It is not yet quite certain, but with the recent turmoil in Washington, it seems almost inevitable that there will not be an agreement in time to avoid the fiscal cliff.
In my earlier short post on this topic, a commenter asked:
Why are Republicans considered to be digging in their heels on taxes (which is true), but nobody talks about the Democrats digging in their heels on spending?
I want to say a little on that topic.
Why do the Bush tax cuts expire?
Contrary to what some might suspect, this is not due to a diabolical plan that Democrats managed to get through congress. The expiration of the Bush tax cuts was part of the Bush era legislation that gave us those tax cuts. It was part of the legislation, because the Republican’s could not find any other way to avoid bankrupting the economy. That is to say, they were unable to make up the cost of the tax cut in lost revenue.
What about cutting expenditures?
Presumably, the original Republican plan was to cut expenditures, so that the tax cuts could then be made permanent. The Bush administration had 8 years in office, in which they could try to cut the size of government in a way that would allow those tax cuts to be permanent. They failed. They not only failed to reduce the size of government — they actually increased the size of government.
It is unrealistic for Republicans to demand that Democrats cut the size of government in ways that the Republicans themselves were unable to achieve.
The advantages of going off the cliff
By going off the cliff, taxes automatically revert to what they were before the Bush tax cuts. That sets a new baseline. Negotiations between the parties can then begin anew. And instead of debating tax increases, they will be debating tax cuts from that new baseline. It is hard to say whether a compromise can be reached, but it should be easier to achieve one when starting with that new baseline.
What about spending?
There are spending cuts that will result from going off the cliff. Cuts have not been ignored, in spite of the Republican criticisms.
The military budget
Perhaps the biggest spending cut is for the military. Arguably, this cuts too much, too fast. Yet, on the positive side, it also establishes a new baseline.
Like it or not, we need to reduce the size of the military. Our economy cannot sustain what it has been costing us. However, the military budget is something of a sacred cow. It has been politically very hard to cut back on the military budget.
With a new baseline established, there will be efforts to restore part of what was cut. This will actually amount to increasing the military budget over the new baseline. Again, it should be easier to reach compromise on such increases than it would have been to agree on cuts.
I doubt that the cliff will be the catastrophe that some have suggested. If the politicians can work on a compromise, starting with the new baseline established by the cliff, we could finish up with something that works reasonably well.
Compromise won’t be easy, of course. Expect lots of smoke and mirrors.