The Stunning Political Reality Of The Fiscal Cliff Debate

Tyler Durden's picture

In his testimony over the last two days, Bernanke has listed the 'fiscal cliff' as one of the two greatest risks to the US economy, along with the situation in Europe, and urged Congress to enact 'earlier rather than later' a plan that achieves 'short-term and long-term objectives,' with the primary short-term objective to adjust the timing of the near-term fiscal contraction "to allow the recovery a little more space to continue." . However, like us, Goldman believes that resolving the two key issues - the fiscal cliff and the need to raise the debt limit - will be more difficult than it was last year, for three reasons: (1) the "easiest" options to lower the deficit have already been adopted, so the remaining options touch more controversial areas than those enacted last year; (2) some members of both parties have indicated that they regret the agreements reached in 2010 and 2011, implying less willingness to compromise this year, and (3) both parties appear to be contemplating strategies that involve allowing most or all of the policies to change at year end, as a means to achieving their ultimate policy goal.

Sure enough, as debate on the fiscal cliff gets underway in earnest, the tone of rhetoric has predictably worsened.

Given these challenges, Goldman still believes Congress will ultimately reach an agreement. Mainly because they do not believe that either political party will want to run the risk of imposing such a large amount of fiscal restraint, given the negative economic consequences that it would have. We suspect this will only occur after the market makes it clear that any other path is unacceptable.

Goldman Sachs, US Daily: The Fiscal Cliff: Finding Middle Ground Will Be Harder Than Last Year

lawmakers may have more difficulty reaching agreement on fiscal matters later this year than it was in 2010, when Congress extended the expiring 2001, 2003, and 2009 tax cuts, or in 2011, when Congress raised the debt limit. There are three general reasons that the upcoming fiscal issues looks even tougher to resolve than the previous debates:

  1. The politically "easy" options to lower the budget deficit have already been used. Reaching a long-term fiscal agreement later this year or early next year is going to require additional budgetary savings. Last year's agreement was made possible by the fact that the $2.1 trillion over ten years in savings was not linked to specific programs; spending caps reduced the overall amount of projected future spending, but left specifics to future Congresses, while the cuts under the "sequester" received less attention because it was assumed that the congressional "super committee" would replace them before they took effect. This year, only the more politically difficult savings options remain. The table below shows revenue and spending levels under the Republican-authored House budget, the President's budget, and current policy extended. The columns on the right show how each segment of the budget would change under those options compared to current law, in which Congress takes no action and policies take effect or expire on schedule. The table highlights two important issues. First, neither party proposes substantial cuts to Medicare or Social Security spending over the next ten years. Second, neither party endorses the cuts under the sequester, implying that some budgetary savings might be used simply to replace those cuts, rather than generating new deficit reduction. The upshot is that the two parties have limited their deficit reduction options, for now, to a few controversial areas of the budget. House Republicans focus on cuts to Medicaid, the new health law, and other mandatory spending. The President generates most of the additional deficit reduction (beyond the discretionary cuts agreed to last year) from higher tax revenues.
  2. Members of both parties appear more hesitant to compromise after the experiences of 2010 and 2011. While one might imagine that the effects of the debt limit debate on financial markets and the economy, and the related US credit rating downgrade would lead lawmakers to seek an earlier compromise this year, this does not appear to be the case. Some Democratic lawmakers have indicated that they regret agreeing to extend the 2001/2003 tax cuts in their entirety in late 2010, and have implied they will oppose the next extension more strongly. Likewise, several Republican lawmakers have recently said that they regret agreeing to the Budget Control Act enacted in August to raise the debt limit. Now that the consequences of the sequester enacted as part of the BCA are coming into focus, members of both parties are likely to be wary of "triggers" meant to enforce whatever agreement that might be reached later this year.
  3. In certain scenarios, both parties perceive upside from allowing the fiscal cliff to hit. Senator Murray pointed out in her comments earlier this week that one political advantage of letting the tax cuts expire is that it would allow Congress to focus on debating how large of a "tax cut" should be enacted next year, since taxes would have already risen, rather than debating how large of a "tax increase" should be adopted. In a scenario in which Republican Presidential Candidate Mitt Romney were to win the presidential election and Republicans took a small majority in the Senate, Republican lawmakers may be inclined to let current fiscal policies lapse at least temporarily until the election results have taken effect in January.

