The Fiscal Cliff

27 Nov, 2012

Over the last 6 months, the term “fiscal cliff” has exploded in popularity; according to Google Trends, the phrase, coined by Goldman Sachs economist Alec Phillips and popularized by none other than the Fed’s Ben Bernanke, has increased in Google search volume at least tenfold since the end of October 2012 alone.

It is on the radio, in the headlines, around the dinner table and at the water cooler. So, you may ask: what is the fuss all about?

In simple terms, the fiscal cliff refers to the expiration of the Bush-era tax cuts and the implementation of various spending cuts come January 1st 2013. Without substantial legislative changes, these tax increases and spending cuts will create the economic version of the “perfect storm”; American citizens and corporations will be forced to pay more in taxes, and receive less in government benefits. Essentially, America will “fall over the cliff,” and the numbers aren’t pretty. According to the Congressional Budget Office, jobs will be shed to the tune of 3.4 million, GDP will contract by 4 percentage points, and Americans will see the largest tax increase in 60 years.

Americans will almost unquestionably be paying more taxes come next year, but how much more? This question, and the uncertainty it engenders, is one of the main causes of growing company cash piles and hiring freezes. The possibly disastrous situation is further complicated by the fact that bi-partisanship is not exactly America’s strong suit. Let us hearken back to Summer 2011—the White House and congressional leaders faced a pivotal deadline to either raise the debt ceiling, or default on the country’s debt obligations. The debates dragged on for weeks with no sign of compromise. Americans lost faith in their leaders to put their differences aside for the good of the economy. A deal was struck at the very last minute, but the pitiful display of political dysfunction came at a price; it cost the United States one of its prized triple-A debt ratings from Standard and Poor’s.

Wall Street, and Main Street for that matter, seems to have little faith left in their politicians. On the back of the most fiercely negative presidential campaign to date, a happy medium doesn’t seem all too likely. Democrats hope to raise taxes on the wealthy, while Republicans favour more towards spending and entitlement cuts.

Investors are looking for a true bi-partisan solution. The Bush-era tax cuts and stimulus measures have been propping up the post-2008 economy on the back of a protracted recovery. Many believe that if a solid deal is announced, the stock market will recover to recent highs. However, until financial markets and businesspeople can be sure that politicians will not simply “kick the can down the road” as they tend to do, growth will be somewhat stagnated, the stock market volatile, and the cash piles growing. Let us just hope that the political powers can learn to work together.

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