Up To 3.5% Of US 2013 GDP Could Evaporate Due To Enacted Tax Hikes

Tyler Durden's picture

When it comes to the impact of the just enacted 2013 tax hikes (payroll tax cut expiration affecting everyone together with the tax hike on those making over $400K), economists are in broad agreement on one thing: the first half of 2013 will be impacted by roughly a 1.0%-1.5% drop in GDP. However, a big question emerges when attempting to quantify the adverse impact on US growth as the year progresses past June 30. Most strategists and economists ignore this issue, and instead chose to believe that all shall be well as by July, the US population will be habituated to getting a smaller paycheck and general consuming behavior will no longer be impacted relative to a previous baseline.

Sadly, as we all know, there are three certain things in life: death, taxes, and the majority of economists being dead wrong, which is why it is prudent to consider an alternative, one which assumes that Americans don't "habituate" to being poorer, and do not revert to a baseline spending model, regardless how much economists "will" a given outcome (especially since no estimates take into account spending cuts, which may happen, and which will serve as a double whammy to consumption in addition to already enacted tax hikes).

Which is why we were surprised to learn that according to at least one model created by Goldman, the total consumption hit for all of 2013 (not just H1), may well be higher than what most people assume. In fact, as Goldman shows, based on a model conceived by Christina and David Romer, it is possible that US GDP growth in the second half is slashed by an additional 2-2.5%, something which very likely will tip the country into recession as the combined impact over the entire year could be as high as 3.5%, eliminating even the most optimistic forecasts for organic growth in the US for the new year.

But it gets worse. As Goldman observes, "based on our reading of the debate in Washington, we have become more concerned about our assumption that the automatic spending cuts (or "sequester") will be delayed into 2014. If the sequester takes effect as scheduled from March 1, this would present an additional downside risk to our growth forecast in the later part of the year."

So the worst case scenario for GDP growth from tax hikes alone is already 3.5%, and one may have to add to that another several percent in GDP reduction from an spending cuts, which might well lead to a 4-5% GDP drop in 2013 in the worst case, a case determined solely by the dysfunction in Washington.

Should this happen, the implications for monetary policy and even further easing at that point (on top of the already enacted, indefinite $85 billion per month), not to mention risk and hard assets, are self-explanatory.

From Goldman:

The Consumption Hit From Higher Taxes

•    We expect the $200bn increase in federal taxes on individuals to be a major headwind for the economy this year, shaving around 1 percentage point off the annualized growth rate of personal consumption in 2013H1.

•    We compare this forecast to the implications from three empirical models including (1) a setup that traces out shocks to disposable income on consumption; (2) the Fed's macro-econometric model "FRB/US"; and (3) the approach pioneered by economists Christina and David Romer, who compile a history of legislated tax changes. The results suggest that our expectation for a 1 percentage point fiscal drag on annualized consumption growth in 2013H1 is broadly consistent with these models.

•    But there are risks to our expectation that the fiscal drag will diminish meaningfully in 2013H2. First, the Romer and Romer approach suggests that the tax hit to growth might continue to build in the second half of the year. Second, we have become more concerned about our assumption that the automatic spending cuts (or "sequester") will be delayed into 2014. This presents an additional downside risk to our forecast that growth will pick up to a trend rate in 2013H2.

Federal taxes on individuals in 2013 are likely to rise by around $200bn, worth 1.3% of GDP or 1.6% of disposable personal income. This estimate adds the expiration of the payroll tax cut ($126bn) as well as the increase in upper-income taxes via expiration of the Bush tax cuts ($50bn) and healthcare-related taxes ($24bn). We expect the resulting reduction in disposable income to be a major headwind for the economy this year, shaving around 1 percentage point (pt) off annualized personal consumption expenditure (PCE) growth in 2013H1. As a result, we forecast a slowdown of consumption growth from a bit more than 2% in late 2014--currently tracking at 2.2% in 2012Q4--to 1.0% in 2013Q1 and 1.5% in 2013Q2.

In today's comment we compare this forecast to the predictions from three models designed to estimate the effects of tax increases on consumption.

First, we consider an empirical model that traces out the effects of changes to disposable income on consumption. We construct a quarterly vector auto-regression (VAR) model that explains the (annualized) growth rate of real PCE with the quarter-on-quarter percentage change in real disposable income. We then trace out the response of real PCE growth to a 1.6% reduction in real disposable income in early 2013. The black bars in Exhibit 1 summarize our results. The model points to a sizable hit of 1.5pt to (annualized) real PCE growth in the first half of the year. The drag then diminishes to about 0.5pt in 2013H2.

