We have heard much in the news lately about the United States Federal Government’s “Fiscal Cliff”. I get a lot of questions about what it is, and what its impact will be if it happens.
In essence, the “Fiscal Cliff” is a set of automatic spending cuts and tax increases that will take place on 1 January 2013 if both houses of Congress and the White House cannot agree on a Federal budget (or a stop-gap temporary alternative deal). This means that nearly everyone in this country earning income will pay, at minimum, an additional 2% in payroll (FICA) taxes, and, for those earning enough to pay Federal income tax, somewhere around an additional 3% in income taxes, while at the same time, significant cuts to defense / military spending and entitlement spending go into effect, significantly curtailing government services.
At issue is the growing national debt, the growth of which is accelerated by fiscal deficits, which is of serious concern to many people. Nobody likes paying taxes, and so, with a few exceptions like Warren Buffett, most people prefer to see someone else pay more in taxes if anyone has to pay more at all.
Some argue that spending is the main problem, since they don’t like the programs that are costing money in the first place. So they suggest strenuously that raising taxes (or other alternative revenue-raising approaches) are off the table to try to fiscally force the termination of programs they find superfluous, worthless, questionable, or dangerous.
Others argue that it takes a certain amount of money, after all, for a government to do what it has to do, and that if you keep the programs that most people (most being defined by anything between 51% and 99% of the nation) want, there still isn’t enough money to go around. Not to mention the fact that costs for Social Security and Medicare are increasing faster than money is coming in through payroll taxes and other revenue streams. Therefore, they argue, that taxes for at least some people should go up to cover those costs.
Moreover, a lot of the same people argue that since the United States Government has a lot of cash (and even more credit), that the government, through spending additional money on projects that benefit the general population (at least most of them), can use its cash and credit to put people to work and inject money into the economy, known as stimulus. This will increase the whole economy’s capacity to employ people if the stimulus can be large enough and last long enough to give people the economic wherewithal to eventually be able to work without needing the government stimulus.
The problem is that this sounds, to many people, as if the government will continue to live beyond its means and never deal with its debts and deficits. More and more stimulus will be necessary to support a weak economy, which will cause taxes to go up, and so on, while most people don’t see a good return in services on their tax payments. They don’t believe the issue of indebtedness will never be resolved.
Everyone is stuck in a standoff.
So if the “Fiscal Cliff” happens, it is likely that enough money will quit flowing through the economy enough that the total amount of goods and services produced by the country (Gross Domestic Product, or GDP) in 2013 will be less than it is now, which, if it lasts more than six months, and involves several other correlated factors, is called a recession. Despite the spending cuts and tax increases that triggered it, this new theoretical recession would likely exacerbate government deficits (because most government revenues are linked to income, sales, and excise taxes), and require more borrowing to maintain even the increasingly limited government goods and services. This will have significant impact on businesses and organizations of all sizes.