The “Fiscal Cliff” looms ever larger…

3 mins. to read

At one second past 5 a.m. on Tuesday 1 January 2013, almost all of you will be tucked up in a warm bed, perhaps recovering from the New Year celebrations a few hours before; no doubt pleased that you won’t have to go to work when you wake up, this being a Bank Holiday.

While you’re sleeping, it will be one second past midnight in New York. If you’re an American resident, chances are that you won’t be able to concentrate much on the New Year festivities. Chances are that the media will be full of foreboding. Because at 1 second past midnight Eastern Standard Time, America plunges over the so-called “fiscal cliff”. 

It’s now just 117 days away… 

We first warned you about the fiscal cliff a few issues ago. Since then, we’ve done a lot more research on it. And as we’ve dug deeper, so we’ve become more and more alarmed.

One of the reasons we’re alarmed is because so many of America’s leaders, as well as international organisations, are alarmed as well, and are saying so loud and clear. These people and organisations include Federal Reserve chairman Ben Bernanke (he coined the expression “fiscal cliff”); the IMF; investment bank JPMorgan; former Treasury secretary Robert Rubin; Charles Goyette (author of several best-selling books on the state of the US economy); influential Congressman Ron Paul; former Congressman Barry Goldwater and many others.

What are all these people saying? They’re warning that the fallout from the fiscal cliff could be worse than the fallout from the 2007 sub-prime crisis and banking collapse.

To understand why, we need to remind you again what happened last summer. 

You may recall that there was an urgent requirement to raise America’s debt ceiling – the total amount the federal government is allowed to borrow – otherwise a big chunk of government would have to shut down. Like spoilt children, the Republicans and Democrats dug their heels in and refused to compromise, even though credit ratings agency Standard & Poor’s warned that America was in danger of losing its triple-A credit rating for the first time in its history.

Finally, at the eleventh minute of the eleventh hour, a crude compromise was cobbled together. President Obama signed into law the Budget Control Act 2011, just one day before the federal government ran out of money.  S&P subsequently carried out its downgrade threat.

The Act is complex, but these are the important bits:

  • The debt ceiling was raised by enough to prevent the government defaulting until around early 2013.
  • A Joint Select Committee (otherwise known as the “supercommittee”) was appointed to come up with legislation that would slash the deficit by $1.2 trillion over 10 years.
  • In the event that the supercommittee was unable to agree (which was exactly what happened), swingeing expenditure cuts and tax rises would take effect automatically at midnight on 1 January.

So what exactly will happen on 1 January if Congress doesn’t act? Some very nasty things indeed.

  • There will be automatic mandatory annual cuts in defence ($54.7 billion); Health and Human Services ($38.6 billion) and Medicare and other entitlements ($16.2 billion). Total: $109.5 billion a year every year for the next 9 years. THE EFFECT: Another 2 million Americans out of work. 
  • “Taxmageddon”, as the Washington Post has dubbed it. A massive increase in personal taxes on income,  capital gains and dividends. According to the non-partisan Tax Policy Center, 96% of all middle-income earners will see their tax rise by a whopping $1,800 a year. Imagine what that will do to the housing market, where nearly one third of all home mortgage holders are in negative equity! THE EFFECT: Consumer spending will plummet.

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