Second, we turn to the Fed's large-scale econometric model of the US economy, FRB/US. The motivation is that FRB/US is far more comprehensive than our simple setup above, For example, it allows consumption to depend not only on current disposable income but also expectations about its future path. Within FRB/US we model the 2013 tax increase as a permanent 1.6% hit to expected lifetime disposable income. In effect, we assume that households expect the tax increase to remain in place for the foreseeable future. We then trace out the effect on consumption in the model. The results are broadly similar to the simple model above, pointing to a 1pt hit to annualized consumption growth in 2013H1 and 0.5pt in 2013H2.

Finally, we use the "narrative" data set constructed by Christina and David Romer of the University of California, Berkeley. It is based on detailed historical records from Congress and the US Treasury on legislated tax changes, with a special focus on "exogenous" changes that are not motivated by a desire to respond to changes in economic activity. (The intuition for their approach is that excluding tax changes that were conducted in response to the state of the cycle makes it easier to disentangle cause and effect of tax changes.) As in our simple approach above, we estimate a quarterly VAR that includes real PCE growth and the Romers' measure of tax changes. We then trace out the effect of a 1.3% of GDP increase in taxes in early 2013 on real PCE growth. Although the results are similar for 2013H1--with a hit of around 1pt--the hit to consumption is much larger in the second half of 2013 than with the approaches above (Exhibit 1). Instead of fading away in 2013H1, the drag on consumption growth continues to build in the second half of the year. This conclusion is qualitatively similar--although less pronounced--when we allow for monetary policy to lean against the consumption hit.

We conclude that our forecast of a 1-percentage-point fiscal drag on consumption growth in 2013H1 is broadly consistent with our survey of alternative empirical models. This would probably imply a small decline in real personal consumption in January followed by slow but positive growth in subsequent months. The timetable of indicators discussed in yesterday's comment should help us assess whether our forecast is correct.

But there are risks to our expectation that the fiscal drag will diminish in 2013H2. First, as the Romer and Romer approach shows, it is possible that the effects from the tax hikes on growth will continue to build in the second half of the year. If so, our forecast for a return of real GDP growth to a trend rate of 2.5% in the second half would be at risk.

Second, based on our reading of the debate in Washington, we have become more concerned about our assumption that the automatic spending cuts (or "sequester") will be delayed into 2014. If the sequester takes effect as scheduled from March 1, this would present an additional downside risk to our growth forecast in the later part of the year.

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francis_sawyer's picture

Is that 3.5% subtracted from the +1% or the -2.5%?... More importantly ~ does this mean that I should BREAK my new iPhone5 & buy a new one, or not?

redpill's picture

But if modern GDP growth is essentially the process of savingsless Americans borrowing more money to purchase shit from China, maybe lower GDP is a good thing?

knukles's picture

I been telling all my Uber-Liberal friends the economy was gonna go all to shit with the tax hikes and they're pooh pooing it.  "Taxes don't matter" horseshit... BUT "gubamnint gotta spend more to stimulate the economy"
And telling my Neo-Con pals to shut the fuck up because they had their chance to elect somebody responsible (aka Ron Paul) and instead supported anybody put forth by the GOP.
So, I'm at a I don't give a rat's ass place right now.  Nothing I can do except preserve assets.


Cursive's picture


So, I'm at a I don't give a rat's ass place right now.  Nothing I can do except preserve assets.

Done all I can to help people.  I'm not saying I'll do something if I can, but I've figuratively battened down the hatches.  Good luck to those without shelter.  Nothing to do here except TRY to preserve assets (and life and limb).  It's going to be tough.


Dr. Engali's picture

I'm with you. I'm done talking. I'm sick and tired of people turning the coversation into which team to blame.. red or blue.

francis_sawyer's picture

 "If & found myself trapped between the Nazi's & Russians I'd attack in BOTH directions"


Not attributable to George Patton [but he 'wished' he said it]...

Ying-Yang's picture

Screw it... just coin trillion dollars coins and get it over with.

America..... a coin in every pot.

ZerOhead's picture

Shadowstats (the non-bastardized source for all you need to know) shows US GDP contracting at around 2% already...