 

For these reasons, it appears likely over the next few months that uncertainty regarding the outcome will persist and will probably increase. While there are only anecdotal reports of concern regarding the fiscal cliff weighing on investment decisions--the Fed's Beige Book, released this afternoon, included a few--over the next several months the risks around the year-end fiscal situation seem likely to weigh on public and market sentiment more heavily, particularly as the election nears and political rhetoric escalates.

Given these challenges, why do we think Congress will ultimately reach an agreement? Mainly because we do not believe that either political party will want to run the risk of imposing such a large amount of fiscal restraint, given the negative economic consequences that it would have. Beyond the economic reasons for wanting to avoid this, it simply is not clear who would be blamed for letting these policies lapse and we suspect that politicians in both parties will view the political risks--in addition to the economic risks--associated with letting the fiscal cliff take effect to be too great. Finally, most of these policies have been extended at least once before, and some have been extended several times. Since a short-term extension is possible and could be enacted explicitly as a means to reach a broader fiscal agreement in mid-2013, this would seem to be a less risky means of resolving the issue, while preserving whatever political advantages either party believes it has.

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Bicycle Repairman's picture

Taxes are going up.  A VAT tax is in the works, because it can get at wealth and black income.

lucidwanderer's picture

good call.  now we're going to get 9% fed vat on top of current income tax rape scenario and the healthcare reform tax.  if you add on my alimony payment I'll be living with my family on something like 30% of my gross income.

Azannoth's picture

WoW you get to keep 30%(with alimony nether less)! I live on 25% without here in Europe, few Kings ever darred to raise taxes above 30% on their serfs without an imminent rebellion, .. and we get to keep 30%(at best) that needed 'Democracy'(just a fancy name for Reforme'd Communism) to accomplish this

logicalman's picture

Politicians will do the right thing.....

But not until they've tried everything else first!

 

Careless Whisper's picture

Politicians do what they are told. This whole post is a smoke screen because Goldman tells politicians worldwide what to do.

john39's picture

and when everything blows up...  the puppet congress will be a great fall guy.  Perhaps we will even get an emperor appointed to save everything.  /s

The They's picture

The ESF tells Goldman what to do

Al Huxley's picture

Politicians might do the right thing, but only by accident, and because it coincidentally lined up with their own best interests.  BTW that won't be the case here.

Gimleteye's picture

Since Obama has erased welfare reform, everyon eshould apply immediately for ALL possible government beneifts. One of two things will happen:

1. All applicants will be accepted, all checks will be issued and the Ponzi will once and for all crash and burn allowing the reset

2. All offices will be overwhelmed with new applicants, paperwork, etc and the bureaudrones will collapse from the --gasp--work they have to do and the absuridity of the system will be laid bare.

 

Crash the system, the suspense is annoying.

Neo's picture

 

Crash the system, the suspense is annoying.

 

Thats a bumpersticker right there.

graneros's picture

You're assuming one will have a bumper to put it on.  Not much room for that on a Moped, bicycle or dog sled.

Jlmadyson's picture

They have a debt ceiling to deal with before they even reach this so called fiscal cliff. Let's see if they can even get beyond that first. A nasty fall-winter fast approaches.

Cognitive Dissonance's picture

All my life I've wanted to be a debt slave. Now I'm finally gonna be one even though I have no debt.

<sigh>

I love America!

/sarc

mrktwtch2's picture

zzzz..oh excuse me i dozed off there..how bout some market moving infromation??

viahj's picture

move your own markets, GS does

Hype Alert's picture

“The fact that we are here today to debate raising America’s debt limit is a sign of leadership failure,” he said. “It is a sign that the U.S. Government can’t pay its own bills. It is a sign that we now depend on ongoing financial assistance from foreign countries to finance our Government’s reckless fiscal policies. … Leadership means that ‘the buck stops here.’ Instead, Washington is shifting the burden of bad choices today onto the backs of our children and grandchildren. America has a debt and a failure of leadership. Americans deserve better. I therefore intend to oppose the effort to increase America’s debt limit.” 

