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News from EPI New EPI report finds that some components of “fiscal cliff” should expire

For Immediate Release: Tuesday, September 18, 2012
Contact: Phoebe Silag or Donte Donald, 202-775-8810

New EPI report finds that some components of “fiscal cliff” should expire

The “fiscal cliff” is not one piece of take-it-or-leave-it legislation. Congress can and should make à-la-carte decisions about which tax increases and spending cuts should be prevented from taking effect at the end of 2012 and which ones should be allowed to phase out (and perhaps be replaced by fiscal support that would more efficiently support economic recovery and jobs in the near term). In A fiscal obstacle course, not a cliff: Economic impacts of expiring tax cuts and impending spending cuts, and policy recommendations, EPI Research and Policy Director Josh Bivens and EPI/The Century Foundation Federal Budget Policy Analyst Andrew Fieldhouse examine each component of the fiscal cliff and assess its impact on economic recovery.

While much attention has been paid to the role of the Bush tax cuts in the fiscal cliff, less-discussed policy changes would have far greater impacts on near-term economic recovery. For example, allowing the ad hoc fiscal stimulus passed in recent years (i.e. emergency unemployment benefits, the payroll tax cut and expansions of refundable tax credits) to expire would slow real GDP growth by 1.4 percentage points and lower nonfarm payroll employment by over 1.6 million jobs by the end of 2013.

However, letting the upper-income Bush-era tax cuts and estate and gift tax cuts expire poses negligible harm to the near-term economic outlook, and expiration of both would produce substantial savings of $1.3 trillion over the coming decade. Extending just the upper-income Bush tax cuts would boost GDP growth by 0.1 percentage points, increasing nonfarm payroll employment in 2013 by only 102,000 jobs—less than one-tenth the impact of continuing the temporary ad hoc stimulus measures.

Spending cuts impose some of the largest drags on economic growth. For example, allowing the spending cuts scheduled under the 2011 debt ceiling deal to fully take effect would also slow GDP growth and lower employment; the authors estimate the expiration of the spending cuts could shave 1.1 percentage points from GDP growth and reduce employment by more than 1.4 million jobs by the end of 2013, relative to prior law.

“While much of the ‘fiscal cliff’ discourse is focused on the pending sequestration cuts, over a third of this economic drag from the debt ceiling deal comes from discretionary spending caps already in effect and being ratcheted up,” said Fieldhouse. “This and other sizeable fiscal headwinds, notably expiring stimulus, are entirely missing from the discussion, to the detriment of sound policy and growth.”

The authors agree with the forecast by the Congressional Budget Office that if all the tax increases and spending cuts scheduled to kick in at the end of 2012 actually do so, the U.S. economy would reenter a recession.

Bivens and Fieldhouse suggest a sensible policy response to the looming fiscal cliff. They favor:

  • Repealing the automatic sequestration spending-cut mechanism, the provision of last summer’s debt ceiling deal that will require $972 billion in spending cuts over fiscal 2013-2021 (roughly split between defense spending and non-exempt domestic programs), as well as the discretionary spending caps.
  • Enhancing the temporary fiscal stimulus provisions already in place to not only avoid an economic drag in the near future, but to also boost economic growth. The Emergency Unemployment Compensation program, which was scaled down by the Tax Relief Act of 2012 to provide a maximum of 73 weeks of unemployment insurance, should be restored to providing a maximum of 99 weeks—unemployment insurance is the highest “bang-per-buck” form of economic stimulus at issue.
  • Using well-targeted fiscal stimulus to more than offset the small economic drag that would be exerted by expiration of the upper-income Bush-era tax cuts. Cost-effective fiscal support—such as infrastructure spending, aid to state governments, and safety net spending—offers more than four times the “bang-per-buck” of the Bush-era tax cuts.

“Too much of the rhetoric about the fiscal cliff suggests that it’s an all-or-nothing proposition,” said Bivens. “This is very convenient for those wanting to extend tax cuts for the well-off, but we could actually let those expire and see very little drag on economic recovery.”