The great ship U.S.S. Clusterfuck is taking on a lot of water and is sinking. Another -3.5% torpedo to starboard will just get it to where it was going faster.

It's been nice knowing you guys.


ACP's picture

Not just taking water, it's being scuttled.

Start agreeing with your liberal friends. Don't want to advertise being prepared. Remember to put big signs in front of your yard saying:

"I have ANTHRAX, PLZ HLP. Need food & water."

ZerOhead's picture

So true...

I have a very close friend who refuses to believe that things will not turn around and just go back to sunny days...

I asked him what he would do if the shitstorm hits. He told his plan was to take his family to my hideaway.


The lifeboats are being lowered and it's Banksters, NeoCons, NeoLibs, Politicians, and Israel firsters first.

Women and children unfortunately are on their own...

jeff montanye's picture

i've heard that the plan is to send iou's to the social security and gov't pensioners when the tax revenues can't be augmented with debt (why this is legal is lost on me but i've seen in in several places).  bet congress doesn't get iou's.  i wonder what the plan for military retirees is.  doubt they dare give iou's to the active military.  this may be the tipping point.  should at last get people's attention.


GCT's picture

Agree Doc this political discussion is indeed getting old.

Dr. Richard Head's picture

I don't know about you, but I took to enjoying my dollar assets by spending them in Florida, Hawaii, and Tennessee with my two daughters and wife in 2012.  I could have bought 20 ounces of gold, but I am going out with a bang.  Fuck it, I got my stash.  This year I will be laying a bit lower and stacking some more though.

Commander Cody's picture

Set yourselves free from the shackles of fear good fellows!  Do not in turmoil be.  The gubmint, Fed and its PD henchmen cannot and will not ever again let risk assests tank.  Join the fray.  Profit without risk.  You are missing being a chip in the big game.  If ever there was a time to go all-in, this is it.  Lever up!  That is all.

spentCartridge's picture

Same here, everyone I try and warn thinks I'm fucking crazy, some of them have laughed at me, my friends I try to help, so I said to myself 'fuck it'. So now, I just cruise along with a smile on my face knowing that all these people, even the clever 'edmucated' ones are all gonna get fucked real hard in the arse, and it's weird watching them go about life as though everything is just peachy, like it says on the telly, it's like I'm in a different dimension to them. Invisible.

So, got my stash of pm, food, medicine, liquor and weapons. Spring water well on my property. Gonna sit back and laugh as it all burns down, and although I don't like to see people in distress, I can honestly say that I am going to take pleasure in watching some of them get their arse handed to them on a plate.

Ignorance is no excuse in the age of free information.

Fuck them. Let it all burn to the fucking ground.

AllWorkedUp's picture

 Funny how some folks are waking up - like most ZH'ers, but the rest are going into even greater denial, an even deeper sleep. Don't know why that is. Are they just overwhelmed by what's coming? or are their brain just too far gone to believe it could ever happen here?

I'm with the rest of you, sick of warning them only to get blank stares. My 74 y/o mom says she hopes it won't happen in her lifetime. I think it will, but I'm also thinking, "what about your kids and grandkids."?

Jack Burton's picture

You may have hit the jackpot there redpill! It's what I keep saying, if GDP growth is just a function of Americans borrowing newly printed money to buy shit prodcued in China then who gives a fuck about GDP. It is a meaningless number as regards US jobs and US prosperity. The only winners are ther big box retail stock owners who get a nice bump in stock prices form the big boxes moving more junk made in China to more deeply indebted Americans.

In a very real sense a lower GDP could be a good thing if all it represents in more debt and more chinese imports.

boogerbently's picture

The tax breaks didn't prompt any big spending or hiring binges, so far.

sun tzu's picture

What have obozo's annual trillion dollar deficits done to prompt any big spending or hiring binges? I know they've lined the pockets of his cronies on Wall Street though. Let's just give all of our hard earned money to obozo so he can hand it over to his banker buddies

daxtonbrown's picture

GDP = G + C + I + X-M.

When the FedGov soaks up 24% of GDP, and we know most of that is waste, all conjecture as to what the GDP really is, is meaningless.

Higher taxes without less fraudulent government spending guarantees an impact higher than even presented above.

midtowng's picture

I seriously doubt the tax hit will be anywhere near that big.

The problems are the continued lack of good paying jobs and the overhang of private debt. These is the reasons why the economy stagnates, and economists have no solutions for it.