Obama, 2006

Maybe we just need to create a Super Commitee and put this thing off a while?

j8h9's picture

Slash the Defense Budget!

Sofa King Confused's picture

Slash the Congressional Budget.

 

CrashisOptimistic's picture

Already been done.

Have a look at the numbers.  You could set DoD to ZERO, give Defense zero, and all those folks working at Lockheed, and Boeing as well as the troops themselves, are out of work and stop playing taxes.

You would get almost no deficit improvement.

blunderdog's picture

DoD spending is only a fraction of "the defense budget," if you want to be technical.

boogiedown's picture

Offense Budget -- fixed it fer ya

marathonman's picture

Demagoguery?  Sophistry?  Lies?  Barack Hussein Obama's ability to lie even puts Slick Willy to shame.

graneros's picture

Obama really puts that old saw "talk is cheap" into a whole new perspective doesn't he?

Everybodys All American's picture

But first make sure you send the president a birthday gift?

Al Huxley's picture

I'm surprised that so many people (eg GS clients) would continue to buy into this whole 'the fiscal cliff is threatening and Congress must do something about it' fairytale.  All that's going to happen, after all the theatrics, is that the debt ceiling will be raised again.  Oh yes, and the legislation will be changed accordingly, to make that ok.  'Tough spending cut decisions'?  Give me a fucking break.

Rainman's picture

agree....when push comes to shove, they'll choose the Japanese non-solution over and over again....debt to infinity and beyond. 

centerline's picture

We all have to remember the playbook here and not get too caught up in the daily grind.  The FED is between a rock and a hard place.  Maybe somewhat unexpected.  But, I doubt it.  The next move has to be a shift from push to pull.  It needs to be the politicians that grab the QE3 lever.  But, they aren't that stupid either.  So, down the line is the public and the welfare state.  J6P is going to have to grab the lever.  MSM, along with some deflationary pain, will help convince him this is necessary.  Just read the headlines today - and notice how times have changed over the last 1-2 years.  My my.

Financial crisis = sovereign crisis = political crisis = public crisis = currency crisis.  Any questions anyone?

marathonman's picture

There is no means of avoiding the final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as a result of a voluntary abandonment of further credit expansion or later as a final and total catastrophe of the currency system involved.  Ludwig Von Mises.  You're right, they will inflate until they have lost all credibility with paper dollars and the muppets start fertilizing the Tree of Liberty.

graneros's picture

Ding ding absolutely +1 for "GS clients" though I think you meant AKA not eg.  Which brings us to a cool line in the movie "Get Shorty," when Ray 'Bones' says to Chili Palmer, "ie, eg, fuck you just never hand me a book with a miss in it."

Dr. Engali's picture

Another non -event that will get "solved" like all other "crisis". Some political theater on the talk shows and a back room deal behind the scenes. Shit they probably have the deal worked out already but they want to look good on tv in front of their sheeple.

Cognitive Dissonance's picture

I tend to agree. "They" only talk about the problems they intend to "fix"........and I use the term "fix" very loosely.

It's what they don't talk about that frightens even them.

roadhazard's picture

All politicians in Washington should be tried for Treason. I am serious.

My Representative quit (not running) about four months ago. Now two run to take his place. You can tell by looking at them that they will be, yes men.

Al Huxley's picture

You can tell they'll be yes men because they're running.  Honestly, the most accurate way to predict the actions of politicians in any circumstance is to approach the situation with the maximum amount of cynicism you can muster, think carefully about the situation and try to determine what will be of absolute maximum benefit to the politician in question, and then that gives you your prediction as to what will happen.   It's also a good idea to always take into consideration the fact that a good chunk of the benefit to a politician will come to him/her as a result of pleasing his owners, so its always a good idea to consider the impact on financial institutions and other large corporate govt owners, and assume that the politician in question will be seeking to make his/her owners as happy as possible, in anticipation of some nice treats as reward for good behaviour.

