical Parties sponsored/owned by parasitical players are no good for America, they're destroying her

Stop Paying Tax ...don't fuel Anarchy

Tue, 10/09/2012 - 20:29 | Link to Comment MarkD
MarkD's picture

Me thinks they will cut the deficit by a $5 trillion over 20 years but will not want to hurt the fragile economy so no cuts will take effect till 18 years down the road and where they will get the money for the cuts will be by cutting taxes now and increasing spending ........... everything from education, infrastructure, extending unemployment to 4 years, hangnails qualify for disability, iPhones for everyone.

It's a joke.

We have been here soooo many times. Americans are comfortable with living in their foreclosed homes so long as they can still have the new car in the driveway and latest electronic gaget. I think we have a few more years of kicking the debt can down the road without any major ramifications.

 

Tue, 10/09/2012 - 21:18 | Link to Comment MsCreant
MsCreant's picture

There is no sense to be made out of what is happening. There is no plan. There is nothing they can do to hold the illusion together anymore. 

Be your own counterparty on this. Issue yourself your own insurance. That suction you feel ain't the start of a great blow job gents, it's the goddamn void. 

Tue, 10/09/2012 - 21:29 | Link to Comment Sathington Willougby
Sathington Willougby's picture

 

 

http://www.youtube.com/watch?v=1NvgLkuEtkA

Third Parties got no reason

Third Parties got no reason

Third Parties got no reason

To live

 

They got little plans

Little pies

They walk around

Tellin' great big lies

They got hook noses

And worn out laws

They scrapin pm's 

with they're grubby paws

 

Well, I don't want no Third Parties

Don't want no Third Parties

Don't want no Third Parties

`Round here

 

Third Parties are just the same

As D and R

(A frenemy such as them)

All men are brothers

On the day their term ends

(It's payoff time)

 

Third Parties got nobody

Third Parties got nobody

Third Parties got nobody

To love

 

They got little baby lecterns

That stand so low

You got to shut them out

They debate so slow

They got conspiracies

That go derp derp derp

They got little drugs

Goin' perp, perp, perp

They got grubby agendas

And dirty philosophy

they're all war endas

They're gonna set a nigga free

Well, I don't want no Third Parties

Don't want no Third Parties

Don't want no Third Parties

'Round here

 

Tue, 10/09/2012 - 21:31 | Link to Comment Bicycle Repairman
Bicycle Repairman's picture

Taxes and printing.  Taxes on everybody.

Tue, 10/09/2012 - 21:46 | Link to Comment jplotinus
jplotinus's picture

The word "defense" and the phrase "military industrial complex" found near the word "cut" are overdue for an appearance in this thread.

Just say-n

Wed, 10/10/2012 - 00:06 | Link to Comment Nobody For President
Nobody For President's picture

If Congress had not enacted adequate reforms by the deadline, policies similar to the Bowles-Simpson framework (e.g., increased revenues and reduced spending growth) would take effect automatically. 

 

And we are being lead to believe that if this happens, the world comes to an end. And the muppets believe it.

We are SO fucked.

Wed, 10/10/2012 - 13:19 | Link to Comment Nick Jihad
Nick Jihad's picture

I wonder about this too. We have seen that trillions in deficit spending do not have the stimulative effect that Nobel-prize-winning economists were convinced would result. Why then do we accept at face value, predictions that withdrawal of this "stimulus" will result in severe contraction?

Wed, 10/10/2012 - 02:14 | Link to Comment unirealist
unirealist's picture

"this means Congress has four weeks from the time it returns from the holiday until December 21, the latest date on which it would normally adjourn for the Christmas holiday."

There's something about that date that makes me uneasy.  Can't quite put my finger on it.

 

Wed, 10/10/2012 - 07:33 | Link to Comment kralizec
kralizec's picture

Just buy some 13th baktun insurance and all will be just fine.

Wed, 10/10/2012 - 11:28 | Link to Comment Col_Sanders
Col_Sanders's picture

To paraphrase a couple of my favorite writers: We are about to get what we deserve - good and hard. And while it's already too late to do anything, it's still too early to start tossing grenades.

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