Fiscal Cliff Deal Not a Total Failure, Debt Ceiling Negotiations Loom

The Fiscal Cliff debacle is over, thank goodness. Unfortunately, taxes went up on everyone with earned income and doubly so on the top 0.7%. This is because the Social Security portion of the FICA tax, a flat tax on individuals’ first $113,700 was increased by from 4.2% to 6.2%. In theory, FICA funds Social Security and Medicare. In addition, the marginal income tax for income earned over $400,000 (for individuals) jumps all the way to 39.6% from 35%. Explained below…

That being said, the fiscal cliff deal is not a complete flop for the nation’s income statement or its citizens. Here’s why. While the increase in taxes won’t do much to help revenue (depending on where you believe we currently lie along the Laffer Curve), the automatic sequestration cuts weren’t stopped, they were just delayed until March (the two month delay cost $24 billion).

… [the fiscal cliff deal] cuts spending by about $900 billion over ten years — as all but $332 billion of the $1.2 trillion in scheduled sequester cuts are still set to kick in.  (Of course, 10-year projections and $1.85 will get you a cup of coffee at Starbucks.)  So, by this measure, the deal involves about a 3-to-2 ratio of spending cuts to tax hikes.

While Democrats had the upper hand in the Fiscal Cliff debate, Republicans should have the upper hand in the debt ceiling negotiations. This is because Democrats will be fearful of automatic spending cuts and a potential shutdown the government (though Republicans fear the spending cuts to National Defense).

Consider this… Which party do you think was more fearful of a large increase in income tax rates? The GOP of course, and that’s why they had more to lose in the fiscal cliff debate. Conversely, who do you think is more fearful of a government  shutdown and missed payments to government programs such as unemployment insurance? Most would say the Democrats. So you can see why the Republicans will have so much more leverage when the debt ceiling debate invariably gets nasty.

With that in mind, Republicans need to use their leverage to make meaningful entitlement cuts. Social Security and Medicare are the largest and third largest outlays for the federal government, respectively. Any politician who is unwilling to touch them, is not serious about fixing our budget deficit. A place to start may be slowing inflation adjustment for Social Security and increasing the minimum age for Medicare. This absolutely shouldn’t be a clashing point between parties. Unfortunately, it probably will be, as Mrs. Pelosi has already said she wants more tax hikes, likely in lieu of serious spending cuts. Republicans almost surely won’t make that trade, and President Obama says he will not negotiate at all. It’s hard to understand… There will be another clash in Congress this March, and their approval ratings will have to find something worse than root canals and lice to be less popular than.

“That’s funny, I don’t care who you are!”

What’s the solution? Leave your thoughts in the comments below.

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6 thoughts on “Fiscal Cliff Deal Not a Total Failure, Debt Ceiling Negotiations Loom

  1. This is why I need you to always read my posts. I did some research and it was something Obama insisted on as part of the deal to extend the original Bush tax cuts, that’s where I got crossed. I wasn’t a full-time employee paying FICA when we worked together. I sent it off to a CPA who did it. I’ve made the edit to the blog post. Turns out I’m going to pay $1,000 more this year in taxes because of it’s expiration. It’s a flat tax though, so it’s not as stimulative to slash it.

  2. Aw, c’mon. When you thought it was Bush’s tax cut, you were proud to point it out, but now that it was Obama you don’t think anyone needs to get credit. Hmmm.

    As I mentioned on Facebook, I think you should interview people who rely on unemployment or medicare to see how this easy change you recommend would affect them. We are talking about people’s lives. And I think the Republicans should be more concerned about payments not getting made. If they don’t get made, I think voters will blame the Republicans and take it out on them more in 2014.