Nobody For President's picture

Al, if you're not careful, you are gonna become a real cynic in your old age.

bankruptcylawyer's picture

goldman is simply talking its book. the second the debt ciebling is not raised GS, JPM and others are all out of business withing weeks a la 2008. 

the implicit undertone to their 'reports' is that the ciebling will be raised to allow for more debt to feed the ponzi, and don't you worry. they hire suiciders just in case any congressmen start being uncooperative.

LMAOLORI's picture

 

I want to go over the Fiscal Cliff I'm sick of this nonsense get real we are already bankrupt anyway and I know we will collapse irregardless the only question really is when?  So let's get it over with now then we can have a do over maybe even a divorce and we can divide up the place, The U.S. could be split evenly Commies aka Dems can have 1/3, Conservatives can have a 1/3 and Libertarians 1/3.

Nobody For President's picture

And all those that refuse to be labeled by others' prejudices get 1/3. Those that understand math get nothin'.

Little John's picture

I don’t give any more of a Damn about the US guv’s financial woes than they do about mine.  Texas will strike out on it’s on in the nation state business with sound money, honest laws, and a mercantilist economic orientation as the product line.  In short order we will become the Singapore of North America.  Then we will be able buy the Space Shuttle that went to LA for about 10 oz’s of gold and a couple of truck loads of pinto beans - or we might just go take it, depends on how we are felling at the time.

 

qussl3's picture

If having negative interest rates for a decade plus, and a third of your income gated by the state pension fund, where it is now automatically swept into a state administered aunnity upone retirement is your thing.

Go right ahead.

prodigious_idea's picture

Easy there cowboy.  That taking things from each other might be reciprocal in the case of oil.

Lednbrass's picture

If that were to happen they would get alot of company in very short order I think, 6-10 states would sign up to go along for the ride.

PulpCutter's picture

I think I speak for all of us (the other 44-40 states) in saying "don't let the door hit you in the ass on the way out".

Lednbrass's picture

It would certainly make everyone happier.

PulpCutter's picture

Singapore has one of the world's highest-achieving public education systems.

Texas is #49 in verbal SAT scores in the nation (493) and #46 in average math SAT scores (502). Texas also has the highest % of employees on minimum wage, and lowest % with health insurance. 

Can Texas compete with Mexico or Vietnam for the shit jobs?  Sure.  Can Texas compete with Singapore?  Keep dreaming.

Hohum's picture

And yet Texas is a net oil importer.

Panafrican Funktron Robot's picture

Food and water are other problems with Texas surviving on it's own.

bankruptcylawyer's picture

singapore and texas. couldn't think of 2 more opposite cultures , peoples, government, geographies, hemispheres. 

 

if youre trying to imply you'll have a state that is just as productive as singapore. sure sure why not. who knows what kinds of positive outcomes would result from texan secession. 

i have a better idea. instead of seceding, texas has the legal right to break up into 5 states with 10 senators. why not do that? instead of seceding, why not break up and take over the fed with 8 more senators. a block of 10 senators working togeher could accomplish quite a bit. 

zeev

tarsubil's picture

Look at the FYs "quantified" in that first figure. To think about the amount of work that went into getting these numbers. Chicken entrails are just as informative and useful but they are a heck of a lot cheaper. All we want is life beyond the Thunderdome.

JR's picture

This controlled actor’s performance should not be misinterpreted as a professor’s honest effort to solve problems.

Bernanke is following script. The cartel's plan has long been to use a mountainous load of U.S. debt to steamroll a beleaguered American people into accepting the international-banker-solution of world government.

Bernanke is printing America into a monetary crisis cum national bankruptcy to trigger the Trilateralists’ goal of a single world monetary system.

“The Trilateral Commission’s most immediate concern is the creation of a new world monetary system to replace gold and the dollar as the international exchange with a new currency.” – Jeremiah Novak, 1977, Atlantic Magazine