HardlyZero's picture

I prefer "Disfunctional" it is latin...and is closer to disease or disrespect or disregard or dissipate.

"Dysfunctional" is too Greek and I've never used that spelling before.

Been using disfunctional for decades...and functional as well (that is the point of good work).

Snakeeyes's picture

Take expected GDP of 1.5%. Deduct 2% for withholding and 2.3% for Obamacare medical device surcharge. AND all the other taxes. I believe it.


devo's picture

Bullish for suicides.

Killtruck's picture


Bring me more ink!

MOAR INK!#$*(%)$)(


SmallerGovNow2's picture

Really a no brainer that it will contract 2% minimum as everyone's payroll tax was increased by that amount...

Joe Davola's picture

That and the obligatory hikes in health insurance costs.  Parking tax hikes.  Local (city/county/boro/school) tax hikes.

Most people I talk to are looking at their discretionary bills for any savings to keep even.

Dr. Richard Head's picture

Most people I talk to are looking at their discretionary bills for any savings to keep even.

Well that would imply there is inflation and Ben knows there is no inflation. /sarc

Cursive's picture

It's Goldman Sachs.  No sane person should be listening.

Water Is Wet's picture

First, who cares what that cow Christina Romer says (she was the chairmancow of Obama's council of economic advisors until Sept 2010).  Second, the Fed is projecting 2.3 - 3% growth, and their projections are always wrong.

LawsofPhysics's picture

Who fucking cares?  We all know GDP is bogus, with almost 40% of it being paper-pushing.  How much of it is due to folks actually innovating or making something of real value?  -  FAIL.

HardlyZero's picture

Isn't all the innovation happing across the border in China...don't they own everyone's IP now, including Apple's innovation.  Isn't possession 90% of the law ?  and doesn't China OWN all our IP now ?...execpt maybe IBM still has their own innovation and its separate from China ?

LawsofPhysics's picture

I do business in China.  Everything requires a bribe, very inefficient.  But hey, at least their government reinvests all capital in their own people. What a novel concept.  Of course their people are some of the best sheep on the planet, they do what the party says, period.

ZerOhead's picture

Yup they invest all the capital in their own people. $2.7 billion in Premier Wen's family alone. Looks like the simple pig farmers son made out real well in that communist state... ;)

With the average factory worker making just over a dollar an hour while 2/3rds of the country subsists on less than $2 a day sadly it's Communism that has become Capitalism's wet dream...


LawsofPhysics's picture

If the globalists have their way, the entire world will work for Chinese wages.

pods's picture

And poof, it's gone!


HardlyZero's picture

Don't the algos just process all this macro data instantaneously and then make it 'poof' go away ?  By monday all the warm-bloods will have forgotten, and the algos will hide the evidence.  Groundhog day or Matrix...

LawsofPhysics's picture

On another note;  It looks like the PIIGS will get debt forgiveness, as for the American tenants, not so much.

knukles's picture

Some tenants are more equal than other tenants.

Some get their EBT cards filled... the fillees.
Others not so much... the fillers

But then again, 50% is borrowed from the Fed for fiat, so not to worry.


Oh and PS... considering this comes from Goldman, it's all about scaring the piss out of the Fed to Ease Away

LawsofPhysics's picture

No kidding.  Just surprised that ZH is not talking about the falling yeilds on bonds in Italy.  You know, because everything is *fixed*

The American politicians are about to get their balls put in a vice by their puppet masters.

Seasmoke's picture

yeah, so what is the problem ?

trillion_dollar_deficit's picture

The 2% payroll tax hike alone was close to a $3k hit to my household. Multiply that by about 70 million and youre talking a serious hit to the economy.

hooligan2009's picture

hmm...you earn 150,000 a year..are you a life guard in CA?

sun tzu's picture

His household, which could mean his wife or husband's income too

lolmao500's picture

which might well lead to a 4-5% GDP drop in 2013 in the worst case

Which would be worse than the 2008 crash... LOL

Dr. Engali's picture

Clearly good news for a 22% rally on S&P this year.

knukles's picture

C'on baby!  Lloyd needs a new pair-a shoes.

yogibear's picture

Bernanke and the Federal Reserve can just $100,000 from their helecopters and get people to spend. It's a direct infusion rather than having sit in stocks and at the member banks.

MFLTucson's picture

You put a clown in the White House what did you expect?

francis_sawyer's picture

A 'Lollygagger'... [One Mississippi ~ Two Mississippi ~...]