    But not to worry. I have the answer that will solve everything and I think would be acceptable to all political parties because I have turned into an expert economist (ha ha). I believe Ben Stein said (I can’t find the quote) “in times of high unemployment we should run a deficit and in times of low unemployment we should run a surplus”. When Bush 2 took office, we had a surplus and Bush said taxpayers are paying too much money and helped push through his tax cuts. At the time I agreed, but looking back I think it was a bad idea. A gov’t having a surplus seemed like a bad thing, but the economy was fine and we didn’t really need those cuts and we could have used the surplus to pay down national debts, which Gore planned on paying off all public debt by 2012. I think that shows the real problem of short term vision that I will resolve with what I call “Snapshot vs Formula”. Bush addressed the economy as it stood that day and it was great for a couple of years. Everyone wants to fix the economic issues as they stand today (the snapshot). But even if you come up with what the tax rates should be, who should pay them, what entitlements should be paid and you can get most people to agree it is a good solution, it won’t be a good solution in a couple of years or five years or ten years. Things will change and we’ll have to argue over what has to change all over again. So the answer should be a formula where all these values change every year based on economic data for the previous year. For example, we could say that if the unemployment rate goes up, then taxes go up and the increase for the “richer” will be more than for the middle class. This would encourage companies, larger companies in particular, to find ways to hire people to help bring down their tax rates. It also means that when unemployment goes down, the rich could get a larger tax cut than the middle class. And the lower the unemployment rate, the shorter the time that someone can receive unemployment benefits. We could tie in the deficit and debt to this formula and probably even the poverty rate. I don’t know all the indicators that would need to be involved or what the numbers should be, but we want to make sure gov’t doesn’t just take money from some to give to others when it is not necessary or that we do something like eliminate minimum wage so that companies create sweat shops just to get the unemployment rate down. And on top of all that, tie congress’ pay to the indicators as well. When unemployment is 10%, congress does not need to make $170K+ because they are obviously not doing their job and they don’t have enough incentive to make changes.

    So don’t just fix the problem as it exists today, design something that changes over time with the changes that will come to the economy. There will be automatic tax hikes and automatic tax cuts. This idea would mean that everyone should always have a better economy in mind and everyone from rich to poor should be working toward the same goal.

    I also think we need to remove the attachment of health care/insurance to businesses. Businesses should not have to be burdened with dealing with healthcare plans. I think it should be a single payer plan that removes expensive business costs and insurance company overhead costs. But that is another conversation.


    • I won’t comment on the healthcare commentary aside to agree that businesses shouldn’t be burdened with handling that. It just comes out of people’s salary anyway.

      I think you meant to say (or at least I would suggest) that taxes go up when the unemployment rate is very low. To your point at large, it’s not ridiculous, but it has two problems. A) It assumed the federal government wouldn’t abuse this problem and that they would take the money in good times and spend it on military and infrastructure job creating type bills and then slash that spending when things slow down. B) It also assumes a role a role in the economy that the federal government should play.

      I would point to the Laffer Curve and suggest that we should always be on the left up-slope of that curve, always taxing just a bit less than the amount which would maximize revenue. If less money is needed over a long period of time, it can be lowered more, but taxing for “fairness” or to re-balance the economy is inherently wrong.

      Overall, though, if I trusted the government or got to design such a taxation program myself, I would be on board. I think I’d need a constitutional amendment capping income tax at 40% for the highest marginal rate and 30% for the highest effective rate of all federal fees combined (capital gains, income, FICA, etc.)

      • I said what I meant and here is my thinking. If unemployment is low, then more people are paying taxes so we shouldn’t need as much from everyone. If unemployment is high, then more people will be on unemployment benefits and since less people are paying in, we need to raise more from those who are paying. Plus it is an incentive for companies to hire people rather than sitting on cash (if they can). If it was the other way around then they would fire people hoping to get their taxes lowered. Heck, a company like Wal-mart could almost single handedly bring down everyone’s tax rates by hiring thousands of people. A bit exaggerated, but shows that large companies with tons of money could help out when the economy is suffering. It forces the companies to come up with ways to stimulate the economy.

        And to your point (b) above, doesn’t the gov’t already and always play a role in the economy? Why do conservatives say lower taxes because it will stimulate the economy?

        You bring up the “fairness” question and maybe I’ve asked this before, but is it fair that Romney and Buffet only pay around 16% when most middle class are paying twice that? Our current system is unfair.

    • Hey, reading this years later and the fluctuating tax concept makes some sense. Would probably have fluctuating margins based on income quartiles too. Interesting!

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