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Fiscal Cliff Diving

The deficit showdown ahead.

Nov 26, 2012, Vol. 18, No. 11 • By JOHN MCCORMACK
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Under current law, the U.S. economy will tumble over the so-called fiscal cliff at the start of the new year, when roughly $500 billion in across-the- board tax hikes and $100 billion in spending cuts are scheduled to take effect. Numerous economists predict the automatic tax increases, the result of expiring Bush tax cuts and other tax laws, will cause another recession. Pentagon officials say the spending cuts, part of the 2011 debt ceiling deal, will “hollow out” the military.

The Fiscal Cliff ahead

Gary Locke

President Obama and congressional leaders declare they’re committed to striking a deal to avert a fiscal fall. But Obama also says he wants to raise income tax rates on individuals and small businesses making more than $250,000, and Republicans say that’s a deal-breaker.

“A tax rate increase should be completely off the table,” insists Pennsylvania Republican senator Pat Toomey. “There is no need for that. It is economically destructive to do that.” According to the Congressional Budget Office, letting the top tax rate rise from 35 percent to 39.6 percent would mean 200,000 fewer jobs. Another study, conducted by Ernst & Young for pro-business groups, says it would cost 700,000 jobs.

Republican leaders are willing to compromise on tax revenue by limiting tax deductions. For example, capping deductions at $50,000 would yield $749 billion in tax revenue over 10 years, about the same amount as letting the Bush tax rates expire for high earners, according to the Tax Policy Center. Republicans also believe that any deficit deal must include structural entitlement reform. “In six weeks, you can’t do a complete transformation of entitlement programs, which is what we really need, but you could make changes that are conceptually simple and legislatively very doable that would result in substantial savings over time,” says Toomey.

Although Republicans and Obama publicly disagree about tax reform, sources say that at a November 16 White House meeting with congressional Republicans, the president privately accepted a broad entitlement and tax reform framework that would lower tax rates while eliminating and reducing some tax deductions.

“They discussed a down payment of sorts and then setting up tax and entitlement reform next year,” reports a source familiar with the talks. Obama “agreed to a tax reform structure that would lower rates and broaden the base. He also agreed that structural entitlement reform would have to be part of any agreement.”

“I don’t think anyone left the White House thinking we’re heading over the cliff,” another source familiar with the meeting says. “That’s not to say we won’t. We might trip off the cliff unintentionally.”

What reason is there to think that President Obama will actually compromise with Republicans on taxes and entitlements? Obama just won reelection, and congressional Democrats, who picked up seats in the House and Senate, are opposed to entitlement reform. Senate majority leader Harry “Reid and others have spoken out that they are not going to touch any of the entitlements, so I think that that gives you some indi- cation of the likelihood of something like that happening,” House minority leader Nancy Pelosi said at a November 15 press conference.

Some Democrats, like Washington senator Patty Murray, are openly calling for heading over the January cliff, at which point they’ll be able to beat down the opposition. “We will reach a point at the end of this year where all the tax cuts expire, and we will start over next year and whatever we do will be a tax cut for whatever package we put together. That may be the way to get past this,” Murray said on ABC’s This Week. Other Democrats, such as Howard Dean, say they’re more than happy with going over the cliff, not as a negotiating strategy, but because they prefer a policy of massive tax hikes and defense cuts—recession and all—to reforming entitlement programs.

But Republicans on Capitol Hill say it wouldn’t be to Obama’s advantage to push the GOP to the brink and the country over the cliff. In addition to the real pain another recession would inflict, “it’s not in the president’s interest to make the lame duck toxic,” says a House Republican aide. “If he wants to have a successful second term, if he wants to try to get anything done on other priorities, including immigration . . . it’s in his own interest to have a productive lame duck [ses- sion] where we come to a reasonable compromise on this issue.”

“He’s got every reason to strike a deal,” says James Capretta of the Ethics and Public Policy Center. “He’d go down as a hero if he were the guyto solve our budget problems and put us on a sustainable path.”

Whether Obama really wants to reform entitlements and the tax code—and whether he’s capable of bringing along enough congressional Democrats to do so—is anyone’s guess. A deal right now is only in its earliest stages, and could fall apart for

any number of reasons. It’s always possible that Obama will pull the rug out from underneath Boehner’s feet, as he did during the 2011 negotiations for a “grand bargain.”

And a revolt on the right is always possible. But even some of the staunchest conservatives recognize the reality that the expiration of the tax cuts January 1 puts them in a very difficult position. They seem resigned to a less than ideal outcome.

“It’s not hopeful from our stand- point,” says former congressman Chris Chocola, president of the conservative Club for Growth. “A difficult thing for some Republicans to resist would be a new bracket on whatever the level is, millionaires, $500,000, whatever it is.”

“Even though I may not vote for whatever the deal is, I think there will be enough votes in the conference to keep [Boehner] on solid ground,” says Rep. Tim Scott of South Carolina, a member of the House leadership team. “What we have to do is see what the deal is first.” 

John McCormack is a staff writer at THE WEEKLY STANDARD. 

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